Annual report readability and trade credit

Abstract

Purpose The purpose of this study is to examine the influence of the readability of annual reports on firms’ ability to obtain trade credit from suppliers. Particularly, the authors conjecture that annual report readability helps firms obtain more trade credit from suppliers. Design/methodology/approach The authors use the Gunning Fog Index as the primary measure of annual report readability and the ratio of accounts payable to the book value of total assets as the measure of trade credit. Findings Results from the study of 4,754 firms during the 2004–2016 period indicate that suppliers extend more trade credit to firms with more readable financial reports. The authors’ results are robust to alternative measures of trade credit and annual report readability. The authors’ results remain robust when we control for firm fixed effects and potential endogeneity problems using the instrumental variable approach. A further test shows that the level of trade credit is higher for firms in business service industries, and that this relation is weakened when firms disclose less readable 10-K filings. Originality/value The authors’ findings provide new insight into the role of financial report readability in firms’ ability to obtain trade financing from suppliers. The authors’ results are also in line with the SEC’s encouragement that firms use plain English and easy language in financial reporting.

Does Risk Disclosure Matter for Trade Credit?

“…Consequently, trade creditors are likely to react louder than banks to voluntary disclosure since they do not ask usually for private information from their customers to keep their trust relationship. In the same vein, the results of Xu et al (2020) indicate that firms with more readable annual reports are likely to benefit from more trade credit.…”

“…No study has investigated this issue, to the best of the authors' knowledge. Recently, few researchers start investigating the association between trade credit and disclosure in general and particularly annual report readability (Xu et al 2020) or voluntary disclosure (Ceustermans et al 2017). For instance, Ceustermans et al (2017) found that voluntary disclosure is positively related to the level of trade credit for small and private companies.…”

“…Debt financing and trade credit used to be the two main sources of financing. Nevertheless, the first refers to loans provided by financial institutions and the latter refers to loans provided by suppliers for a short period when firms purchase their products (Xu et al 2020). Researchers believe that using trade credit may help firms to access bank loans since it is considered a good signal (Andrieu et al 2017).…”

“…Researchers believe that using trade credit may help firms to access bank loans since it is considered a good signal (Andrieu et al 2017). Moreover, firms are likely to use trade credit rather than bank credit during a tight money period (Xu et al 2020). In this context, in Tunisia, the Arab spring undoubtedly mitigates bank credit availability for Tunisian firms.…”

“…Although the important role of trade credit as one of the most important sources of the short-term financing, the association between corporate risk disclosure and trade credit remains largely unexplored. Recently, there are only a few researchers, such as (Xu et al 2020) and Ceustermans et al (2017) that have started to examine, respectively, the impact of the readability of annual reports on trade credit; and the impact of corporate voluntary disclosure on trade credit for small private firms.…”