Global Accounting Standards, Financial Statement Comparability, and the Cost of Capital

Abstract

This paper studies how financial statement comparability affects the cost of capital and investor welfare. We show that the cost of capital decreases with comparability if and only if the quality of accounting standards is sufficiently high, thus supporting the relative importance of comparability as proposed in the Conceptual Framework. We also find that current investors and new investors have different demands for comparability. The welfare of current investors increases in comparability, while the welfare of new investors decreases in comparability. Moreover, the effects of comparability on the cost of capital and investor welfare are enhanced when firms’ idiosyncratic accounting measurements are highly volatile and/or correlated. These basic findings hold in both an exchange economy and a production economy, but there is a certain threshold of investment cost above which the cost of capital and the welfare of new investors decreases with comparability in a production economy. These findings are helpful in understanding the role of comparability and have implications for the global convergence of accounting standards.