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| Type | Master's Thesis |
| Scope | Discipline-based scholarship |
| Title | The Impact of Corporate Disclosures on the Implied Cost of Capital |
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| Institution | University of Zurich |
| Faculty | Faculty of Economics, Business Administration and Information Technology |
| Number of Pages | 45 |
| Date | 2016 |
| Abstract Text | The association between disclosure quality and cost of equity capital is an important topic in accounting research. The main challenge lies in that both disclosure quality and cost of equity capital are subjective in nature and not easy to measure (Botosan, 1997; Luzi, 2002). Prior empirical research demonstrates both negative and positive relationship between the two variables, and implies that the results would heavily depend on the methodologies used to proxy for disclosure quality and cost of equity. Though there is a vast empirical literature on different measures of disclosure quality, little attention has been given to the disaggregation level of accounting data items in the financial reports (Chen et al., 2015). Adopting a similar disaggregation model as proposed in Chen et al (2015), I quantify the disclosure quality level by counting on the non-missing Compustat line items on balance sheets of firms’ annual reports. Disclosure quality index (DQ) constructed in this way covers almost all the accounting line items appeared on balance sheets of annual reports, mitigating researchers’ subjectivity which tends to put more weights on certain items or aspects of a firm. Moreover, this methodology is applicable for the overall Compustat industrial firms and can be easily replicated for later studies (Chen et al., 2015). For the dependent variable, I adopt an infinite horizon version of the residual income model and derive the implied cost of capital as a proxy for cost of capital. Before setting up the final regression model, I conduct several validation tests to further verify the model-generated proxies for disclosure quality and cost of capital, respectively. For a cross-sectional sample of all the non-financial U.S. firms in Compustat from fiscal year 1997 to 2011, this paper finds that increase in disclosure quality results in a decreased implied cost of equity capital. This significant negative relationship continues to hold and the model’s explanatory power increases after controlling for firm size, risk factors and book-to-market ratio. |
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