Disclosure Regimes and Corporate Decisions around Initial Public Offerings

Abstract

This paper analyzes the impact of different disclosure regimes on corporate decision-making during initial public offering. Specifically, it examines how disclosure rules affect firms' incentives to acquire forward-looking information, their disclosure practices and investment strategies. The disclosure regimes examined are Non-Disclosure, Voluntary, and Mandatory Disclosure Regimes. The analysis yields a number of insights. It shows that a Non-Disclosure Regime for management forecasts, as what's found in the US, can impair firms' ability to reduce information asymmetry through disclosure. By depriving firms of the opportunity to convey private information to investors, such a policy results in undervaluation of firms with profitable prospects and overvaluation of firms with poor growth potentials. Misvaluation also alters the conditions under which firms make their investment decisions. In particular, investors' overvaluation can give firms incentives to invest in negative NPV projects. Furthermore, a non-disclosure rule reduces equity-issuing firms' incentives to acquire valuable productive information. However, the other two disclosure regimes also have their own distortions. Both overinvestment and underinvestment can occur under the Voluntary Disclosure Regime. In addition, with the discretion to disclose, firms tend to excessively acquire information so that they can strategically use it in the later offerings. The Mandatory Disclosure Regime has the highest price efficiency, but it also imposes burden on firms to produce information to meet the disclosure requirement. Finally, a welfare analysis shows that each of the three disclosure regimes can emerge as the socially optimal regime under some conditions.