Signalling theory and voluntary disclosure to the financial market.

Evidence from the profitability indicators published in the annual report

Laura Bini
Francesco Dainelli
Francesco Giunta
Department of Business Administration, School of Economics, University of Florence

Paper presented at the 34th EAA Annual Congress,

Rome, 20-22 April, 2011

Abstract
Signalling theory posits that the most profitable companies provide the market with more and
better information. The research, however, reveals disaccording results.
Because the general disclosure level depends on many factors, our paper centres on a focal
point of the signal that companies send to the financial market: the profitability indicators. As
several studies have shown the strong relevance of this type of data, the hypothesis is that the
most profitable companies should disclose more profitability indicators.
A sample of UK and Italian firms has been selected to verify if signalling policies are adopted
in two very different cultural, economic, and legal contexts.
After controlling for size, risk, industry, and country, our results support our hypothesis. We
conclude that the market is capable of controlling the production and use of information,
concentrating it on the focal points of the agency relationship. Moreover, our results seem to
dismiss the relevance of the European Directive 51/2003, which generally requires the
company to communicate performance indicators. In fact, the most profitable companies
communicate such data independent of any legal requirement. Less profitable companies, on
the other hand, might be induced to massage their disclosure, presenting useless or doctored
ratios.
Keywords: signalling theory, voluntary disclosure, profitability indicators

Electronic copy available at: http://ssrn.com/abstract=1930177

INDEX

1. Introduction 2. Literature review and research hypothesis 3. Dataset 4 Variables and

method 5. Results 6. Sensitivity analysis 7. Conclusions References

1. Introduction
Financial markets are based on contractual relationships that occur under conflicting
conditions where, if one market player benefits, another loses. Contractual relationships
reflect economic decisions which, when approached rationally are based on the quality, the
reliability, and the timeliness of information related to the contract (Grossman and Stiglitz,
1980; Rasmunen, 1987; Laffont, 1989).
In the financial market, there are some players who have both more and better quality
information than other players. As a consequence, the best informed players are able to make
economic decisions which allow them to tease out, from the contractual relationships, greater
benefits than the other players (Grossman and Stiglitz, 1980; Rasmunen, 1987; Laffont,
1989). Contracts entered into when the players do not all possess the same information might
result in capital misallocation. In this way, profitable companies may have more problems
with fund raising or pay a higher cost of capital than less profitable companies (Knight, 1957;
Rothschild, 1976; Radner, 1982; Laffont, 1989). In a market where contracts are constantly
being entered into and renewed, according to signalling theory, lenders and investors
(principals) require companies who are seeking for capital (agents) to provide information
about their performance (Holden and Subrahmanyan, 1992). The management, therefore, is
naturally induced to send signals to the market (Healy and Palepu, 2001; Verrecchia, 2001).
Signalling theory goes so far as to posit that the most profitable companies signal their
competitive strength by communicating more and better information to the market
2

Electronic copy available at: http://ssrn.com/abstract=1930177

(Verrecchia, 1983; Dye, 1985; Trueman, 1986; Jung and Kwon, 1988; Miller, 2002).
However, research that moves from this theoretical premise and relates a companys
profitability to the general level of disclosure in annual reports indicates conflicting results.
All of these independent pieces of research point to the relationship between profitability and
the general level of a companys disclosure; the latter, however, depends on several factors,
making it difficult to isolate the signalling effect. Nevertheless, research development on
signalling theory can be informative and beneficial. In fact, it has been confirmed that the
conflicting nature of the relationships between principal and agent causes the managers to
focus the signal they send to the market on a few focal points (Ross, 1977; Thakor, 1990; Cho
and Sobel, 1990; Kreps and Sobel, 1994).
Based on this concept, the most valuable information for the financial market is the return on
invested capital, for it represents the crux of the relationship between agent and principal.
This information is disclosed by means of specific indicators or ratios which, very often,
measure specific conditions on which to enter into or renew the agency contract, including,
but not limited to covenants, management stock options, and preference shares.
Against this background, our aim is to verify the presence of signalling mechanisms in
voluntary disclosure to the financial market. Specifically, we are expecting that when a
companys profitability increases, the number of profitability indicators being disclosed also
increases.
Our attention is focused on the profitability indicators that are published in annual reports.
This is because the annual report, even if non timely, is considered by the shareholder to be
the most reliable tool used by companies to communicate the core of their performance (Lang
and Lundholm, 1993; Botosan, 1997; Coleman and Eccles, 1998; Francis and Schipper, 1999;
Botosan and Plumlee, 2002; Watts, 2006).
3

To increase the generalisability of our research, we analyzed two countries. Italy and the UK
have been chosen to verify if, and to what extent, signalling policies are adopted in these two
very different cultural, economic, and legal contexts. The sample companies are
representative of the two countries financial markets.
After controlling for size, risk, industry and general environment, our results support our
hypothesis. According to the literature, firms size appears also influential. This brings us to
conclude that the market, as it was theorised since the beginning of the 1970, seems capable
of controlling the production and the use of information, concentrating the flow of
information on the focal points of the agency relationship.
This result empirically confirms the signalling theory focusing, as recent research
developments suggest, on the core of the companys communication: profitability. Very often,
indeed, the background noise that many factors produce in the general level of company
disclosure has prevented research from buttressing the signalling theory with unambiguous
evidence.
From a practical point of view, our results are conducive to signposting the future guidelines
of IASB and other national standard-setters regarding the key performance indicator
disclosure in the management commentary. In fact, our results seem to dismiss the relevance
of the European Directive 51/2003, which states to the extent necessary for an understanding
of the company's development, performance or position, the analysis shall include both
financial and, where appropriate, non-financial key performance indicators relevant to the
particular business. In this way, the Directive provides a generic obligation to disclose a few
indicators. However, the companies that are profitable, as research based on signalling theory
shows, do so independent of any legal requirement. On the other hand, also following the
signalling theory, those companies that cannot produce positive economic performances are
4

inclined to massage their disclosures, presenting useless or doctored indicators. It implies the
need for a standard-setter intervention to prescribe more specific and convincing rules.
The remainder of this paper is organised as follows: section two analyses the literature
concerning signalling theory upon which our research hypothesis is predicated. Our sample
and research method are presented in section three and four. After that, we will present and
discuss our results. The concluding section summarises our conclusions and opportunities for
future research.

2. Literature review and research hypothesis

The signalling theory was borne at the beginning of the 1970 and is based on two main
research contributions: Arrow (1972) and Spence (1973).
To overcome the classic theory limitations, above all, the hypothesis of perfect competition,
Spence (1973) analyses the workforce market with the aim of drawing some general
conclusions about information economics. The authors reasoning is simple: seeking for a job,
an unemployed person has something to gain from sending signals to the market, thus keeping
his talents in the public eye in order to prevail over other unemployed persons.
According to this reasoning, research on disclosure to financial markets posits that the most
profitable companies have something to gain from signalling their competitive advantage
through more and better communications (Verrecchia, 1983; Dye, 1985; Trueman, 1986; Jung
and Kwon, 1988; Miller, 2002). Empirical data, however, are inconclusive and, in some cases,
contradictory: few studies confirm the above mentioned hypothesis (Singhvi, 1968; Singhvi
and Desai, 1971; Lang and Lundholm, 1993; Wallace et al., 1994); other studies find no
correlation between the disclosure level and a companys profitability (McNally et al., 1982;

Lau, 1992; Raffournier, 1995); or, even more telling are those studies that show the
correlation to be inverse (Belkaoui and Kahl, 1978; Wallace and Naser, 1995).
All of these studies relate profitability to the global level of disclosure. The general level of
disclosure, however, depends on several factors (see the meta-analysis run by Ahmed and
Courtis, 1999) making it difficult to isolate a single signalling effect1.
Subsequent research on signalling mechanism (Ross, 1977; Cho and Sobel, 1990; Thakor,
1990) shows that the conflicting nature of the relationships between principal and agent
causes the management to focus the signal they send to the market on a few focal points
(Ross, 1977; Cho and Sobel, 1990; Thakor, 1990; Kreps and Sobel, 1994), which satisfy the
users primary information needs. This is referred to as the decision usefulness approach.
In the financial market, the crux of the relationship between agent and principal is represented
by the return on invested capital, providing the increasing capital is the object of the contract.
Some of the literature suggests that investors (users) make their economic decisions based on
the profitability indicators. A first line of research observes the analysts behaviour. The
results clearly show that the main tool analysts use to evaluate the economic performance of a
company is represented by a set of ratios which are based on financial statement figures or
market values (Barnes, 1987; Bouwman et al., 1987; Gibson, 1987; Matsumoto et al., 1995;
Weetman and Beattie, 1999; AIMR, 2000; Gomes et al., 2004; Gomes et al., 2007). Working
on a list of sixty ratios, Gibson (1987) asks a group of analysts to gauge the importance of
each of those indicators. As a result, profitability indicators are believed to be the most
important. Return on equity, in particular, is considered the most relevant ratio followed by
the price/earnings ratio. The other four, in order of importance, are all profitability indicators:
earnings per share, net profit margin after tax, return on equity before tax, and net profit
margin before tax. Similar research was conducted by Matsumoto et al. (1995). They
6

achieved the same results: market and profitability indicators are the most important followed
by other growth indicators.
In addition, some studies indicated that some profitability indicators are highly correlated
with stock market return, confirming the strong informative power of these measures (e.g.
Beaver et al., 1970; OConnor, 1973; Beaver and Manegold, 1975; Peterson, 1975; Roenfeldt
and Cooley, 1978; Bowman, 1979; Hill and Stone, 1980; Elgers and Murray, 1982;
Martikainen, 1989; Salmi et al., 1997; Lewellen, 2004). At the same time, profitability
indicators are used to measure the operating and financial risk of a company (Elgers and
Murray, 1982).
Over the last fifty years, another line of research has been developed that uses financial
statement ratios to predict a companys probability of failure. In regards to this field of
research, the profitability indicators stand out for their importance (e.g., Altman 1968; Beaver,
1968; Deakin, 1972; Edmister, 1972; Libby 1975; Ohlson, 1980; Neophytou and Mar
Molinero, 2004; Hillegeist et al., 2004; Beaver et al., 2005). Moore and Atkinson (1961) and
Jen (1963) show that the probability of a company to obtain a loan is closely related to the
level of its profitability ratios. Furthermore, in merger and acquisition operations, profitability
indicators are considered key measures (e.g., Stevens, 1973; Belkaoui, 1978; Dietrich and
Sorensen, 1984; Rege, 1984; Palepu, 1986; Barnes, 1990; Zanakis and Zopounidis, 1997;
Sorensen, 2000).
In conclusion, the signalling theory, on the one hand, and the central role that profitability
indicators play in the relationships between principal and agent, on the other hand, bring us to
advance this research hypothesis:
HP: The most profitable companies communicate a greater number of profitability indicators
in their annual reports.
7

As regards this hypothesis, empirical evidence of the key role of profitability indicators in a
companys voluntary disclosure comes from Gibson (1982). This study offers a list of the
indicators that were the most frequently published in 1979 annual reports of Fortune 500
companies. Gibson concludes that profitability ratios are the most popular and, among them,
earning per share, return on equity and profit margin are those most often published by more
than fifty percent of the firms. Other surveys carried out by consulting companies support
Gibsons results (PwC, 2007; Deloitte, 2007; Deloitte, 2009). However, these reports do not
examine the relationship between disclosure and profitability. Watson et al. (2002), who
investigate disclosure practices of ratios among UK firms, is the only study which focuses on
the core of our research hypothesis. Their results show that the number of indicators published
in annual reports grows when companies profitability increases. Nevertheless, this study
suffers from some limitations: it examines the only British context and, above all, it does not
distinguish among the profitability ratios.

3. Dataset
Italy and the UK were selected as countries of interest because they represent two opposing
models of the European cultural, economic and regulatory environments (Cooke and Wallace,
1990; Nobes, 1998; La Porta et al., 1998; Leuz et al., 2003). The UK is an Anglo-Saxon
country, with a common-law orientation; it has an outsider economy with a large stock
market, dispersed ownership, strong investor rights and strong legal enforcement (Leuz et al.,
2003). Italy, on the other hand, has a civil-law tradition with an insider economy based on a
credit system, ownership concentration, a low level of investor protection and weak legal
enforcement (La Porta et al., 1998). Moreover, financial reporting in Italy is strongly
influenced by corporate law and taxation (Nobes, 1998).
8

The study includes a 155-company sample of Italian and UK listed companies from the
manufacturing and service industries. Banks, insurance companies, and holding and real
estate companies were excluded because they have different reporting and legal requirements
as well as different disclosure practices (Hossain et al., 1994).
The world-wide financial crisis started in 2008 has widen the performance gap among firms.
As a consequence, it is reasonable to presume that the identification of signaling policies is
easier in this year. Since the financial crisis has started in the last quarter, only annual reports
ending at 31 December 2009 have been examined, assuring comparability within the sample.
The sample of companies was randomly extracted from the population of the listed companies
included in the Amadeus databank. The sample size was defined to be statistically
representative of the countrys population with respect to the variables employed as disclosure
measures.2 The final sample consists of 73 Italian and 82 UK companies (Table 1). It is noted
that the Italian sample includes a larger portion of the population than the British one. This is
due to the higher variability found in disclosure practices in Italy. Sample composition by
industry is reported in Table 1.
[Insert Table 1 about here]

4. Variables and method

The narrative section of the 2008 annual report is analysed. In particular, the entire annual
report document is scrutinised, with the exception of the Financial statements and the Notes.
The number of profitability indicators (PIs) disclosed is gathered in each annual report. PIs
include both indicators based on accounting data (e.g., ROE, ROI, ROCE) and market values
(e.g., EPS, EBITDA per share, cash flow per share).
9

Many empirical findings in disclosure literature testify to a positive relation between the
amount of disclosure and firm profitability. Some of these studies are reported in Table 2
along with the list of profitability measures employed by the authors.
[Insert Table 2 about here]
Following this literature, two profitability measures are selected: net profit to net worth
(NP/NW) and operative profit to total assets (OP/TA). Table 3 presents the descriptive
statistics for these two variables. The R2 index shows that both measures are positively
correlated with the variable PIs (Table 3). OP/TA is used in the regression model because its
R2 is higher.
[Insert Table 3 about here]
Some control variables are included in the model, referring to the main literature. Those
variables are: firm size, degree of risk, industry, and country.
Firm size (SIZE)
There is general agreement concerning the existence of a positive relationship between the
size of a company and the extent of its disclosure. Firm size is considered to affect voluntary
financial disclosure by influencing the magnitude of agency costs (Leftwich et al., 1981;
Holthausen and Leftwich, 1983; Kelly, 1983). Moreover, larger firms are better able than
smaller firms to afford both direct and indirect costs related to disclosure. The larger firms are
also more likely to take advantage of both economies of scales and their leadership in the
market. Lastly, larger firms tend to employ sophisticated management reporting systems that
can provide a wider variety of corporate information.
The influence of size has been well documented in several studies in several countries: in the
US (Cerf, 1961; Singhvi and Desai, 1971; Buzby, 1975; Salamon and Dhaliwal, 1980; Lang
10

and Lundholm, 1993); in the UK (Firth, 1979); in Canada (Kahl and Belkaoui, 1981); in
Mexico (Chow and Wong-Boren, 1987); in Nigeria (Wallace, 1988); in Sweden (Cooke,
1989); in Austria (Wagenhofer, 1990); in Spain (Wallace et al,. 1994; Inchausti, 1997); in
Italy (Prencipe, 2004); and in the New Zeeland (Hossain et al., 1995).
Furthermore, Watson et al. (2002) confirm the positive relation between company size and
disclosure of financial ratios. In their study on UK listed firms, they find that larger
companies are more likely to publish a higher number of indicators in the annual report.
Risk (RISK)
Following agency theory, a positive relation between the level of risk and the extent of firm
disclosure may be expected: higher risk firms should be likely to disclose more than lower
risk firms due to their higher proprietary costs. The few empirical evidences in disclosure
literature show conflicting results about this relation. Garsombke (1979) and Firth (1984) do
not find any correlation between a firms level of risk, measured by the beta index, and the
amount of voluntary communication in the annual report. Patton and Zelenka (1997) include
risk in their regression model which investigates the determinants of disclosure in annual
reports in the Czech Republic. They divide the level of risk into two components: the
operational risk, measured by the percentage of intangible assets, and the financial risk,
measured by the leverage ratio. Their results document that neither of the two risk proxies are
significantly related to the disclosure practises of Czech companies.
For the rest, the majority of the studies investigated the financial risk dimension and found
divergent results. Salomon and Dhaliwal (1980), Bradbury (1992), Mitchell et al. (1995), and
Inchausti (1997) reference evidence of a positive relation while Chow and Wong-Boren
(1987), Hossain et al. (1994, 1995), Meek et al. (1995), and Raffournier (1995) find no
significant relation.
11

Industry (IND)
Because proprietary costs vary by industry, voluntary disclosure practices are likely to differ
among industries (Wallace et al., 1994). Moreover, Cooke (1992) affirms that levels of
disclosure in corporate annual reports differ by industry for several reasons. In his study on
Swedish firms, Cooke (1989) suggests that historical factors may have been important in the
financial reporting of different sectors. Cooke segregates his company sample into:
manufacturing, trading, conglomerate, and services and finds that the level of
voluntary disclosure is lower in those companies classified as trading.
Nevertheless, Watts and Zimmerman (1986) consider that the effect of industry on disclosure
can be obfuscated by firm size. Companies operating in the same industry, in fact, are usually
characterised by similar size. Divergent empirical findings document the difficulties in
separating industry-effect from other variables. For example, Amernic and Maiocco (1981),
Wagenhofer (1990), Cooke (1992), and Camffermann and Cooke (2002) point out the
presence of an industry-effect while Wallace et al. (1994) and Chavent et al. (2006) do not
find any significant relation.
Institutional environment (COUNTRY)
Environmental factors are considered to play a relevant role in influencing firm disclosure
practices. Many studies investigate how institutional variables, such as culture, legal
orientation, and economic structure, affect firm activity, and its communications (La Porta et
al., 1998; Jaggi and Low, 2000; Hope, 2003; Vanstraelen et al. 2003; Bushman et al., 2004).
La Porta et al. (1998) give evidence that the legal origin is the more representative proxy
for certain environmental variables such as economic structure, legal enforcement, investor
protection and accounting rules. They maintain that common-law oriented countries are more
inclined to provide the market with voluntary disclosure than civil-law oriented countries.
12

Moreover, Francis et al. (2005) affirm that economies based on the credit system are
characterised by a lower level of voluntary disclosure than economies based on financial
markets because credit-system oriented economies mainly recur to private information.
The variables described above are included in the following multiple regression model:
PIs = 0 + 1 PROF + 2COUNTRYi + 3SIZE + 4RISK + 5IND + i

[1]

where:
PROF = OP/TA for the fiscal year 2008.
COUNTRY = dummy variable, identifying the country origin of the firm (Italy/UK).
SIZE = natural logarithm of sales for the fiscal year 2008.
RISK = firms beta index at the end of the fiscal year 2008.
IND = dummy variable, indentifying the industry (manufacturing/service).
The descriptive statistics for the quantitative variables employed in the model are reported in
Table 4. UK companies are bigger and more profitable, on average, than Italian companies.
Looking at the standard deviation, the value for the PROF is similar for the two countries. It
means that the higher profitability of UK firms is not related to the outstanding performance
of a few outliers, rather it is a generalised condition.
The beta index is noted to be lower in Italian firms. This fact partially contradicts the
evidence of more leveraged and thus, higher firms level of risk, Italian firms. Nevertheless,
the beta index is a proxy of the whole firms level of risk, including financial risk.
Considering that the sample is not stratified for control variables, the higher level of risk for
UK companies should not invalidate the results.
[Insert Table 4 about here]

13

5. Results
The correlation matrix is reported in Table 5. As expected, there exists a positive relation
between profitability and total sales (SIZE). At the same time, the risk (RISK) is negatively
correlated to profitability. However, the risk of multi-collinearity is maintained (Hossain,
1995).3
[Insert Table 5 about here]
The results of regression tests are shown in Table 6. The F statistic confirms that the
regression model is significant (p-value<0.001). Nevertheless, the total variability captured by
our variables is only 25.29 percent, as R2 indicates.
The multivariate analysis confirms the univariate results, which see the existence of a positive
relation between a firms profitability and the number of profitability indicators published.
Our hypothesis, thus, is confirmed.
As regards the control variables, dimension is a significant and its coefficient has positive
sign, as found by Watson et al. (2002). Conversely, the risk coefficient registers a sign
contrary to the expectations. It reflects that less risky firms are more inclined to publish
profitability indicators. This result is not surprising considering the contradictory empirical
findings highlighted in the literature. Ultimately, the findings suggest that industry and
country are not significant. It is plausible, then, that the publishing of profitability indicators,
being general and widespread measures, not be anchored to industry and country.
[Insert Table 6 about here]

14

6. Sensitivity analysis
Regression tests are repeated with a different measure of profitability, net profit to net worth
(NP/NW). The results confirm those presented above (Table 7).
[Insert Table 7 about here]
Regardless of absolute value of profitability, a firm can be more inclined to communicate
because of an increase in its profitability. To take this phenomenon into account, regression
tests are repeated assuming the variation of operating profitability between 2007 and 2008
(OP/TA_VAR) as an independent variable. The results, as reported in Table 8, are not
significant.
[Insert Table 8 about here]
A possible explanation for this is that signaling strategies operate on a time horizon wider
than a year, and they are not functions of conjuncture factors. Thus, year by year, signaling
policies, in our case the number of indicators published in the annual report, are likely not to
be reformulated when considering firm performance, rather they probably depend on the
competitive strength historically affirmed in the market and gradually transmitted to it.
Conversely, the communication action of management would lose credibility, due to its high
variability year by year.

7. Conclusions
Decisions that move financial markets are based on the quantity, the reliability and the
timeliness of information. If that information is not equally distributed among operators,
informative asymmetries are created which generate capital allocation inefficiencies.

15

To remain on the market, a firm needs to inform operators, launching signals that will be
beneficial during the capital allocation process. Studies on signaling theory have
demonstrated that the most valuable messages, those which demonstrate the credibility of the
agent is judged, centre on the focal points of the relationship.
Because the general level of disclosure depends on multiple factors, this work concentrates on
one of the focal signal in the market to verify the existence of signaling mechanisms. It has
been shown that the information about the return of capital is the most significant for
principals and agents, thus suggesting that the more credible firms would communicate the
relative indicators.
To this end, the annual reports of a representative sample of listed companies are examined.
Italy and the UK are chosen to verify if, and to what extent, signaling policies operate in very
different cultural, economic, and regulatory environments.
A multiple regression model has verified the existence of a relationship between the number
of profitability indicators, meant as both accounting and market values, and the firm
profitability, measured as operative profit divided by total assets. Dimension, risk, industry,
and country are assumed control variables.
Results highlight the presence of signaling mechanisms in the voluntary annual report
communication: the most profitable firms communicate a higher number of profitability
indicators in the narrative section of their annual report. Very often, indeed, the background
noise that many factors produce in the general level of company disclosure has prevented
research from buttressing the signaling theory with unambiguous evidence. Moreover,
according to much of the literature, the dimension seems to be influential.
Although we cannot know the quality of this communication, the market, as theorised from
the beginning of the 1970, has been found capable of controlling the production and the use of
16

information, concentrating that information on the focal points of the agency relationship.
This fact supports the empirical evidences of a stream of literature that maintains the market is
able to produce relevant information without legislative intervention (see the studies
developed on Verrecchia, 1983).
From a practical point of view, our results are conducive to signposting the future guidelines
of IASB and other national standard-setters concerning the key performance indicator
disclosure in the management commentary. In fact, our results seem to dismiss the relevance
of the European Directive 51/2003, which states: to the extent necessary for an
understanding of the company's development, performance or position, the analysis shall
include both financial and, where appropriate, non-financial key performance indicators
relevant to the particular business. In this way, the Directive provides a generic obligation to
disclose some indicators. However, the companies that are profitable, as research based on
signaling theory shows, do so independent of any legal requirement; on the other hand,
always following the signaling theory, those companies that cannot produce a positive
economic performance are induced to massage their disclosure. This would be a
manipulation of the signal induced by external sources according to Kreps and Sobel (1994),
thereby presenting useless or doctored indicators. As a consequence, the information
asymmetry that the rule aims to reduce, paradoxically would increase.
In this framework, the intervention of a standard setter that defines principles and rules about
the communication of indicators in annual reports appears to be opportune in order to avoid
the adoption of the recalled directive which generates counterproductive effects. Moreover,
the fact that signalling phenomena are found both in market-oriented countries, such as the
UK, and in credit-oriented countries, such as Italy (results that are in line with Francis, 2005),
calls the need for standardized intervention at the European level.
17

Some limitations affect this study. A first limitation concerns our independent variable
(profitability). We use two of the main measures utilized in literature, but other proxies can be
taken. Moreover, we analyze only one year and it could reduce the reliability of our results,
even if Gray et al. (2001) testify to a substantial static nature in the relation between the
amount of voluntary disclosure and firm performance over time. In any case, it could be
interesting to observe the firms behaviors and the related signaling policies across the crisis
period.
As future development, less profitable firms can be an interesting field of analysis in order to
verify if and to what extent they tend to manipulate profitability indicator disclosure and, as a
consequence, to express a judgment about the effectiveness of certain rules.

18

Notes
1

Interpretation of findings in favour of a relation - between disclosure and performance is confounded by a general failure
to control for events that are likely to influence disclosure, Miller, 2002, p. 175.
2

To reach a statistically representative sample, iterative procedures were applied. They are based on the variance of the
dependent variable, the number of profitability indicators communicated by the company. Starting with a pilot sample of ten
firms for each country, new companies were added until the samples variance estimated the population variance with a
significance level of 0.05 and a confidence level of 95%.

The homoscedasticity and the normal distribution of errors are controlled before running regression tests.

19

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26

TABLES

Table 1 Sample size by country and industry

Italy

UK

Total

Manufacturing

53

45

98

Services

20

37

57

Total

73

82

155

Table 2 Profitability measures in disclosure literature

Sinvhi and Desay (1971)

Net Profit/Net Worth

Net Profit/Total Sales

Wallace et al. (1994)

Net Profit Before Taxes/Total Sales

Belkaoui e Kahl (1978)

Net Profit/Total Assets

Courtis (1979)

Net Profit/Total Sales; Net Profit

McNally et al. (1982)

Net Profit/Net Worth

Net Profit/Total Assets

Malone et al. (1993)

Net Profit/Net Worth

Wallace e Naser (1995)

Net Profit Before Taxes/Net Worth

Net Profit Before Taxes/Total Sales

Raffournier (1995)

Net Profit /Net Worth

Inchausti (1997)

Operative Profit/Total Assets

Net Profit /Net Worth

Ahmed and Courtis (1999)

Net Profit /Net Worth

Net Profit /Total Assets

Prencipe (2004)

Operative Profit/Total Assets

Chavent et al. (2006)

Net Profit /Total Sales

27

Table 3 Descriptive statistics and the R2 index for profitability measures

Mean

Median

Dev.St.

R2

NP/NW

4.40%

4.30%

0.066

0.0798

OP/TA

3.91%

4.48%

0.090

0.2266

Table 4 Descriptive statistics of quantitative variables by country

Mean

Median

Italy

UK

1,716

8,677

317

1,390

5,247

37,159

PROF (%)

3.91

10.80

4.48

9.17

0.095

0.090

RISK

0.97

1.06

0.94

1.04

0.38

0.38

SIZE (mgl )

Italy

Dev.St.
UK

Table 5 Pearson correlation matrix

PIs
RISK
SIZE
PROF

PIs
RISK
1
-0.00844
1
0.39955 0.26230
0.47291 -0.12211

SIZE

PROF

1
0.42162

Table 6 Regression results

Variable

Expected
Sign

(Intercept)

PROF(OP/TA)

+
+

RISK
COUNTRY[T.UK]
IND[T.SERVICE]
+
SIZE
Adjusted R-squared: 0.2529
F-Statistic: 9.868 P-value: 5.58E-08

Coeff

p-value

-0.25962
5.20407
-0.09738
-0.04757
-0.23872
0.19153

* p-value < 0.05 ** p-value < 0.01

28

0.7589
6.24E-05**
0.7392
0.8369
0.2748
0.0056**

Italy

UK

Table 7 Regression results (NP/NW as independent variable)

Variable

Expected
Sign

Coeff

p-value

(Intercept)
-1.09969
+
PROF(NP/NW)
4.30961
+
RISK
-0.28251
COUNTRY[T.UK]
0.10454
IND[T.SERVICE]
-0.32763
+
SIZE
0.27859
Adjusted R-squared: 0.1947
F-Statistic: 7.143
P-value: 6.81E-06

0.1957
0.0224*
0.3477
0.6626
0.1491
3.62E-05**

* p-value < 0.05 ** p-value < 0.01

Table 8 Regression results (OP/TA_VAR as independent variable)

Variable

Expected
Sign

(Intercept)

PROF(OP/TA_VAR)

+
+

RISK
COUNTRY[T.UK]
IND[T.SERVICE]
+
SIZE
Adjusted R-squared: 0.2245
F-Statistic: 4.712 P-value: 0.0005453

Coeff

p-value

-0.73642
-2.21456

0.422329
0.243413

-0.36144
0.24788
-0.23839
0.26947

0.210426
0.290979
0.294362
1.21E-5**

* p-value < 0.05 ** p-value < 0.01

29