The Hidden Value of Employee Pay Disclosures Evidenced through Cost of Capital

Abstract

Voluntary disclosure theory suggests a firm increasing its disclosures should lower the information asymmetry component of its cost of capital. However, empirical results on specific disclosures are mixed because individual disclosures may not provide enough value to investors in disclosure rich environments. Salary expense disclosures, unlike some other cost disclosures, may provide insight into increasing firm risk leading to an increased cost of capital, as employee pay has been shown to increase in response to leverage increases. We examine whether salary expense disclosures provide valuable information to investors, as measured through a disclosing firm’s cost of capital, and we find that firms that disclose salary expense receive a lowered cost of capital if they are disclosing more stable cost structures and that the value of this disclosed information relates to the relative risk associated with the disclosed cost structures. We also find the propensity for firms to initiate disclosure increases as more analysts follow the firm, and these initiating firms receive a lower cost of capital in exchange for their initial disclosure. Additionally, this lower cost of capital for initial disclosers is not based on the relative stability of the disclosed cost structure.