Abstract This paper examines the relation between information differences across investors (i.e., information asymmetry) and the cost of capital and establishes that with perfect competition information asymmetry makes no difference. Instead, a firm’s cost of capital is governed solely by the average precision of investors’ information. With imperfect competition, however, information asymmetry affects the cost of capital even after controlling for investors’ average precision. In other words, the capital market’s degree of competition plays a critical role for the relation between information asymmetry and the cost of capital. This point is important to empirical research in finance and accounting.

Richard A. Lambert, David F. Larcker, An Analysis of the use of Accounting and Market Measures of Performance in Executive Compensation Contracts, Journal of Accounting Research, Vol. 25, Studies on Stewardship Uses of Accounting Information (1987), pp. 85-125

ABSTRACT In this paper we examine whether and how accounting information about a firm manifests in its cost of capital, despite the forces of diversification. We build a model that is consistent with the Capital Asset Pricing Model and explicitly allows for multiple securities whose cash flows are correlated. We demonstrate that the quality of accounting information can influence the cost of capital, both directly and indirectly. The direct effect occurs because higher quality disclosures affect the firm's assessed covariances with other firms' cash flows, which is nondiversifiable. The indirect effect occurs because higher quality disclosures affect a firm's real decisions, which likely changes the firm's ratio of the expected future cash flows to the covariance of these cash flows with the sum of all the cash flows in the market. We show that this effect can go in either direction, but also derive conditions under which an increase in information quality leads to an unambiguous decline in the cost of capital.

Management control, Moral Hazard, Just-in-Time management, Motivation

[This paper provides an analysis of the association between the accounting gain produced by an equity-for-debt swap and executive compensation. Our results suggest that the executives of firms completing a swap transaction experience an increase in cash compensation (salary plus bonus). The increase is largest both in absolute magnitude and in statistical significance for firms whose compensation plans are more "accounting-oriented" (i.e., firms whose executives would be expected to experience the greatest increase in compensation under the hypothesis that firm's compensation plan is not adjusted for the accounting gain produced by the swap). We also find that, on average, the value of the executives' personal equity holdings decreases in the period surrounding the announcement of the swap. The magnitude of this decrease is, on average, comparable in size to the increase in their compensation. However, there is some weak evidence that executives of firms whose compensation plans are more "accounting-oriented" experience a statistically significant increase in their total wealth (i.e., the sum of excess compensation and the value of personal equity holdings) as a result of the swap transaction.]

Abstract ABSTRACT: Prior work has examined models in which the reciprocal cost allocation method yields allocation rates that are equal to the marginal costs of operating service departments. We extend this work by analyzing more general production functions for service departments and by incorporating uncertainty. The results demonstrate that the allocation rates derived from the reciprocal cost allocation method are random variables that, in general, are not equal to the expected marginal costs of operating the service departments. In particular, the reciprocal cost allocation rates are biased estimates of these expected marginal costs if any of the service departments operate at a point on their production functions at which the marginal physical product is not equal to the average physical product of their inputs. We also analyze three econometric procedures that provide consistent estimates of the marginal costs. The simulation results indicate that the standard deviations of these estimators are considerably larger than those of the reciprocal cost allocation rates. Because the estimates of the marginal costs provided by the reciprocal cost allocation method have a greater degree of bias, but a lower standard deviation than the estimates provided by the other methods, none of the methods provide estimators that are unambiguously best. Factors that affect the magnitudes of the bias and relative efficiency of the reciprocal cost allocation rates are also discussed.

Richard A. Lambert, William N. Lanen, David F. Larcker, Executive Stock Option Plans and Corporate Dividend Policy, The Journal of Financial and Quantitative Analysis, Vol. 24, No. 4 (Dec., 1989), pp. 409-425

The paper examines the determinants and performance consequences of equity grants to senior-level executives, lower-level managers, and non-exempt employees of “new economy” firms. We find that the determinants of equity grants are significantly different in new versus old economy firms. We also find that employee retention objectives, which new economy firms rank as the most important goal of their equity grant programs, have a significant impact on new hire grants, but not subsequent grants. Our exploratory performance tests indicate that lower than expected grants and/or existing holdings of options are associated with poorer performance in subsequent years.