Executive Summary
We introduce a cosine-based measure to proxy for year-over-year changes in companies’ 10-K MD&A disclosures. These disclosures do change more after larger operational changes (as intended by the SEC), but the magnitude of these changes and the stock market’s reaction to them declines over time. This decline may indicate a decrease in the usefulness of the MD&A for investors, coincident with the MD&A disclosures becoming longer and having more boilerplate over time.
Innovations
We introduce a novel way of measuring changes in companies’ narrative disclosures. We are one of the first to address MD&A quality issues raised by the SEC.
Abstract
The Securities and Exchange Commission (SEC) has expressed concern about the informativeness of firms’ Management Discussion and Analysis (MD&A) disclosure. A firm’s MD&A is potentially uninformative if it does not change appreciably from the previous year after significant economic changes at the firm. We introduce a measure for narrative disclosure—the degree to which the MD&A differs from the previous disclosure—and provide three findings on the usefulness of MD&A disclosure. First, firms with larger recent economic changes modify the MD&A more than those with smaller economic changes. Second, the magnitude of stock price responses to 10-K filings is positively associated with the MD&A modification score, but analyst earnings forecast revisions are unassociated with the score, suggesting that investors—but not analysts—use MD&A information. Finally, MD&A modification scores have declined in the past decade even as MD&A disclosures have become longer; the price reaction to MD&A modification scores has also weakened, suggesting a decline in MD&A usefulness.
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Citation
Brown, S. V. and J. Tucker. 2011. Large-Sample Evidence on Firms’ Year-Over-Year MD&A Modifications. Journal of Accounting Research. 49 (2): 309-346.