Disclosure Quality, the Cost of Capital and Strategic Correlation

19 Pages Posted: 23 Jun 2014

See all articles by Adrian (Wai-kong) Cheung

Adrian (Wai-kong) Cheung

Flinders University

Wei Hu

Department of Finance and Banking, Curtin University

Date Written: June 14, 2014

Abstract

We investigate the strategic role of correlation between disclosure error and payoff shock in affecting a firm’s cost of capital or share price. We show that the correlation affects the relationship between disclosure quality and the cost of capital or share price. The standard result where disclosure quality unambiguously lowers the firm’s cost of capital or share price can be observed only in the case where the correlation is zero. In the extreme case where the correlation is perfect, disclosure quality does not affect the cost of capital or share price. When compared to other non-perfect correlation cases, the extreme case where the correlation is perfect results in, on average, a higher share price. This implies that the firm can achieve a higher share price by influencing the correlation (i.e., making it nonzero) and suggests a new way as to how the effectiveness of a disclosure should be evaluated.

Keywords: Cost of capital, disclosure quality, strategic correlation

JEL Classification: G10, G14

Suggested Citation

Cheung, Adrian and Hu, Wei, Disclosure Quality, the Cost of Capital and Strategic Correlation (June 14, 2014). CRAE Research Paper No. 02062014. Available at SSRN: https://ssrn.com/abstract=2456127 or http://dx.doi.org/10.2139/ssrn.2456127

Adrian Cheung (Contact Author)

Flinders University ( email )

GPO Box 2100
Adelaide S.A. 5001, SA 5063
Australia
+618 8201 5831 (Phone)

Wei Hu

Department of Finance and Banking, Curtin University ( email )

Kent Street
Bentley
Perth, WA WA 6102
Australia

Register to save articles to
your library

Register

Paper statistics

Downloads
89
Abstract Views
423
rank
290,395
PlumX Metrics