The Effect of Financial Statement Incomparability on Investment Decisions

Abstract

I use standard setters’ description of comparability to conceptualize two forms of incomparability in financial reporting. Using a laboratory experiment, I construct states of both comparability and incomparability and investigate investors’ capital allocation decisions under each. Benchmarking against states of comparable reporting, I find that incomparable reporting making different economics look alike results in lower-quality investment decisions, relative to incomparable reporting making similar economics look different. My evidence suggests the difference in investment quality is due to the reduced ability of supplemental disclosures to compensate for one type of incomparability relative to the other type. The study uses a setting holding other reporting characteristics, such as faithful representation, constant, and results are robust to alternative configurations of incomparability. Collectively, my results suggest that the type of incomparability has differential effects on the quality of investment decisions. My findings should inform standard setters aiming to help users allocate capital.