Uncertainty effect on financial statement readability: evidence from India

Purpose This paper examines the effect of macro uncertainty (economic policy uncertainty (EPU), equity market volatility and oil price volatility) and financial stress on the readability of the Management Discussion and Analysis reports of Indian firms. Design/methodology/approach Using Indian firm-level panel data this paper examines the effect of Indian EPU, equity market volatility, oil price uncertainty and financial stress on listed firms' financial statement readability. Findings Our study reveals the fact that an increase in macro uncertainty leads to a decrease in financial statement readability. In contrast, an increase in financial stress is associated with an increase in readability. Managers make statements less readable during macro uncertainty to reduce the transmission of unfavourable news to investors (Incomplete revelation hypothesis), while increasing transparency during periods of high financial stress to gain investors' trust (Signalling theory). Furthermore, we find that the readability of financial statements decreases when a firm is under financial distress; however, readability increases due to the presence of foreign institutional investment and increased analyst coverage. Our results are robust to endogeneity concerns. Originality/value The novelty of this article lies in its analysis of various macro uncertainty and financial stress on the financial statement readability of the firms. The study compares the differential effect of uncertainty on firm-level communication, a topic that is scarcely studied.