CORPORATE GOVERNANCE OF FINANCIAL INSTITUTIONS
THE JOURNAL OF FINANCE • VOL. LXVII, NO. 1 • FEBRUARY 2012
Information Disclosure and Corporate
Governance
BENJAMIN E. HERMALIN and MICHAEL S. WEISBACH∗
ABSTRACT
Public policy discussions typically favor greater corporate disclosure as a way to reduce firms’ agency problems. This argument is incomplete because it overlooks that better disclosure regimes can also aggravate agency problems and related costs, including executive compensation. Consequently, a point can exist beyond which additional disclosure decreases firm value. Holding all else equal, we further show that larger firms will adopt stricter disclosure rules than smaller firms and firms with better disclosure will employ more able management. We show that mandated increases in disclosure could, in part, explain recent increases in both CEO compensation and
CEO turnover rates.
A RESPONSE TO RECENT corporate governance scandals, such as Enron and
Worldcom, has been the imposition of tougher disclosure requirements. For example, Sarbanes-Oxley (SOX) requires more and better information: more, for instance, by requiring reporting of off-balance sheet financing and special purpose entities, and better by its increasing the penalties for misreporting. In the public’s (and regulators’) view, improved disclosure is good.
This view is an old one, dating at least to Ripley (1927) and Berle and Means
(1932). Indeed, there are good reasons why disclosure can increase the value of a firm. For instance, reducing the asymmetry of information between those inside the firm and those outside can facilitate a firm’s ability to issue securities and consequently lower its cost of capital.1 Fear of trading against those
∗ Benjamin Hermalin is with the University of California, Berkeley. Michael Weisbach is with the Ohio State University. We thank the seminar and conference participants at the University of
California; University of Chicago Law School; University of Illinois; La Trobe University
Information Disclosure and Corporate
Governance
BENJAMIN E. HERMALIN and MICHAEL S. WEISBACH∗
ABSTRACT
Public policy discussions typically favor greater corporate disclosure as a way to reduce firms’ agency problems. This argument is incomplete because it overlooks that better disclosure regimes can also aggravate agency problems and related costs, including executive compensation. Consequently, a point can exist beyond which additional disclosure decreases firm value. Holding all else equal, we further show that larger firms will adopt stricter disclosure rules than smaller firms and firms with better disclosure will employ more able management. We show that mandated increases in disclosure could, in part, explain recent increases in both CEO compensation and
CEO turnover rates.
A RESPONSE TO RECENT corporate governance scandals, such as Enron and
Worldcom, has been the imposition of tougher disclosure requirements. For example, Sarbanes-Oxley (SOX) requires more and better information: more, for instance, by requiring reporting of off-balance sheet financing and special purpose entities, and better by its increasing the penalties for misreporting. In the public’s (and regulators’) view, improved disclosure is good.
This view is an old one, dating at least to Ripley (1927) and Berle and Means
(1932). Indeed, there are good reasons why disclosure can increase the value of a firm. For instance, reducing the asymmetry of information between those inside the firm and those outside can facilitate a firm’s ability to issue securities and consequently lower its cost of capital.1 Fear of trading against those
∗ Benjamin Hermalin is with the University of California, Berkeley. Michael Weisbach is with the Ohio State University. We thank the seminar and conference participants at the University of
California; University of Chicago Law School; University of Illinois; La Trobe University
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