Comparability and Cost of Capital

• In Event: Financial Accounting & Reporting # 4
  In Paper Session: Financial Accounting and Reporting # 4

Abstract

This paper investigates the association between financial statement comparability and equity cost of capital. One implication of the modeling found in Lambert, Leuz and Verrecchia [2012] is that comparability has the greatest effect on the cost of capital when markets are imperfect and information risk is the highest. Consistent with this modeling, we investigate associations between comparability and cost of capital for the unrestricted case, the case where equity shares trade in imperfect markets, and the case where both information asymmetry is high and market competition is imperfect. As predicted by Lambert et al. [2012], our results suggest that comparability has the strongest association with cost of capital when equity shares trade in imperfect markets in an environment of high information asymmetry. Our findings contribute to research on the decision usefulness of financial information, and specifically to research on financial information comparability (e.g., Bradshaw et al. [2009], De Franco et al. [2011], Lang et al. [2010]).We also contribute to recent research examining the circumstances under which information risk is likely to impact a firm’s cost of capital (Lambert et al. [2012], Armstrong et al. [2011]).

Authors

• Michael J Imhof, Wichita State University

• Scott E Seavey, University of Nebraska–Lincoln

• David B Smith, University of Nebraska–Lincoln