Information Disclosure, Real Investment, and Shareholder Welfare

This paper investigates the preferences of a firm’s current and future shareholders for the quality of mandated public disclosures. In contrast to earlier studies, our analysis takes into account the effect of the quality of public information on the firm’s internal investment decisions. We show that while the firm’s investment is monotonically increasing in the quality of public information, the welfare of the firm’s current shareholders can be maximized by an imperfect disclosure regime. In particular, the current shareholders prefer an intermediate level of public disclosures if (i) the firm’s current assets in place are small relative to its future growth opportunities, and either (ii) the firm’s investment is observable by the stock market and sufficiently elastic with respect to the cost of capital, or (iii) the firm’s investment is not directly observable by the stock market and is sufficiently inelastic with respect to the cost of capital. The welfare of the firm’s future shareholders is increasing in the quality of public disclosures if the growth rate in the firm’s operations during their period of ownership is sufficiently high. JEL Codes: D53, E22, G12, M41.