Financial Reporting in 1920: The Case of Industrial Companies

Article excerpt

Abstract: This study uses the 1920 Moody's Analysis of Industrial Investments to assess the extent of financial reporting by U.S. industrial companies. The reporting of an income statement and a balance sheet, as well as the amount of disclosure in both of these statements, is examined empirically to determine which economic factors influence this reporting. The results show that corporate-governance, operating, and financing factors all significantly influence the reporting of financial statements and the extent of disclosure within those statements. However, the significant factors vary across the two financial statements and the two decisions considered (reporting a particular statement and the amount of disclosure within the statement to report). All factors are shown to influence significantly the decision to report both a balance sheet and an income statement and the amount of information to report in a balance sheet. The decision regarding the amount of information to report in an income statement is only influenced by corporate-governance and operating factors.


Prior to the formation of the Securities and Exchange Commission (SEC) and accounting standard-setting bodies, financial reporting for U.S. industrial companies was not regulated at the federal level. Companies were free to choose their own reporting policies. Financial reporting focused primarily on the balance sheet [Kittredge, 1901; Sprague, 1901; Gilman, 1939; Skinner, 1987; Kendig, 1993]. However, a number of companies did report income statements although few details of income components were included [Lee, 1979; Morris, 1984; Baldwin et al., 1992]. This study will examine empirically the factors that influenced these companies to disclose financial statements voluntarily and the amount of disclosure contained within those statements.

Coombs and Edwards [1995] developed a model for disclosure as a function of the market for disclosure and regulation. This market included investor demand for information for decision making and firms supplying disclosure to attract capital. The role of regulation in this model is to ensure that the supply of disclosure does not fall short of demand. The authors note that regulation has taken on an increasing role during the 20th century. This model, then, recognizes the need for regulation to ensure adequate disclosure.

Bartlett and Jones [1997] examine motivations for voluntary disclosure in an environment where securities regulation exists. The paper concludes that the amount of voluntary disclosure is primarily attributable to the philosophy of the chairman of the Board of Directors (BD) and the chief financial officer (CFO). They found the main reasons to provide voluntary disclosure were to meet social pressure, to demonstrate responses to social pressure to prevent regulation, and to manage the corporate image. These same motivations for voluntary disclosure may also exist in an era prior to securities regulation.

Merino and Neimark [1982] report that, in the late 19th century, U.S. businesses promised more voluntary disclosure to reduce the lack of competition and centralization of economic power when faced with political threats. This increase in voluntary disclosure was not adequate, and federal legislation was proposed annually from 1903-1914 and occasionally from 1919-1930. The increase in voluntary disclosure that did occur was a response to social pressure to prevent regulation.

Prior to 1897, most industrial securities were traded through the use of trust certificates. (1) After 1897, stock in individual companies was marketed but issued through promoters who gave shareholders confidence in the quality of the investment. (The promoters often were selling watered securities of little value, but the public was unaware and had faith in the promoters.) By 1902, shares of industrials were regularly traded on exchanges [Navin and Sears, 1955] which required investors to perform their own analyses of companies or to rely on rating agencies for investment advice. …