Suil Pae, Acquisition and Discretionary Disclosure of Private Information and Its Implications for Firms' Productive Activities, Journal of Accounting Research, Vol. 37, No. 2 (Autumn, 1999), pp. 465-474

This paper analyzes a setting, where firms could have private information from various sources and disclose a selective subset of that information. Investors have uncertainty about how much information firms have. Using a stylized model where there are two signals about a firm's future value and the firm may be privately informed of none, one, or all of those signals, this paper establishes an equilibrium link between the cutoff value characterizing the partially informed firm's disclosure strategy and the partition of the signal space characterizing the fully informed firm's disclosure strategy. The paper also discusses potential extensions of the model.

This paper studies a competitive asset market characterized by an adverse selection problem. The analysis focuses on the link between the market participants’ productive activities and discretionary disclosures. While informed parties’ discretion over disclosure allows them to earn private gains, it leads to an inefficient allocation of resources. A more informative signal makes the informed parties better off, but reduces the uninformed parties’ welfare. Nonetheless, it improves the economy's allocative efficiency. The paper also shows that when the signal quality is endogenous, the informed parties over-invest in the signal informativeness relative to the level that maximizes social welfare.

ABSTRACT Managerial career concerns could affect firm efficiency through financial reporting quality, but this important link has received relatively little attention in the literature. The present study examines this link by developing a model that has the following elements. A risk‐neutral manager provides effort to increase the market value of the firm and to favorably influence the market assessment of the manager's ability. Depending on the magnitude of career concerns, the manager either underinvests or overinvests effort relative to an efficiency‐maximizing level. The analysis identifies conditions under which higher‐quality reporting induces the manager to invest more effort. Under these conditions, the model is extended to a setting in which the manager also chooses the quality of financial reporting at some cost. In doing so, managers seek to reduce distortion in their effort investment. The equilibrium reporting quality and effort investment are determined by a trade‐off between them. In the presence of high uncertainty about the firm's future cash flows, if the manager's career concerns exceed a threshold the manager underinvests in reporting quality and overinvests effort. The empirical implication is a negative relation between managerial career concerns and financial reporting quality. To a large extent, this is consistent with findings in prior empirical studies. Thus, the present study offers a theoretical explanation for the empirical findings as an equilibrium outcome.

This paper examines the private and social optimality of full disclosure of private information in a two‐period oligopoly model. An incumbent firm is privately informed about the market demand and its production cost after operating as a monopolist in the first period, and then competes against an entrant in the second period. Two main results are derived. First, it is shown that the incumbent is best off by pre‐committing to disclose both the demand and cost information. By disclosing full information, the incumbent nullifies its self‐defeating intertemporal incentives, which arise whenever it has private information about the market demand, its cost efficiency, or both. In addition, the equilibrium output variance is the largest under full disclosure, which benefits the incumbent ex ante. Second, the paper shows that the incumbent’s full disclosure of the demand and cost information may or may not be desirable from a social efficiency standpoint. In particular, the correlation between the firms’ production costs is crucial to the rank of disclosure policies in terms of their impact on social efficiency.

This paper presents a model of an entrepreneur's acquisition and voluntary disclosure of precision information as a supplement to primary disclosure of an estimate of a tradable asset's value. Our analysis shows that equilibrium disclosure can be characterized by four regions. For estimates above (below) the prior expectation of the asset value, the entrepreneur discloses only high (low) precision information. The main idea is to enhance (diminish) confidence in estimates that improve upon (detract from) prior beliefs. We further show that the entrepreneur over-invests in the acquisition of precision information due to the option value of discretion over disclosure.

This paper presents a model in which a firm's owner, an auditor, and outside investors strategically interact. The owner's investment in the quality of the firm's internal control system and the auditor's effort jointly affect the informativeness of the auditor's report on the firm's financial statements. If the auditor's legal liability to investors is large, then an efficiency loss arises because the owner underinvests in the internal control system and the auditor overinvests effort. On the other hand, if the liability is small, then an efficiency loss arises from the owner's overinvestment and the auditor's underinvestment. Regulators can improve allocative efficiency by changing the auditor's legal liability. However, in our model, it is impossible to completely eliminate the efficiency loss by changing the auditor's liability alone, because no damage award can induce both the owner and auditor to make socially optimal investments in the internal control system and audit effort. We also interpret recent changes in the regulatory environment in the context of our model.