J. Account.

Public Policy xxx (xxxx) xxx

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J. Account. Public Policy

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Full length article

How do auditors respond to low annual report readability?

Belen Blanco a,⇑, Paul Coram a, Sandip Dhole b, Pamela Kent a,c
a
The University of Adelaide, 10 Pulteney Street, Adelaide 5005, Australia
b
Monash University, 900 Dandenong Road, Caulfield East, Melbourene 3145, Australia
c
School of Accountancy, Garden Point Campus, Queensland University of Technology, 2 George St, Brisbane 4001, Australia

a r t i c l e i n f o a b s t r a c t

Article history: We show that increased audit effort is associated with lower annual report readability to
Available online xxxx compensate for a perceived increase in the risk of financial misstatement for United
States (US) firms. In particular, we find that lower annual report readability is associated
JEL Classifications: with longer audit delays and higher audit fees for Form 10-K for US auditors, suggesting
M41 that auditors spend more effort auditing clients when annual reports have lower readabil-
M48 ity. We also find that low readability increases the likelihood of auditors using more
Keywords:
explanatory language in unqualified audit reports.
Readability Ó 2020 Elsevier Inc. All rights reserved.
Audit report lag
Audit fees
Unqualified audit reports with additional
language

1. Introduction

We determine whether annual report readability is associated with the timing of issuing the audit report (audit delay),
the level of audit fees, and the auditors’ decision to use explanatory language in an unqualified audit report using United
States (US) data. International security regulations and accounting standards imply a public policy of managers meeting
the information expectations of reasonable investors when deciding on the nature of disclosure in annual reports
(Mayorga and Trotman, 2016). The information expectations of reasonable investors are unlikely to be met when companies
provide low readability annual reports because this reduces the usefulness of reports for users (Li, 2008).
Auditors have an important public interest role in the financial markets by providing independent assurance of the cred-
ibility of accounting information leading to improved resource allocation and increased contracting efficiency (DeFond and
Zhang, 2014). Audit efficiency1 is compromised when companies provide lower annual report readability and it is expected
that increased audit costs from lower efficiency are incorporated in security prices and transferred to investors and the public.
Auditors can attempt to compensate for the lower information content of lower readability annual reports by providing addi-
tional explanatory language in their audit report. However, the process of providing additional explanatory language in the
audit report also increases costs of the audit (Hay et al., 2006).
Reports from two Big 4 accounting firms confirm the important role that clear textual disclosures in annual reports play
in providing more useful information to the public. For example, KPMG stress that the use of plain English, removal of non-

⇑ Corresponding author at: Business School, University of Adelaide, Adelaide, 5005, Australia.
E-mail address: belen.blanco@adelaide.edu.au (B. Blanco).
1
Audit efficiency refers to the timeliness and cost of the audit process measured by audit report lag and audit fees (Knechel and Sharma, 2012).

https://doi.org/10.1016/j.jaccpubpol.2020.106769
0278-4254/Ó 2020 Elsevier Inc. All rights reserved.

Please cite this article as: B. Blanco, P. Coram, et al., How do auditors respond to low annual report readability?, J. Account. Public Policy,
https://doi.org/10.1016/j.jaccpubpol.2020.106769
2 B. Blanco et al. / J. Account. Public Policy xxx (xxxx) xxx

essential material and irrelevant disclosures, re-ordering and re-labelling accounting policies and detailed note disclosures
provide more useful information to stakeholders about firm performance. This can be done while continuing to comply with
relevant accounting standards and regulatory requirements (KPMG, 2013). Similarly, according to Ernst & Young, presenta-
tion, structure and writing in firms’ annual reports increase the usefulness of the entire range of firms’ communications with
their shareholders and the public (Ernst and Young, 2015).
One of the explanations for lower readability of Form 10-K is deliberate attempts by management to obscure the content
of financial statements to hide earnings management or poor financial performance (Bloomfield, 2008; Li, 2008; Lo et al.,
2017). The information environment is the responsibility of management and evaluating management is an important part
of the audit process for the auditor (AS 2110, PCAOB, 2010a). A poor information environment and/or managements’ inten-
tion to provide less useful disclosures suggest an increase in audit risk for the audit engagement. Auditors are expected to
plan for an increase in risk of material misstatement by lowering detection risk (AS 2301, PCAOB, 2010b; ISA 330, IAASB,
2015b) when they detect a poor information environment and/or managements’ intention to provide less useful disclosures.
Lowering detection risk requires an increase in the quantity and quality of audit evidence collected. Lowering detection
risk also alters the nature, timing and extent of audit procedures for higher risk clients. This higher risk of financial misstate-
ment requires more evidence to be collected at balance date and increased audit effort (AS 2301, PCAOB, 2010b; ISA 330,
IAASB, 2015b). These circumstances add increased responsibilities for auditors in efficiently and effectively completing their
report to shareholders leading to increased audit effort. Increased audit effort is also likely to occur because of the increased
advice provided by the auditor to management regarding required disclosures. This increased audit effort is likely to be
reflected by audit delays and increased audit fees (Hay et al., 2006) explored in this paper.
A problem occurs for the auditor as to how they can communicate lower readability of Form 10-K to shareholders. The
only mechanism that auditors can currently use to communicate lack of readability and audit-specific information to users of
annual reports is through an unqualified opinion with additional explanatory language. Unqualified audit reports with
explanatory language can relate to a range of topics and risks identified by the auditor in conducting the audit (AS 3101,
PCAOB, 2010c). We expect that auditors communicate lower readability of Form 10-K to shareholders through an unquali-
fied opinion with additional explanatory language. Therefore, lower readability of Form 10-K is expected to be associated
with more unqualified audit reports with explanatory language.
We find that lower annual report readability is associated with greater audit risk estimated by greater audit delays and
higher audit fees using the BOG index measure of readability (Bonsall et al., 2017). The economic importance of this result is
that a 1.884 percent change in the BOG readability index explains one standard deviation increase in audit time, while a
2.870 percent change in the BOG readability index explains one standard deviation increase in audit fees. We also find that
auditors communicate increased levels of additional language in their audit reports when annual report readability is lower.
A 0.543 percent change in the BOG readability index is explained by one unqualified opinion with additional explanatory
language. An analysis of the impact of Big 4 as an interaction variable indicates that Big 4 and non-Big 4 auditors significantly
increase audit effort indicated by higher audit fees for lower readability of Form 10-K. However, increases in audit delay and
unqualified opinions with additional language associated with lower readability of Form 10-K are driven by Big 4 auditors.
We extend previous research that shows that low readability of accounting information is associated with higher audit
effort reflected by greater audit report delays and higher audit fees (Abernathy et al., 2019; Cho et al., 2019). Abernathy et al.
(2019) examine footnotes and propose that low footnote readability increases audit engagement risk because it is more dif-
ficult to communicate bad news. We provide a contribution beyond Abernathy et al. (2019) by examining the whole Form
10-K which includes the main financial statements, additional disclosures by management and Management’s Discussion
and Analysis Section, the Directors’ Report, and footnotes2. Disclosures in the Form 10-K are much broader than the footnotes
allowing for increased management reporting discretion compared to the footnotes. Evidence also exists that information in
footnotes is less useful than other parts of the financial statements and less likely to be read by users of the financial statements
(Davis-Friday et al., 1999; Sengupta and Wang, 2011). It is in the public interest to extend the examination of the readability of
management disclosures and audit related consequences to the full Form 10-K.
We also extend the literature by examining unqualified opinions with explanatory language rather than going concern
opinions as in Abernathy et al. (2019). This is an important extension because providing an unqualified opinion with addi-
tional explanatory language is one of the few mechanisms that auditors can currently use to communicate lack of readability
and audit-specific information to users of annual reports.
We use the BOG index as a measure of readability unlike Abernathy et al. (2019) and Cho et al. (2019)3. The BOG index is
validated by using controlled experiments and archival tests focusing on the requirement by the SEC for plain English language
(SEC, 1998). It is found to be more accurate in measuring the readability of documents than the Gunning-FOG index, file size of
Form 10 K and number of words in a document (Bonsall et al., 2017).

2
The 10-K provides information on a range of issues and these include ‘‘a detailed picture of a company’s business, the risks it faces, and the operating and
financial results for the fiscal year. Company management also discusses its perspective on the business results and what is driving them.” See: https://www.
sec.gov/fast-answers/answersreada10khtm.html
3
Cho et al. (2019) use the Flesch Reading Ease index, the Gunning Fog index and the total length of annual reports while Abernathy et al. (2019) use length
and choice of language used in the footnotes summarised as word length, common and financial words.

Please cite this article as: B. Blanco, P. Coram, et al., How do auditors respond to low annual report readability?, J. Account. Public Policy,
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 B. Blanco et al. / J. Account. Public Policy xxx (xxxx) xxx 3

We further differ from Cho et al. (2019) in that our sample is of US firms rather than Korean firms and we use some alter-
native measures of audit response. Cho et al. (2019) find that lower readability of annual reports is associated with higher
audit fees and audit hours. Our study measures the audit report lag and audit fees as measures of extra audit effort.
Narrative disclosures are important and evaluated by auditors early in the audit process. US and international regulations
require auditors to read other information provided in the Form 10-K to ensure it is not materially inconsistent with the
financial statements (ISA 720, IAASB, 2015c; AS 2710, PCAOB, 2017)4. Further, ISA 300 states that narrative disclosures should
be evaluated early in the audit to assist with the planning process because of the wide range of information and level of detail
incorporated in those disclosures (IAASB, 2015a)5. A recent study by Drake et al. (2019) surveyed 26 experienced auditors and
found they generally review the Form 10-K well before the required filing date.
Communication from managers to investors is very important and low readability reduces the usefulness of annual
reports in terms of evaluating firm performance (Li, 2008). Our study is the first to find that auditors assess a perceived
increase in risk from low readability of the whole 10-K report. This is further evidence of the importance of this written com-
munication from management to investors and therefore has public policy implications for improved clarity and quality of
management disclosure, consistent with concerns raised by the SEC over a number of years (SEC, 1998, 2007).

2. Research design

2.1. Measuring annual report readability

We measure annual report (Form 10-K filing) readability by the BOG Index. This measures attributes in the SEC Plain Eng-
lish Handbook including sentence length, passive voice, weak verbs, overused words, complex words and jargon (SEC, 1998).
It specifies word complexity from a list of 200,000 words, rather than assuming all multi-syllabic words are complex (Bonsall
et al., 2017). Higher values of this variable indicate more complex financial reporting; that is, less readable annual reports.

2.2. Measuring auditors’ effort and audit opinion

Audit delay is an estimate of audit production measured by number of days between the initial audit report date and end
of the fiscal year (Knechel and Sharma, 2012; Blankley et al., 2014; Sharma et al., 2017). Prolonged audit report lags are likely
to suggest that there are problems between the auditor and client in settling significant disagreements between senior man-
agement and the audit partner (McCracken et al., 2008; Salterio, 2012) and a proxy for increased involvement of the auditor
in preparing the report (Brown and Knechel, 2016; Legoria et al., 2017). Taking longer time to complete the audit usually
reflects that more work is required due to problems identified by the auditor, or higher assessments of inherent and/or con-
trol risk for the client (Ireland, 2003). We therefore adopt audit report lag as our first measure of audit effort.
Audit fees can be viewed as an estimate for higher production costs by the auditor in completing the audit (Bell et al.,
2001; Degeorge et al., 2013). Low readability of financial reports suggests poor internal control and it is found that audit fees
are higher for firms with internal control deficiencies (Hogan and Wilkins, 2008). Evidence also exists that audit fees are
adjusted because of the increased risks incurred by the auditor in completing the audit (Bedard and Johnstone, 2004;
Charles et al., 2010; Greiner et al., 2017). This leads to the auditor collecting additional evidence and increasing audit effort.
We expect this increased effort to be reflected in audit fees and use audit fee level as our second indication of audit effort.
We finally examine audit opinion. One tool that auditors have to communicate audit-specific information and concerns
they have to users of annual reports is through an unqualified opinion with additional explanatory language.
Following prior research on audit report lag (Knechel and Payne, 2001; Tanyi, et al., 2010; Knechel and Sharma, 2012;
Sharma et al., 2017), we use the following model to test audit delay as a measure of audit effort:

Audit Delayit ¼ b0 þ b1 Readabilityit þ b2 UWALOit þ b3 AFeesit þ b4 ICMW it þ b5 jDAit j þ b6 Sizeit þ b7 Lev erageit
þ b8 BTMit þ b9 Lossit1 þ b10 AltmanZ it þ b11 Big4it þ b12 MAit þ b13 BusinessSegmentsit þ b14 RetVolit
þ b15 Foreignit þ b16 AssetTurnit þ b17 Current it þ b18 Quickit þ b19 ROAit þ b20 NASit þ b21 OCF it
X
þ b22 Extraordit þ b23 GCOpinionit þ b24 NewIssueit þ b25 BusyFYEit þ b26 HHIit þ cj Indj
j
X
þ dt Yeart þ it ð1Þ
t

In Eq. (1), the dependent variable is audit delay and the independent variable of interest is Readability. We predict that the
coefficient b1 is positive. We include a number of control variables in Eq. (1) above. We control for the auditor’s decision to
issue an unqualified opinion with additional language (UWALO); audit fees (AFees); internal control material weakness

4
Other information is defined as financial and non-financial information (other than the financial statements and the auditor’s report) which is included,
either by law, regulation or custom, in a document containing audited financial statements and the auditor’s report. (ISA 720, para 5, IAASB, 2015c).
5
We contacted two senior audit partners from different Big 4 accounting firms with experience in auditing 10-K filings to determine the importance they
place on narrative disclosures in annual reports. Both auditors indicated this information is extremely important in conducting the audit and is reviewed early
in the audit process along with account balances.

Please cite this article as: B. Blanco, P. Coram, et al., How do auditors respond to low annual report readability?, J. Account. Public Policy,
https://doi.org/10.1016/j.jaccpubpol.2020.106769
4 B. Blanco et al. / J. Account. Public Policy xxx (xxxx) xxx

(ICMW); absolute discretionary accruals (|DA|); size (Size); leverage (Leverage); the firm’s book-to-market ratio (BTM);
whether the firm reported a loss in the previous year (Loss); the Altman Z-score (AltmanZ); whether the firm has a Big 4 audi-
tor (Big4); an acquisition in the year (MA); for firm complexity measured by the number of business segments (BusinessSeg-
ments); the company’s annual stock return volatility (RetVol); foreign taxes reported by the firm (Foreign); asset turnover
ratio (AssetTurn); current ratio (Current); the firm’s quick ratio (Quick); return on assets (ROA); ratio of non-audit services
to audit fees (NAS); operating cash flows (OCF); extraordinary items (Extraord); whether the auditor issues a going concern
opinion (GCOpinion), whether the firm issues new long-term debt or equity during the period (NewIssue); whether it is a busy
period for the auditor (BusyFYE); and the Herfindahl index (HHI).
To test audit effort with audit fees, we modify Eq. (1) above by replacing AuditDelay with AFees, as the dependent variable.
We also remove AFees as an explanatory variable and replace it with AuditDelay. That is, we estimate the following model:

AFeesit ¼ b0 þ b1 Readabilityit þ b2 UWALOit þ b3 AuditDelayit þ b4 ICMW it þ b5 jDAit j þ b6 Sizeit þ b7 Lev erageit

þ b8 BTMit þ b9 Lossit1 þ b10 AltmanZ it þ b11 Big4it þ b12 MAit þ b13 BusinessSegmentsit þ b14 RetVolit
þ b15 Foreignit þ b16 AssetTurnit þ b17 Current it þ b18 Quickit þ b19 ROAit þ b20 NASit þ b21 OCF it
X X
þ b22 Extraordit þ b23 GCOpinionit þ b24 NewIssueit þ b25 BusyFYEit þ b26 HHIit þ cj Indj þ dt Year t þ it
j t

ð2Þ
We use the following logit model to test unqualified opinion with explanatory language (UWALO):

UWALOit ¼ b0 þ b1 Readabilityit þ b2 AFeesit þ b3 AuditDelayit þ b4 ICMW it þ b5 jDAit j þ b6 Sizeit þ b7 Lev erageit

þ b8 BTM it þ b9 Lossit1 þ b10 AltmanZ it þ b11 Big4it þ b12 MAit þ b13 BusinessSegmentsit þ b14 RetVolit
X
þ b15 Foreignit þ b16 ROAit þ b17 OCF it þ b18 Extraordit þ b19 NewIssueit þ b20 HHIit þ cj Indj
j
X
þ dt Year t þ it ð3Þ
t

In Eq. (3), the dependent variable is unqualified audit opinion with additional language (UWALOit ) with Readability being
the independent variable of interest. Since higher values of Readability indicate more difficult to read annual reports, we pre-
dict that the coefficient b1 is positive.

3. Data

Our sample consists of 11,839 firm-year observations from 2004 to 2015 selected from Compustat North America Indus-
trial Annual database. We obtain data for financial statement readability (BOG Index) from Brian Miller’s website.6 Consistent
with previous practice in the literature, financial firms are excluded because of the different nature of investment for these
firms. We winsorize observations in the 1st and 99th percentiles of the respective distributions of the dependent and indepen-
dent variables used in Eqs. (1)–(3). We eliminate observations with not enough data to run our analyses.
We present descriptive statistics for some important variables in Table 1. We begin with our audit-related variables. The
Table shows that auditors issue unqualified audit opinions with additional language approximately 36 percent of the time,
for our sample of firms. We also note that the mean (median) audit fee is $2.970 million ($1.580 million). Table 1 shows that
the mean (median) audit delay is about 59.858 (58.000) days. These statistics are consistent with prior research (Sharma
et al., 2017). The mean (median) values for the BOG readability measure are 85.493 (86.000). These statistics are similar
to those reported in prior studies (Li, 2008; Loughran and McDonald, 2014; Bonsall and Miller, 2017), and suggest that
annual reports tend to be complex.
We also note that there is a 4.600 percent probability of the average firm in our sample reporting an internal control
material weakness, consistent with Greiner et al. (2017). Our other descriptive statistics are consistent with those reported
in prior studies using Compustat data, thus lending confidence in the generalisability of our sample.
We present the Pearson correlation coefficients between variables in Table 2. UWALO is positively correlated with audit
fees (correlation coefficient = 0.108) and audit delay (correlation coefficient = 0.062). This suggests that increased audit effort
is associated with auditors’ additional language in audit opinions. We also find that the correlation coefficient between
UWALO and the BOG Index is positive (correlation coefficient = 0.057), consistent with our expectation that auditors are more
likely to issue unqualified opinions with additional language when financial statement readability is poor. We also find that
the Pearson correlation coefficient between the BOG Index and audit fees (correlation coefficient = 0.228) and audit delay
(correlation coefficient = 0.064) are positive. These results are consistent with our expectations and provide preliminary sup-
port for the expectation that auditors apply greater effort when financial statement readability is lower.

6
https://kelley.iu.edu/bpm/activities/bogindex.html

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 B. Blanco et al. / J. Account. Public Policy xxx (xxxx) xxx 5

Table 1
Descriptive statistics.

Mean Std. Dev. Q1 Median Q3

UWALO 0.360 0.480 0.000 0.000 1.000
AFees($’ million ) 2.970 4.100 0.878 1.580 3.325
AuditDelay(days) 59.858 18.842 53.000 58.000 66.000
Readability 85.493 6.305 81.000 86.000 90.000
ICMW 0.046 0.210 0.000 0.000 0.000
|DA| 0.039 0.038 0.012 0.028 0.053
Size 7.298 1.543 6.201 7.173 8.295
Leverage 0.194 0.194 0.014 0.171 0.296
BTM 0.489 0.586 0.258 0.413 0.638
Loss 0.176 0.380 0.000 0.000 0.000
AltmanZ 4.704 6.436 2.393 3.707 5.779
Big4 0.899 0.300 1.000 1.000 1.000
MA 0.517 0.499 1.000 1.000 1.000
BusinessSegments 6.961 5.028 3.000 6.000 10.000
RetVol 0.107 0.057 0.068 0.094 0.130
Foreign 0.753 0.431 1.000 1.000 1.000
AssetTurn 1.131 0.714 0.636 0.943 1.440
Current 0.477 0.206 0.327 0.474 0.628
Quick 2.018 1.660 1.038 1.510 2.387
ROA 0.040 0.177 0.019 0.055 0.093
NAS 11.624 3.440 11.703 12.380 13.467
OCF 0.103 0.085 0.062 0.102 0.148
Extraord 0.005 0.071 0.000 0.000 0.000
GCOpinion 0.006 0.076 0.000 0.000 0.000
NewIssue 0.175 0.232 0.051 0.100 0.205
BusyFYE 0.697 0.459 0.000 1.000 1.000
HHI 0.046 0.074 0.009 0.025 0.049

This table presents the descriptive statistics of the main variables used in this study. The sample consists of 11,839 firm-year observations for the period
2004–2015. UWALO is a dummy variable equal to 1 if the auditor includes additional language in the unqualified audit report for a firm in a year; it is zero
otherwise, AuditFees (reported in $ millions) is the total audit fee charged, and AuditDelay is the total number of days between the end of the fiscal year and
the date of the audit report. We use the BOG Index to measure Readability. We provide detailed variable definitions in Appendix A.

4. Results

4.1. Main results

We present results for audit delay in Columns 1 and 2 of Table 3 and unqualified opinion with additional language in
Column 3. We see from Columns 1 and 2, that the coefficient on Readability is positive (coefficient = 0.001 and 0.007 respec-
tively; p-values = 0.007 and 0.000 respectively). These results suggest that lower financial statement readability is associated
with audit delays and higher audit fees. The signs of the control variables are generally consistent with prior research.
We see from Column 3 of Table 3 that the coefficient on Readability is positive (coefficient = 0.002; p-value = 0.000). This
shows that auditors are more likely to issue unqualified opinions with additional language when the financial statements of
the client have lower readability7.

4.2. Addressing potential endogeneity in client characteristics: Propensity score matching

We acknowledge the possibility that firms do not randomly choose a certain readability level when they prepare annual
reports and the choice of readability is endogenous. Prior research indicates that factors such as size and complexity of the
business require more disclosure, which could create systematic cross-sectional differences in the readability of firms’ Form
10-K (Li, 2010). These factors potentially influence audit delays, fees and opinions and we adjust for these factors to ensure
the coefficient for Readability in Eqs. (1)–(3) is unbiased (Shipman et al., 2017). Matching on these variables is an appealing
way to address this problem. This is because matching on observable characteristics eliminates their impact on audit effort
(audit fees and audit delay) and audit opinion, thereby allowing us to estimate the association between audit effort (audit
fees and audit delay), audit opinion and readability more accurately.
Thus, following Tucker (2010), we use a propensity score matched research design and first estimate the following model
to identify the determinants of annual report readability:

7
In untabulated tests, we check the robustness of our results with three other measures of financial statement readability – the FOG Index, length of the
annual report, and file size. We find that our results hold for each of these alternate proxies. We also estimate Eq. (1) above with auditor fixed effects (we
exclude the Big 4 dummy variable for this test) and find that our results continue to hold.

Please cite this article as: B. Blanco, P. Coram, et al., How do auditors respond to low annual report readability?, J. Account. Public Policy,
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Table 2
Correlations.
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26

1 UWALO 1.000
2 AFees ($’ million) 0.108* 1.000
3 AuditDelay 0.062* 0.039* 1.000

B. Blanco et al. / J. Account. Public Policy xxx (xxxx) xxx

(days)
4 Readability 0.057* 0.228* 0.064* 1.000
5 ICMW 0.064* 0.026* 0.351* 0.019 1
6 |DA| 0.016 0.140* 0.079* 0.006 0.037* 1
7 Size 0.050* 0.798* 0.374* 0.035* 0.086* 0.190* 1
8 Leverage 0.035* 0.209* 0.018 0.015 0.031* 0.008 0.263* 1
9 BTM 0.008 0.077* 0.055* 0.010 0.018 0.027* 0.055* 0.151* 1
10 Loss 0.032* 0.085* 0.178* 0.109* 0.112* 0.163* 0.198* 0.120* 0.149* 1
11 AltmanZ 0.059* 0.169* 0.059* 0.054* 0.049* 0.026* 0.109* 0.364* 0.025* 0.234* 1
12 Big4 0.062* 0.323* 0.146* 0.003 0.044* 0.083* 0.336* 0.122* 0.057* 0.095* 0.026* 1
13 MA 0.209* 0.166* 0.144* 0.062* 0.049* 0.048* 0.181* 0.012 0.038* 0.074* 0.002 0.033* 1
14 Business 0.087* 0.366* 0.072* 0.045* 0.000 0.086* 0.292* 0.035* 0.018 0.081* 0.085* 0.108* 0.030* 1
Segments
15 RetVol 0.073* 0.235* 0.178* 0.042* 0.067* 0.182* 0.332* 0.073* 0.106* 0.372* 0.134* 0.129* 0.206* 0.112* 1
16 Foreign 0.024* 0.172* 0.028* 0.087* 0.002 0.019 0.061* 0.028* 0.014 0.022 0.015 0.013 0.085* 0.052* 0.021 1
17 AssetTurn 0.024* 0.102* 0.027* 0.265* 0.015 0.060* 0.128* 0.100* 0.037* 0.068* 0.060* 0.000 0.002 0.010 0.038* 0.125* 1
18 Current 0.041* 0.180* 0.070* 0.098* 0.016 0.183* 0.392* 0.352* 0.056* 0.048* 0.201* 0.152* 0.009 0.113* 0.118* 0.071* 0.286* 1
19 Quick 0.050* 0.272* 0.036* 0.225* 0.019 0.051* 0.315* 0.263* 0.023 0.025* 0.387* 0.140* 0.047* 0.161* 0.040* 0.023* 0.305* 0.414* 1
20 ROA 0.043* 0.051* 0.141* 0.083* 0.072* 0.096* 0.162* 0.161* 0.013 0.487* 0.581* 0.079* 0.042* 0.048* 0.277* 0.012 0.035* 0.013 0.034* 1
21 NAS 0.062* 0.487* 0.143* 0.066* 0.024* 0.093* 0.449* 0.127* 0.082* 0.088* 0.074* 0.276* 0.066* 0.208* 0.171* 0.084* 0.065* 0.111* 0.164* 0.062* 1
22 OCF 0.028* 0.012 0.167* 0.179* 0.094* 0.062* 0.127* 0.156* 0.144* 0.429* 0.346* 0.089* 0.032* 0.024* 0.201* 0.043* 0.095* 0.088* 0.007 0.446* 0.028* 1
23 Extraord 0.057* 0.029* 0.004 0.005 0.011 0.012 0.024* 0.006 0.006 0.005 0.008 0.012 0.023* 0.047* 0.015 0.017 0.008 0.002 0.017 0.003 0.017 0.001 1
24 GCOpinion 0.088* 0.018 0.113* 0.015 0.079* 0.064* 0.062* 0.127* 0.222* 0.131* 0.155* 0.052* 0.002 0.016 0.159* 0.027* 0.008 0.007 0.045* 0.249* 0.034* 0.136* 0.005 1
25 NewIssue 0.002 0.149* 0.105* 0.028* 0.040* 0.113* 0.214* 0.258* 0.032* 0.173* 0.170* 0.125* 0.055* 0.085* 0.181* 0.041* 0.053* 0.033* 0.041* 0.215* 0.108* 0.183* 0.012 0.118* 1
26 BusyFYE 0.021 0.044* 0.001 0.099* 0.004 0.015 0.050* 0.053* 0.028* 0.005 0.012 0.021 0.029* 0.020 0.014 0.022 0.070* 0.113* 0.017 0.005 0.009 0.012 0.014 0.004 0.013 1
27 HHI 0.012 0.012 0.007 0.126* 0.002 0.063* 0.072* 0.075* 0.036* 0.023 0.028* 0.035* 0.009 0.011 0.005 0.099* 0.183* 0.088* 0.159* 0.013 0.032* 0.019 0.001 0.013 0.000 0.007

This table presents the Pearson pairwise correlations between the dependent audit variables and readability measures used in this study. The Table is based on a sample of 11,839 firm-year observations for the
period 2004–2015. We provide detailed variable definitions in Appendix A.
*
Denotes significance at p-value < 0.001.
 B. Blanco et al. / J. Account. Public Policy xxx (xxxx) xxx 7

Table 3
Financial statement readability, audit delay and audit fees.

AuditDelay AFees UWALO

Variable Expected sign Coef. (p-value) Coef. (p-value) Coef. (p-value)
Readability + 0.001** 0.007*** 0.002***
(0.007) (0.000) (0.000)
UWALO + 0.073*** 0.053***
(0.000) (0.000)
AFees + 0.177*** 0.032***
(0.000) (0.000)
AuditDelay + 0.069*** 0.023***
(0.000) (0.000)
ICMW + 1.059*** 0.248*** 0.114***
(0.000) (0.000) (0.000)
|DA| + 0.073 0.245** 0.149
(0.705) (0.044) (0.123)
Size /+ 0.303*** 0.530*** 0.016**
(0.000) (0.000) (0.001)
Leverage + 0.045 0.006 0.023
(0.320) (0.835) (0.312)
BTM ? 0.095*** 0.023** 0.017**
(0.000) (0.005) (0.007)
Loss + 0.071** 0.061*** 0.001
(0.002) (0.000) (0.938)
AltmanZ – 0.003** 0.004*** 0.002**
(0.042) (0.000) (0.043)
Big4 – 0.131*** 0.186*** 0.044***
(0.000) (0.000) (0.000)
MA + 0.002 0.031** 0.002
(0.910) (0.003) (0.773)
BusinessSegments + 0.001 0.017*** 0.000
(0.631) (0.000) (0.755)
RetVol ? 0.472** 0.356*** 0.063
(0.003) (0.000) (0.426)
Foreign + 0.000 0.129*** 0.011
(0.995) (0.000) (0.201)
AssetTurn + 0.066*** 0.087***
(0.000) (0.000)
Current + 0.222*** 0.528***
(0.000) (0.000)
Quick – 0.013** 0.045***
(0.035) (0.000)
ROA 0.073 0.075** 0.006
– (0.204) (0.039) (0.836)
NAS – 0.001 0.022***
(0.616) (0.000)
OCF – 0.421*** 0.454*** 0.108**
(0.000) (0.000) (0.037)
Extraord + 0.134 0.018 0.129**
(0.163) (0.770) (0.008)
GCOpinion + 0.680*** 0.082
(0.000) (0.172)
NewIssue + 0.068** 0.040* 0.036**
(0.041) (0.055) (0.030)
BusyFYE + 0.011 0.067***
(0.473) (0.000)
HHI ? 0.064 0.052 0.080
(0.616) (0.515) (0.215)
Constant 7.272*** 8.736*** 0.800***
(0.000) (0.000) (0.000)
Industry/Year FE Yes Yes Yes
SE clustered by Firm Yes Yes Yes
Observations 11,839 11,839 11,839
Adjusted R2 0.300 0.767 0.392

The Table is based on a sample of 11,839 firm-year observations for the period 2004–2015. We provide detailed variable definitions in Appendix A. This
Table presents the results for the effect of financial statement readability on audit delay, audit fees and unqualified opinion with additional language. These
results are presented in Columns 1–3 of the Table, respectively. We measure Readability by the BOG Index. The coefficient of interest is that on Readability.
*
Represent statistical significances at the 10% levels of significance respectively, based on two-tailed tests.
**
Represent statistical significances at the 5% levels of significance respectively, based on two-tailed tests.
***
Represent statistical significances at the 1% levels of significance respectively, based on two-tailed tests.

Please cite this article as: B. Blanco, P. Coram, et al., How do auditors respond to low annual report readability?, J. Account. Public Policy,
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8 B. Blanco et al. / J. Account. Public Policy xxx (xxxx) xxx

Table 4
The association between audit delay, audit fees and the probability of issuing unqualified opinion with additional language and financial statement readability
with a propensity score matched sample.

Panel A: Descriptive statistics of observable characteristics

DBOG = 1 DBOG = 0 Difference Tests: p-value
n Mean n Mean t-test
ICMW 2,269 0.057 2,269 0.051 0.355
|DA| 2,269 0.041 2,269 0.038 0.186
Size 2,269 7.302 2,269 7.479 0.451
Leverage 2,269 0.190 2,269 0.210 0.165
BTM 2,269 0.498 2,269 0.538 0.521
Loss 2,269 0.178 2,269 0.169 0.176
AltmanZ 2,269 4.370 2,269 4.504 0.185
Big4 2,269 0.900 2,269 0.919 0.275
MA 2,269 0.615 2,269 0.648 0.219
BusinessSegments 2,269 7.373 2,269 7.444 0.645
RetVol 2,269 0.116 2,269 0.119 0.822
Foreign 2,269 0.735 2,269 0.795 0.265
AssetTurn 2,269 1.112 2,269 1.236 0.345
Current 2,269 0.500 2,269 0.436 0.275
Quick 2,269 2.021 2,269 1.932 0.372
ROA 2,269 0.034 2,269 0.040 0.239
NAS 2,269 11.937 2,269 11.608 0.784
OCF 2,269 0.094 2,269 0.110 0.362
Extraord 2,269 0.004 2,269 0.007 0.294
GCOpinion 2,269 0.013 2,269 0.005 0.109
NewIssue 2,269 0.184 2,269 0.159 0.186
BusyFYE 2,269 0.695 2,269 0.736 0.385
HHI 2,269 0.043 2,269 0.050 0.263

Panel B: Descriptive statistics of audit effort and audit opinion

DBOG=1 DBOG=0 Difference Tests: p-value
n Mean n Mean t-test
UWALO 2,269 0.518 2,269 0.473 0.000
AFees 2,269 14.504 2,269 14.304 0.000
AuditDelay 2,269 7.755 2,269 7.693 0.000
Panel C: Multiple regression results
First Step Second Step Second Step Second Step
BOG AuditDelay AFees UWALO
Variable Expected sign Coef. (p-value) Coef. (p-value) Coef. (p-value) Coef. (p-value)
Readability + 0.001** 0.007*** 0.004**
(0.004) (0.000) (0.010)
UWALO + 0.055** 0.046**
(0.016) (0.001)
AFees + 0.241*** 0.046**
(0.000) (0.002)
AuditDelay + 0.093*** 0.030**
(0.000) (0.002)
ICMW + 0.752** 1.187*** 0.216*** 0.144***
(0.001) (0.000) (0.000) (0.000)
|DA| + 1.780 0.020 0.175 0.296
(0.190) (0.950) (0.373) (0.150)
Size /+ 0.463*** 0.339*** 0.541*** 0.020*
(0.000) (0.000) (0.000) (0.064)
Leverage + 0.270 0.080 0.065 0.011
(0.396) (0.260) (0.144) (0.819)
BTM ? 0.292** 0.052** 0.029** 0.014
(0.001) (0.006) (0.015) (0.227)
Loss + 0.847*** 0.083** 0.014 0.025
(0.000) (0.027) (0.557) (0.310)
AltmanZ – 0.069*** 0.001 0.006*** 0.005***
(0.000) (0.686) (0.001) (0.001)
Big4 – 0.483** 0.157*** 0.207*** 0.087**
(0.006) (0.000) (0.000) (0.002)
MA + 0.119 0.019 0.029* 0.007
(0.297) (0.480) (0.075) (0.674)
BusinessSegments + 0.064*** 0.002 0.017*** 0.001
(0.000) (0.525) (0.000) (0.512)

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Table 4 (continued)

Panel C: Multiple regression results

First Step Second Step Second Step Second Step
BOG AuditDelay AFees UWALO
Variable Expected sign Coef. (p-value) Coef. (p-value) Coef. (p-value) Coef. (p-value)
RetVol ? 7.395*** 0.345 0.514*** 0.076
(0.000) (0.137) (0.000) (0.615)
Foreign + 0.204* 0.008 0.155*** 0.022
(0.079) (0.759) (0.000) (0.226)
AssetTurn + 0.807*** 0.103*** 0.084***
(0.000) (0.000) (0.000)
Current + 0.182 0.305*** 0.606***
(0.632) (0.001) (0.000)
Quick – 0.482*** 0.028** 0.043***
(0.000) (0.008) (0.000)
ROA – 1.237** 0.006 0.137** 0.076
(0.002) (0.957) (0.037) (0.272)
NAS ? 0.026 0.001 0.020***
(0.107) (0.972) (0.000)
OCF – 5.985*** 0.320* 0.505*** 0.052
(0.000) (0.061) (0.000) (0.641)
Extraord + 1.796** 0.298** 0.023 0.171*
(0.008) (0.042) (0.799) (0.076)
GCOpinion + 0.961 0.454*** 0.145*
(0.149) (0.001) (0.077)
NewIssue + 0.416* 0.086 0.004 0.050
(0.071) (0.100) (0.891) (0.144)
BusyFYE + 1.533*** 0.018 0.077***
(0.000) (0.490) (0.000)
HHI ? 1.484* 0.298 0.070 0.316**
(0.098) (0.181) (0.615) (0.031)
Constant 83.631*** 6.907*** 8.457*** 0.891***
(0.000) (0.000) (0.000) (0.000)
Industry/Year FE Yes Yes Yes Yes
SE clustered by Firm Yes Yes Yes Yes
Observations 11,839 4,538 4,538 4,538
Adjusted R2 0.225 0.345 0.781 0.048

The Table is based on a sample of 11,839 firm-year observations for the period 2004–2015. We provide detailed variable definitions in Appendix A. We
compare the descriptive statistics for the observable firm characteristics between the low readability sample and the high readability sample in Panel A. We
compare differences in the dependent variables (audit delay, audit fees and audit opinion) in Panel B. We provide the results for the effect of financial
statement readability on audit delay, audit fees and unqualified opinion with additional language estimated on a propensity score matched sample in Panel
B. We show the results of the first-stage estimation of the determinants of Readability in Column 1, and our main results in Columns 2–4 of the Table,
respectively. We measure Readability by the BOG Index. The coefficient of interest is that on Readability.
*
Represent statistical significances at the 10% levels of significance respectively, based on two-tailed tests.
**
Represent statistical significances at the 5% levels of significance respectively, based on two-tailed tests.
***
Represent statistical significances at the 1% levels of significance respectively, based on two-tailed tests.

DBOGit ¼ b0 þ b1 ICMW it þ b2 jDAit j þ b3 Sizeit þ b4 Lev erageit þ b5 BTMit þ b6 Lossit1 þ b7 AltmanZ it þ b8 Big4it
þ b9 MAit þ b10 BusinessSegmentsit þ b11 RetVolit þ b12 Foreignit þ b13 AssetTurnit þ b14 Current it
þ b15 Quickit þ b16 ROAit þ b17 NASit þ b18 OCF it þ b19 Extraordit þ b20 GCOpinionit þ b21 NewIssueit
X X
þ b22 BusyFYEit þ b23 HHIit þ cj Indj þ dt Year t þ it ð4Þ
j t

In Eq. (4) above, DBOGit is a dummy variable equal to 1 if the firm has a BOG Index greater than the median of the dis-
tribution, zero otherwise8. We use the same control variables in Eq. (4) as Eqs. (1)–(3). We form our matched sample based
on the propensity score generated by the first-stage estimation of Eq. (4) on a matched sample. Specifically, within each year,
we identify one control observation with the closest propensity score within a caliper of 0.01, with no replacements for each
firm. Hence, these are firms that are similar in terms of the explanatory variables of Eq. (4). Having obtained a matched sample,
we then estimate Eqs. (1)–(3) in the second stage, to replicate our previous results. We present these results in Table 4.
We first compare the observable characteristics between the poor readability firms and the control firms in Panel A of
Table 4. We note that none of the differences in the observable firm characteristics between the poor readability firms

8
In additional tests, we re-defined DBOG as equal to 1 if the firm’s BOG Index is in the 1st quartile of the distribution; and zero if it is in the 4th quartile of the
distribution (we omit observations in the middle quartiles). This definition of the readability dummy variable imposes a stricter classification of readability. Our
results continue to hold.

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10 B. Blanco et al. / J. Account. Public Policy xxx (xxxx) xxx

Table 5
Financial statement readability, audit delay and audit fees: the effect of Big 4 auditor.

AuditDelay AFees UWALO

Variable Expected sign Coef. (p-value) Coef. (p-value) Coef. (p-value)
Readability + 0.009 0.006** 0.001
(0.221) (0.034) (0.777)
Readability*Big4 + 0.011** 0.002 0.003**
(0.002) (0.398) (0.004)
Joint significance 0.0000 0.0000 0.0001
Big4 – 1.044** 0.003 0.230
(0.003) (0.989) (0.186)
UWALO + 0.072*** 0.053***
(0.000) (0.000)
AFees + 0.176*** 0.032***
(0.000) (0.000)
AuditDelay + 0.069*** 0.023***
(0.000) (0.000)
ICMW + 1.059*** 0.248*** 0.114***
(0.000) (0.000) (0.000)
|DA| + 0.068 0.244** 0.147
(0.726) (0.045) (0.127)
Size -/+ 0.302*** 0.530*** 0.016**
(0.000) (0.000) (0.001)
Leverage + 0.042 0.007 0.022
(0.354) (0.818) (0.332)
BTM ? 0.094*** 0.023** 0.018**
(0.000) (0.005) (0.006)
Loss + 0.071** 0.061*** 0.001
(0.002) (0.000) (0.933)
AltmanZ – 0.003** 0.004*** 0.002**
(0.038) (0.000) (0.041)
MA + 0.003 0.031** 0.002
(0.873) (0.003) (0.794)
BusinessSegments + 0.001 0.017*** 0.000
(0.702) (0.000) (0.716)
RetVol ? 0.473** 0.357*** 0.063
(0.003) (0.000) (0.428)
Foreign + 0.00102 0.129*** 0.011
(0.951) (0.000) (0.189)
AssetTurn + 0.068*** 0.086***
(0.000) (0.000)
Current + 0.219*** 0.529***
(0.000) (0.000)
Quick – 0.013** 0.045***
(0.035) (0.000)
ROA – 0.076 0.074** 0.005
(0.189) (0.040) (0.859)
NAS – 0.009 0.022***
(0.703) (0.000)
OCF – 0.431*** 0.456*** 0.111**
(0.000) (0.000) (0.032)
Extraord + 0.135 0.017 0.129**
(0.160) (0.772) (0.008)
GCOpinion + 0.675*** 0.083
(0.000) (0.166)
NewIssue + 0.063* 0.041** 0.037**
(0.058) (0.050) (0.025)
BusyFYE + 0.012 0.067***
(0.447) (0.000)
HHI ? 0.064 0.052 0.080
(0.617) (0.515) (0.215)
Constant 8.121*** 8.906*** 0.543**
(0.000) (0.000) (0.005)
Industry/Year FE Yes Yes Yes
SE clustered by Firm Yes Yes Yes
Observations 11,839 11,839 11,839
Adjusted R2 0.300 0.767 0.392

The Table is based on a sample of 11,839 firm-year observations for the period 2004–2015. We provide detailed variable definitions in Appendix A. This
Table presents the results for the effect of financial statement readability on audit delay, audit fees and unqualified opinion with additional language. These
results are presented in Columns 1–3 of the Table, respectively. We measure Readability by the BOG Index. The coefficient of interest is that on
Readability*Big4.
*
Represent statistical significances at the 10% levels of significance respectively, based on two-tailed tests.
**
Represent statistical significances at the 5% levels of significance respectively, based on two-tailed tests.
***
Represent statistical significances at the 1% levels of significance respectively, based on two-tailed tests.

Please cite this article as: B. Blanco, P. Coram, et al., How do auditors respond to low annual report readability?, J. Account. Public Policy,
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 B. Blanco et al. / J. Account. Public Policy xxx (xxxx) xxx 11

and control firms are statistically significant. In Panel B of Table 4, we compare the mean differences in the dependent vari-
ables (Eqs. (1)–(3)) – AuditDelay, AFees and UWALO. We find that all the differences in these variables between the treatment
firms and the control group are significant at the 1 percent level. These results, together with those of Panel A suggest that
we have a properly matched sample of treatment and control firms that differ only among dimensions of readability.
Finally, we present results of a two-stage estimation in Panel C of Table 4. Column 1 of Table 4, Panel C shows results for
the first stage estimation9. We note that the coefficient on ICMW is positive (coefficient = 0.752; p-value = 0.0), suggesting that
firms with poor internal controls have less readable annual reports. We note that the coefficient on Size is positive (coefficient =
0.463; p-value = 0.000), suggesting that larger firms have less readable annual reports. The coefficient on Loss is also positive
(coefficient = 0.847; p-value = 0.000), suggesting that loss making firms have less readable annual reports. The Table also shows
that the coefficients on BusinessSegments (coefficient = 0.064; p-value = 0.000), annual return volatility (RetVol) (coefficient = 7.
395; p-value = 0.000), Foreign taxes (coefficient = 0.204; p-value = 0.079), Quick (coefficient = 0.482; p-value = 0.000), and ROA
(coefficient = 1.237; p-value = 0.002) are positive, suggesting that these variables are negatively associated with readability.
Finally, we find that the coefficients on Extraord (coefficient = 1.796; p-value = 0.008), NewIssue (coefficient = 0.416; p-
value = 0.071) and HHI (coefficient = 1.484; p-value = 0.098) are positive. We also find that the coefficients on BTM
(coefficient = 0.292; p-value = 0.001), AltmanZ (coefficient = 0.069; p-value = 0.000) and Big4 (coefficient = 0.483; p-
value = 0.006) are negative. This suggests that low book-to-market firms, firms that are not financially distressed and firms that
are audited by Big 4 auditors have more readable financial statements. Finally, we find that the coefficients on AssetTurn
(coefficient = 0.807; p-value = 0.000), OCF (coefficient = 5.985; p-value = 0.000) and BusyFYE (coefficient = 1.533; p-
value = 0.000) are negative, suggesting that these variables are positively associated with readability.
We then present results for audit effort in Columns 2 and 3 (audit delay and audit fees respectively) and unqualified opin-
ion with explanatory language in Column 4. We note that the coefficients on Readability are positive in all three columns
(coefficient = 0.001, 0.007 and 0.004 respectively; p-value = 0.004, 0.000, and 0.010 respectively). These are consistent with
those in Table 3, and present further empirical support for our previous results.

4.3. Examining whether readability matters more to Big 4 auditors

Previous research confirms that Big 4 auditors have clients with better financial reporting quality. Examples of contexts of
Big 4 auditors demonstrating higher quality are restricting accrual-based earnings management, having clients with more
accounting conservatism in strong enforcement countries, making more timely 8-K filings, having clients with more financial
reporting comparability, and making faster disclosure of auditor changes (Krishnan, 2003; Francis and Wang, 2008; Defond
and Zhang, 2014). Big 4 auditors have greater reputations to protect and are more likely to apply extra audit effort to coun-
teract higher risk associated with lower Form 10-K readability compared to non-Big 4 auditors. We therefore extend our
analysis to determine whether Big 4 auditors moderate our results. We modify Eqs. (1)–(3) by adding an interaction term
(Big4*Readability). We present these results in Table 5. The coefficient on Readability is significant for audit fees
(coefficient = 0.006; p-value = 0.034) but is not significant for audit delay and unqualified opinion with additional language
(UWALO). Big4*Readability is our key variable of interest in this analysis and we find it has significant positive explanatory
power for our audit delay model reported in column 1 (coefficient = 0.011; p-value = 0.002) and unqualified opinion with
additional language (UWALO), (coefficient = 0.003; p-value = 0.004) reported in column 3. This indicates that the Big 4
and non-Big 4 auditors significantly increase audit effort indicated by higher audit fees for Readability. However, the results
for Big4*Readability indicate that increases in audit delay as a measure of audit effort and unqualified opinion with additional
language are driven by Big 4 auditors.

4.4. Excluding firms with going concern opinions

Finally, we replicate our main results by excluding all companies that have language relating to going concern uncertain-
ties because this is a special form of additional language tested in previous research (Abernathy et al., 2019). Results (unt-
abulated) indicate that the coefficient on Readability is positive for all models (coefficient = 0.002, 0.008, and 0.003
respectively; p-value = 0.009, 0.000, and 0.000 respectively), consistent with the results in Tables 3 and 4 above. These
results show that our main results are robust to the exclusion of firms with going concern opinions, lending further confi-
dence to the strength of our main findings.

5. Conclusion

We find that low annual report readability is associated with greater audit risk, captured by greater audit delay and
higher audit fees using the BOG index measure of readability. We also find that auditors communicate low annual report
readability by including additional language in their audit reports.

9
For the sake of brevity, we only present results for BOG. Results for other readability measures of the FOG Index (FOG), length of the annual report (Length),
and annual report file size (Fsize) are similar and are available upon request.

Please cite this article as: B. Blanco, P. Coram, et al., How do auditors respond to low annual report readability?, J. Account. Public Policy,
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12 B. Blanco et al. / J. Account. Public Policy xxx (xxxx) xxx

Our empirical measure for readability has limitations and has been subject to valid criticisms. We limit this problem by
confirming our result using the Gunning-FOG index, length of the annual report (Li, 2008), and size of the annual report
(Loughran and McDonald, 2014). We also use proxies for audit effort by examining audit report lag and audit fees. Obtaining
actual audit effort by measuring billable hours would require data directly from the audit firms and this information is not
publicly available.
Data availability
Data are available from public sources cited in the text.

Acknowledgement

We thank Brian Miller and Sam Bonsall for the BOG index data and comments and suggestions from Chen Chen, Robert
Knechel, Brian Miller, Jonathan Nash, Kenneth Reichelt and Divesh Sharma. We also thank participants from accounting
research seminars at Monash University, and the European Accounting Association (EAA) Annual Congress 2018, the
Accounting and Finance Association of Australia and New Zealand (AFAANZ) Conference 2018 and the American Accounting
Association (AAA) Annual Meeting 2018.

Appendix A. Variable definitions

Variable Definition
Dependent
variable:
UWALO It is a dummy variable taking value of 1 if the firm has an Unqualified with additional language
audit opinion, and 0 if the firm an Unqualified audit opinion.
AFees Natural logarithm of audit fees paid by the client to the external auditor in Tables 2 and later;
audit fees (in $000) in Table 1.
AuditDelay The number of days from the fiscal year end to the audit report date in Table 1. The square root of
the number of days from the fiscal year end to the audit report date in Tables 2–5.
Independent
variable:
Readability We use the BOG Index to measure financial reporting readability (Readability).
Other variables:
|DA| Absolute value of discretionary accruals are computed using the modified Jones model (Dechow
et al., 1995). Appendix 2 describes this measure in detail.
Size The natural logarithm of total assets
Leverage The total debt (short-term and long-term) divided by total assets.
BTM The book value of shareholder’s equity divided by the market value of equity.
Loss It is a dummy variable taking value of 1 if the net income in the current year is negative, and 0
otherwise.
AltmanZ Proxy for risk of financial distress calculated based on Altman (1968). It is calculated from the
formula: 1.2 T1 + 1.4 T2 + 3.3 T3 + 0.6 T4 + 0.999 T5, where, T1 is working capital scaled by total
assets, T2 is retained earnings scaled by total assets, T3 is Earnings before interest and taxes scaled
by total assets, T4 is market value of equity scaled by book value of total liabilities, and T5 is sales
scaled by total assets.
Big4 Dummy variable that is equal to 1 if the external auditor is a Big4 and 0 otherwise.
MA Dummy variable that take the value of 1 if the company had an acquisition that contributed to
sales and zero otherwise.
BusinessSegments The number of business segments.
Foreign A dummy variable equal to 1 if the firm reported foreign taxes, and 0 otherwise.
RetVol Annual return volatility, calculated as the standard deviation of daily stock returns, measured over
the fiscal year.
AssetTurn Sales divided by total assets.
Current The ratio of current assets to total assets.
Quick The ratio of current assets less inventory to current liabilities.
NAS The ratio of non-audit services to audit fees.
OCF Total cash flow from operations scaled by total assets.
Extraord A dummy variable equal to 1 if the firm reported any extraordinary items in the income
statement, and 0 otherwise.

Please cite this article as: B. Blanco, P. Coram, et al., How do auditors respond to low annual report readability?, J. Account. Public Policy,
https://doi.org/10.1016/j.jaccpubpol.2020.106769
 B. Blanco et al. / J. Account. Public Policy xxx (xxxx) xxx 13

Appendix A. (continued)

Variable Definition
GCOpinion A dummy variable equal to 1 if the firm received a modified going-concern opinion, and 0
otherwise.
NewIssue Total long-term debt and equity issued during the year, scaled by total assets.
BusyFYE A dummy variable equal to 1 if the client’s fiscal year-end is in either December or January, and 0
otherwise.
Age The number of years since the firm’s appearance on the CRSP monthly return file.
SI The amount of special items, scaled by total assets.
EarnVol The standard deviation of the operating earnings during the prior five fiscal years.
GeographicSegments Logarithm of the 1 + number of geographic segments.
NItems A measure of financial complexity defined as logarithm of the number of non-missing items in
Compustat.
SEO A dummy variable equal to 1 if the firm had a seasoned equity offering during the year, and 0
otherwise.
DLW A dummy variable equal to 1 if the firm is incorporated in Delaware, and 0 otherwise.
HHI Herfindahl-Hirschman Index, measured as the sum of the squared market share (defined as the
ratio of the firm’s sales to that of the industry) of firms operating in the same 2-digit SIC code each
year.
DBOG A dummy variable equal to 1 if the firm had a BOG Index greater than the median for the
distribution and 0 otherwise.

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