Disclosure Level and the Cost of Capital

THE ACCOUNTING REVIEW, Vol 72, No 3, July 1997

Posted: 19 Mar 1997

See all articles by Christine Botosan

Christine Botosan

Financial Accounting Standards Board

Abstract

The effect of disclosure level on the cost of equity capital is a matter of considerable interest and importance to the financial reporting community. However, the association between disclosure level and cost of equity capital is not well established and has been difficult to quantify. In this paper I examine the association between disclosure level and the cost of equity capital by regressing firm-specific estimates of cost of equity capital on market beta, firm size and a self-constructed measure of disclosure level. My measure of disclosure level is based on the amount of voluntary disclosure provided in the 1990 annual reports of a sample of 122 manufacturing firms. For firms that attract a low analyst following, the results indicate that greater disclosure is associated with a lower cost of equity capital. The magnitude of the effect is such that a one unit difference in the disclosure measure is associated with a difference of approximately twenty-eight basis points in the cost of equity capital, after controlling for market beta and firm size. For firms with a high analyst following, however, I find no evidence of an association between my measure of disclosure level and cost of equity capital perhaps because the disclosure measure is limited to the annual report and accordingly may not provide a powerful proxy for overall disclosure level when analysts play a significant role in the communication process.

JEL Classification: M41, G12, D80

Suggested Citation

Botosan, Christine, Disclosure Level and the Cost of Capital. THE ACCOUNTING REVIEW, Vol 72, No 3, July 1997, Available at SSRN: https://ssrn.com/abstract=2926

Christine Botosan (Contact Author)

Financial Accounting Standards Board ( email )

401 Merritt 7
PO Box 5116
Norwalk, CT 06856
United States

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