This paper shows how the existence of disclosure-related costs offers an explanation for why a manager exercise discretion in disclsing information even though traders have rational expectations about his motivation to withhold unfavorable reports. In effect, disclosure-related costs introduce noise by extending the range of possible interpretations of withheld information to include news which is actually favorable. Therefore, traders are unable to interpret withheld information as unambiguously ‘bad new’ and thereby discount the value of the firm to the point that the manager is better served to disclose what he knows.

Auditing, Internal controls, Audit judgement, Human information processes

The Sharpe-Lintner Capital Asset Pricing Model (CAPM) has always contained an implicit question: what if all investors are single-period wealth maximizers but the length of the single period varies across investors? Gressis, Philappatos, and Hayya (GPH) [7] have pointed out that as the assumption of investment horizon length is changed, the Capital Market Line (CML) intersects the Efficient Frontier (EF) at different points causing different investors to hold different efficient portfolios. GPH assert that these different portfolio holdings will result in an inefficient market portfolio—and dire consequences for the capital market model.

Black and Scholes [1] derived the pricing equation for a European put when the stock price follows geometric Brownian motion. For this same case, Merton [5] derived the pricing equation for an American put with infinite time to maturity. Brennan and Schwartz [2], Rubinstein and Cox [7], and Parkinson [6] have developed numerical solutions for the price of an American put. Numerical solutions are expensive and do not provide much intuition. Naturally, an analytic solution would be much preferred; unfortunately, pricing the American put requires solving a formidable and presumably intractable boundary value problem.

The original Black-Scholes (BS) [2] European call option pricing model does not take account of divided payments on the underlying stock and does not allow for the possibility of early exercise that may be optimal when the stock pays dividends. Black [1] has suggested that the original BS model can be modified to take account of dividends and Sharpe [14] predicts that this modified or pseudo-American BS approach, “while not exact, is probably sufficient for many listed options.”

Capital Budgeting, Investments, Opportunity costs, Decision making