Market Valuation of Risk Reporting: The Role of Business Model Disclosure

Abstract

Narrative risk reporting is essential to providing investors with information about company risks. Recent regulations require large companies to disclose narrative information about their main risks, opportunities, and business model (BM) value drivers. While only minimum disclosure requirements are defined, principle‐based guidelines have suggested that companies contextualize risk disclosure by linking it to BM information. Hence, this study investigates the level of integration of BM reporting and risk reporting, and the consequences of such an integration on market values. This research analyzes the annual reports of a sample of UK‐listed companies over four years. Risk disclosure indexes are developed to capture the quality and integration of risk information, and value‐relevance analyses are carried out to investigate the impact of risk reporting on market values. The analyses indicate that narrative risk information is value relevant only when integrated with BM reporting. Additional analyses show that risk information is associated with reduced information asymmetry but only when disclosed risk factors are related to BM information. Hence, BM disclosure can serve as a filter to identify and interpret the most relevant company's risks. The results are valuable to various stakeholders, including academics, standard setters, and professional bodies. The study's policy implications suggest the need to develop guidelines clarifying the definitions of BM and risk and ways to integrate the narrative information, in light of recent regulatory developments in the EU.