Accounting for words: Financial Performance as a driver of Managers’ Discussion in 10-Ks

Abstract

This paper examines the impact of topics extracted from annual 10-K reports that are contextually focused by managers on the financial performance indicators of the firms. The paper goes beyond the conventional tone-based sentiment analysis and uses topic modelling to identify five economically significant themes in the Management Discussion and Analysis (MD&A) section with the help of Latent Dirichlet Allocation (LDA). We use a sample of publicly listed companies in the United States, and the dependence of financial ratios and managerial discussion content is investigated by a dynamic System Generalized Method of Moments (System GMM) model. The results indicate that the financial performance is selective in managerial disclosure. The profitability and efficiency indicators have a strong impact on the income, growth, and cost-related stories, whereas liquidity and solvency measures show a weak ability to explain. The performance in the market influences cost of operation discourses, as opposed to profitability discourses. Comprehensively, the findings reveal that the thematic organization of disclosures is strategically adjusted by the managers based on underlying financial conditions, which provides novel information about the role of narrative reporting in capital markets.