Income Statement Presentation and Information Asymmetry: International Evidence

Abstract

This study investigates how income statement presentation format affects information processing by financial analysts and investors. While many jurisdictions around the world permit firms to classify expenses either by function or by nature, the capital market consequences of this presentation choice remain unclear. I predict that the nature-of-expenses format, which omits cost of sales, imposes greater information acquisition and processing costs on analysts. Consistent with this view, the results show that fewer analysts provide gross profit margin forecasts for firms using the nature-of-expenses format, and that these forecasts exhibit lower accuracy and greater dispersion compared to those for firms using the function-of-expenses format. In contrast, evidence also indicates that a nature-based breakdown of expenses is associated with lower information uncertainty among investors. Bid-ask spreads, idiosyncratic risk, and short interest are lower for firms that classify expenses by nature rather than by function. Collectively, these findings suggest that although the nature-of-expenses format may obscure cost of sales information, the more detailed breakdown of expenses under this approach helps investors more effectively process firm-specific information.

Keywords: financial statement presentation, income statement, expense classification, analyst forecasts, information asymmetry