Information Asymmetry, Information Precision, and the Cost of Capital

By Richard A. Lambert, Christian Leuz, Robert E. Verrecchia. 2008

589 citations recorded by the source corpus.

The consequences of information differences across investors in capital markets are still much debated. This paper examines the relation between information differences across investors and the cost of capital, and makes three points. First, in models of perfect competition, information differences across investors affect a firm's cost of capital through investors' average information precision, and not information asymmetry per se. Second, the average precision effect of information that is heterogeneously distributed across investors is unlikely to diversify away when there exist many firms whose cash flows covary. Thus, better disclosure can reduce a firm's cost of capital. Third, the precision effect does not give rise to a separate information-risk factor. These points are important to empirical research in accounting and finance, as well as to regulators who debate future disclosure requirements and the consequences of prior requirements such as Regulation Fair Disclosure.

Subfields: Accounting, Finance

View Paper: https://www.semanticscholar.org/paper/8509f5dccdeeb25c159b36c2ca7066ac0f74c8b6

How researchers see this paper

The researchers whose trusted networks rank it highest, strongest advocate first. Every researcher gets a different order.

In Accounting

In Finance

Citations in the corpus

Accruals Quality, Information Risk and Cost of Capital: Evidence from Australia (2009, background): “In contrast, Lambert et al. (2007) ∗The authors are respectively from UQ Business School, University of Queensland, Australia; Department of Accounting, Hong Kong University of Science and Technology, Hong Kong; and Nanyang Business School, Nanyang Technological University, Singapore.”
Financial statement comparability and credit risk (2013, unknown): “Lambert et al. (2012) find that information asymmetry does not affect the cost of capital for a given level of information precision when competition is perfect.”
The Economics of Disclosure and Financial Reporting Regulation: Evidence and Suggestions for Future Research (2015, background): “Finally, there is a direct link between disclosure and the cost of capital (or expected returns) arising from estimation risk (e.g., Brown, 1979; Barry and Brown, 1984, 1985; Coles and Loewenstein 1988, Jorgensen and Kirschenheiter, 2003; Hughes et al., 2007; Lambert et al. 2007, 2012).”
Crowdfunding social ventures: a model and research agenda (2013, unknown): “One important aspect for financing social ventures has been almost neglected so far in literature; the trustworthiness of social entrepreneurs is regarded to be much higher due to the primacy of the social aim, and thus the costs of fraudulent risk should be reduced in theory (Lambert et al. 2012).”
Earnings Smoothness, Average Returns, and Implied Cost of Equity Capital (2010, unknown): “Leuz et al. (2003) view earnings smoothing as a device used by insiders to obfuscate their consumption of private control benefits.”
Direct and Mediated Associations among Earnings Quality, Information Asymmetry, and the Cost of Equity (2012, methodology): “Our reading of the literature (e.g., Hughes et al. 2007, Lambert et al. 2008) suggests that some kind of capital market imperfection or friction is required to support a link between information asymmetry and the cost of equity.”
When Does Information Asymmetry Affect the Cost of Capital (2011, background): “Further, other work shows that once one controls for average precision, information asymmetry has no effect on the cost of capital in perfect competition settings (Lambert, Leuz, and Verrecchia, 2010).”