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Master's Thesis from the year 2012 in the subject Economics - Finance, grade: 5.5, University of Zurich (Department of Banking and Finance), course: Economics and Finance, language: English, abstract: Does voluntary disclosure quality pay off? And if so, what are the driving forces behind the relationship of voluntary disclosure quality and the cost of equity capital? This study addresses these and other questions in the context of analyzing the determinants of the cost of equity capital for Swiss firms. The relation between voluntary disclosure quality and cost of equity capital is widely known to be affected by self-selection. Potential endogeneity bias is controlled for by adopting a two-stage least squares approach in a cross-sectional setting. Voluntary disclosure quality is proxied by the annual reports disclosure scores for a well-diversified sample of Swiss firms as developed by the Department of Banking and Finance of the University of Zurich. Further, an ex-ante cost of capital metric derived from the dividend discount model is used in this study. Empirical evidence shows that the association between voluntary disclosure quality and cost of equity differs with a firm's stock listing history. While the relation is predicted to be negative for firms at the IPO stage, it is likely reversed at some point in a firm's stock listing history. These results suggest that analysts' information processing activities negatively moderate the impact of voluntary disclosure quality on firm value. Importantly, the predicted interaction between voluntary disclosure quality and stock listing history remains significant when adjusting for endogeneity.
The study analysed the relationship between accounting disclosure, both mandatory and voluntary, on the cost of equity capital for listed companies in the Egyptian exchange. The focus is on analysing this relationship in one of the emerging capital markets where there is a paucity of research analysing this issue. To achieve this aim, two self-constructed disclosure indices for mandatory and voluntary disclosure were used to measure the level of disclosure in Egypt. The cost of equity capital was measured based on three methods identified in the literature, namely the capital asset pricing model (CAPM), the Fama-French three factor model, and the industrial earnings-price ratio. To analyse the effect of accounting disclosure on the cost of equity capital, each of the cost of equity measurement methods was regressed on mandatory and voluntary disclosure scores, alternatively, and some controls that are identified in the literature to affect the association between the two variables. The control variables used were firm size, leverage, book-to-market ratio, profitability, liquidity, and sales growth. As a robustness check, a composite measure of the three cost of equity methods was used and the effect of the control variables was excluded from the analyses. To control for the existent endogeneity in the explanatory variable, accounting disclosure, a dynamic panel system of the generalized method of moments (SGMM) was used in the regression analyses. Using a sample of 657 firm year observations for 73 firms across 11 industries for nine years from 2008 to 2016, the study found a significant negative association between voluntary disclosure level and cost of equity capital, however, the study found a significant positive association between mandatory disclosure level and cost of equity capital. The results of the study could benefit various parties including researchers, regulators, and investors. It provides a motivation to researchers interested in analysing this association in Egypt and other emerging markets besides providing these researchers with a suitable data set to measure disclosure and cost of equity capital in Egypt. Regulators could benefit from the results of the study through identifying the shortcomings that need to be overcome to improve the disclosure environment in Egypt. Investors could use the results of the study as a data source in making investment decisions in Egypt.
Bachelor Thesis from the year 2015 in the subject Business economics - Investment and Finance, grade: 1.0, accadis Hochschule Bad Homburg, course: Final Thesis, language: English, abstract: The potential relation of increased levels of corporate disclosure on a firm’s cost of capital remains of great importance, both from a research-focussed and business- oriented point-of-view; however, the existence of methodological drawbacks has led to ever more complex studies, which eventually made the literature vast and confusing for outside readers. The purpose of this thesis was to organise and thereby simplify the different perspectives on a dynamic issue. It is argued that, in theory, enhanced transparency levels the marketplace by spreading information more equally among investors. Consequently, the information asymmetry component is mitigated, which translates into lower levels of estimation risk, transaction costs and default risk. After all, theoretical studies provided evidence that increased disclosure lowers the costs of capital. However, since neither of the involved components is directly observable, a myriad of approaches emerged to approximate actual figures. Although most of these proxies follow similar patterns, it is argued that none of the present approaches is free from constraints, which, in turn, affects the reliability of existing empirical studies. Research, after all, still lacks a generally accepted and holistic approach to the present day. In this context, one of the most recent findings provides a new and rather praxis-oriented perspective, by arguing that firms and investors are merely interested in a good-practice level of disclosure. Regardless of the perspective, an ultimate conclusion has yet to be revealed by the literature and it seems illusory that academics and practitioners agree on one approach in the future. Nevertheless, the contribution of this thesis was merely to structure and simplify the current state of a dynamic issue. The author therefore used easy to understand graphics and tables and linked the findings to related fields of research, where necessary.
A lower cost of equity capital is believed by some to be a benefit of greater voluntary disclosure. I examine this association by regressing cost of capital on beta firm size and a self-constructed disclosure index based on the level of voluntary disclosure provided by 122 manufacturing firms in their 1990 annual reports. The results suggest that for lightly followed firms greater voluntary disclosure reduces cost of equity capital. No such association is found for heavily followed firms. I obtain firm-specific cost of equity capital estimates from an accounting based valuation formula. This approach incorporates forecast data thereby yielding an estimate of expected cost of equity capital and avoiding the noise arising from ex-post deviations from expected value. The association between the cost of equity capital estimates thus obtained and market beta is positive; its correlation with market value is negative. An examination of the internal consistency of the disclosure index and its association with firm characteristics identified in prior research to be correlated with annual report disclosure level provide support for the claim that the index is a valid and reliable measure of disclosure level.
The relationship between disclosure quality and cost of equity capital is an important topic in today's economy and generally, economic theory and anecdotal evidence suggest a negative association. Empirical work on this link, however, is confronted with major methodological drawbacks - neither disclosure level nor cost of capital can be observed directly - and has documented somewhat confounding results so far. Adopting a finite horizon version of the residual income model, I provide evidence on the nature of the above relationship and try to quantify the effect of a firm's voluntary disclosure policy on its implied cost of capital. Switzerland seems especially suited for an analysis of this kind given that Swiss firms have considerable reporting discretion and the mandated level of disclosure is low. For a cross-sectional sample of 73 non-financial companies I show a negative and highly significant association between the two variables. The magnitude is such that the most forthcoming firms enjoy about a 1.8% to 2.4% cost advantage over the least forthcoming firms. The findings persist even after controlling for other potentially influential variables, e.g. risk characteristics and firm size. Furthermore, adjusting for self-selection bias - a major concern in disclosure studies - the results are generally consistent with the main hypothesis although at lower levels of statistical significance. One reason for the strong relationship might be found in differing institutional factors between the US and the Swiss capital markets.
This review lays out a research perspective on earnings quality. We provide an overview of alternative definitions and measures of earnings quality and a discussion of research design choices encountered in earnings quality research. Throughout, we focus on a capital markets setting, as opposed, for example, to a contracting or stewardship setting. Our reason for this choice stems from the view that the capital market uses of accounting information are fundamental, in the sense of providing a basis for other uses, such as stewardship. Because resource allocations are ex ante decisions while contracting/stewardship assessments are ex post evaluations of outcomes, evidence on whether, how and to what degree earnings quality influences capital market resource allocation decisions is fundamental to understanding why and how accounting matters to investors and others, including those charged with stewardship responsibilities. Demonstrating a link between earnings quality and, for example, the costs of equity and debt capital implies a basic economic role in capital allocation decisions for accounting information; this role has only recently been documented in the accounting literature. We focus on how the precision of financial information in capturing one or more underlying valuation-relevant constructs affects the assessment and use of that information by capital market participants. We emphasize that the choice of constructs to be measured is typically contextual. Our main focus is on the precision of earnings, which we view as a summary indicator of the overall quality of financial reporting. Our intent in discussing research that evaluates the capital market effects of earnings quality is both to stimulate further research in this area and to encourage research on related topics, including, for example, the role of earnings quality in contracting and stewardship.
This paper examines the direct effect of internal control quality (ICQ) on cost of equity capital and whether the former has a moderating effect on the association between voluntary disclosure and cost of equity capital in an emerging market (Egypt). ICQ is measured using a survey of external auditors. A content analysis approach is used to proxy for the level of voluntary disclosure in annual. Finally, the Capital Asset Pricing Model (CAPM) framework is used to estimate cost of equity capital. Based on a sample of 256 firm-year observations over the period of 2007-2010, we find that ICQ is negatively and significantly associated with cost of equity capital indicating that better controls reduce cost of capital. In addition, ICQ moderates the association between voluntary disclosure and cost of equity capital since this association is only negative and significant for companies characterized by high ICQ. Our study contributes to the internal control literature by focusing on an emergent unregulated market with respect to internal control disclosure and documents that ICQ plays an important role in reducing cost of equity capital (either directly or indirectly) by increasing the value relevance of voluntary disclosure among investors on the Egyptian stock exchange.
In this paper we conjecture that the weak association between disclosure and cost of equity capital found in the literature (Botosan, 1997) can be caused by the high level corporate disclosure environment found in the US. We hypothesize that in low level corporate disclosure environments the variability in disclosure practices across firms will be larger than in the US and consequently the marginal effect of voluntary disclosure policies will be higher. Using a newly developed Brazilian Corporate Disclosure Index (BCDI) our results confirm this hypothesis. Disclosure is strongly associated with ex ante cost of equity capital for Brazilian firms. The results are more pronounced for firms with less analyst coverage and low ownership concentration as expected.