Determinants of voluntary corporate disclosure- review of

literature.

Submitted by

Ashutosh Mishra

Division: C

Roll No: 18010224182

Batch: 2018-2023

Of

Symbiosis Law School, NOIDA

Symbiosis International (Deemed University)

In

September, 2020

Under the guidance of

Prof. Rajnish Jindal

ABSTRACT
“This project focuses on the corporate disclosure and throws light upon voluntary corporate
disclosure and its determinants. After introducing the topic to the readers, the learner has
given brief idea about the various theories for the voluntary disclosure for the readers to get a
better understanding of the determinants discussed later in the literature reviews. Then the
researcher has tried to explain the determinants through various literature reviews. The
learner only has given the hypothetical approach to the determinants. Due to the limited time,
the researcher has left the empirical research. The learner has taken the literature reviews
which were focussed on the developing countries since there are limited researches on the
developed countries as compared to the developing countries.”
Keywords: Voluntary Disclosure, literature review, research, determinants.

INTRODUCTION
“Transparency is one of the important pillars on which corporate governance stands. Another
pillar is disclosure. Disclosure is defined as” “the communication of economic information,
whether financial or nonfinancial, quantitative or otherwise concerning a company’s financial
position and performance.” “In this corporate financial world, the word disclosure means
revealing all the data about a company and all such data/information shall be revealed which
may influence the decision of the investor. It reveals all the positive and the negative data,
operational details that affects the running of the business of the company. The objective of
disclosure is quite similar to that of the disclosure in law as the concept is that all the
interested parties shall have equal access to all the facts related to the company as there shall
be no discrimination and fairness shall prevail.”
“There are two types of Corporate Disclosures. They are classified as mandatory and
voluntary disclosure. Mandatory disclosure is the type of disclosure where the company
reveals the information as per the requirements of the laws whereas mandatory disclosure is
defined as” “free choices on the part of company managements to provide accounting and
other information deemed relevant to the decision needs of users of their annual reports.”
“Moreover, voluntary disclosure may include disclosure which is recommended by an
authoritative code or body.”
Therefore, voluntary disclosure, in contrast to mandatory disclosure, relies completely in
managements hands. They are the ones who decide what, when and how much to publish.
They have a full control over what will be known to the public and have to decide what
would be the best option for their firm1.

RELEVANT CHAPTERS

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THEORIES OF THE VOLUNTARY DISCLOSURE
“Agency Theory: The agency relationship ca be defined as a contract under which one or
more persons (the principals) engage another person (the agent) to perform some service on
their behalf which involves delegating some decision-making authority to the agent. Agents
correspond to managers, whereas principals correspond to shareholders from a companies’
perspective.”
“Signalling theory: Although the signalling theory was originally developed to clarify the
information asymmetry in the labour market, it has been used to explain voluntary disclosure
in corporate reporting. As a result of the information asymmetry problem, companies signal
certain information to investors to show that they are better than other companies in the
market for the purpose of attracting investments and enhancing a favourable reputation.
Voluntary disclosure is one of the signalling means, where companies would disclose more
information than the mandatory ones required by laws and regulations in order to signal that
they are better.”

“Capital need theory: Companies aim to attract external finance to increase their capital,
either by debt or equity. The capital need theory suggests that voluntary disclosure helps in
achieving a company’s need to raise capital at a low cost. The reduction in a company’s cost
of capital is achieved when investors are able to interpret the company’s economic prospects
through voluntary disclosure.”

“Legitimacy theory: Legitimacy theory debates companies have a social contract with the
society, and thus provides greater levels of voluntary disclosure in order to ensure compliance
with the regulations and ethics of that society, where mandatory disclosure is not enough.
Since the legal theory is based on the perception of society, management has to disclose
information that would change the opinion of external users about their company. The annual
report has been revealed as a significant source of legitimacy 2. Legitimisation can happen
both out of mandatory disclosures-disclosures made in the financial statements due to
regulations, where voluntary disclosures made in other sections of the annual report.”

DETERMINANTS OF THE VOLUNTARY CORPORATE

DISCLOSURE- LITERATURE REVIEW
Corporate governance, voluntary disclosure and financial
performance: ban empirical analysis of Saudi listed firms3
In this article the author has mentioned the determinants of voluntary disclosure in two parts.
The first part is the positive/motivating determinant (which affect the company positively)
and the second part is constraint or negatively affecting determinants.

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 Motivating Determinant

“Capital markets transactions/ information asymmetry”

“When a company’s managers want to issue new capital through equity or debt, the
perception of investors towards information asymmetry between managers and those outside
investors needs to be reduced. As a consequence, the cost of external financing and capital
should be decreased. Voluntary information disclosure can help achieve this objective, where
a reduction in information asymmetry may occur when voluntary disclosure is increased to
outside investors.”

“Corporate control contest”

“The possibility of a firm’s undervaluation is another motive for managers to increase
voluntary disclosure in order to reduce such a possibility, especially when poor earnings and
stock performance might lead to the risk of job loss, for example, the case of poor stock
performance associated with chief executive officer’s turnovers. As a result, managers
increase information disclosure as in order to retain corporate control, to explain the reasons
for poor performance and reduce the possibility of undervaluing the company’s stocks.”

“Stock compensation”
“Rewarding managers with stock-based compensation plans, such as stock appreciation rights
and stock option grants, is another motive for increased voluntary information disclosure.”

“Increased analyst coverage”

“Increased voluntary disclosure of information decreases the cost of information acquisition
by analysts since management’s private information is not totally required by mandatory
disclosure. The number of analysts following the company would increase as a result of
increasing the amount of information available to them.”

“Management talent signalling”

“Investors’ perception of managers’ ability to predict future changes in the company’s
economic environment and respond to them is one of the determinants of a company’s market
value. Accordingly, talented managers voluntarily disclose information about earnings
forecasts to reveal their talent4.”

Constraints on voluntary disclosure

“Disclosure precedent”

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“Setting a disclosure precedent is one of the factors that reduce voluntary information
disclosure, as it means that managers have to maintain the same pattern in the future,
although this may be difficult to preserve.”

“Proprietary costs”
“Proprietary information can be described as any information whose disclosure potentially
alters a firm’s future earnings gross of senior management’s compensation including
information that may decrease customer’s demand for a company’s products. Accordingly,
managers favour not to disclose information that may affect the competitive position of their
company in a market, even if this would increase the associated cost of capital. It can be said
that proprietary costs represent the competitive disadvantage 5. Managers can be expected to
disclose aggregate performance information when their company has different performance
across its segments. On the other hand, firms with similar declining profitability across its
segments will disclose more segment information.”

Agency costs
“The agency issues are one of the reasons beyond reduced voluntary disclosure. Managers’
desire to keep away from potential attention and follow up from stockholders and
bondholders about unimportant items, such as career concerns and external reputation, is one
of the factors that limit voluntary disclosure.”

Political costs”
“Generally speaking, managers prefer not to disclose voluntary information that regulators
might use against them. According to the author, political costs depend on the firm’s size.
Large companies with high profits are more likely to decrease voluntary information
disclosure level, to avoid being subject to any political attacks such as the threat of
nationalisation and to reduce the expected attention that would be drawn based on high
reported profits. Income taxes are also among the political costs incurred, which depend
heavily on the reported profits; the higher the reported profits, the more taxes on business
profits (political costs) being paid by a firm.”

“Litigation costs”
“Litigation can be considered as a motivation to increase disclosure or a constraint against
disclosure. On one hand, managers are encouraged to increase voluntary disclosure not to be
subjected to legal actions against them resulting from untimely or inadequate disclosures.”

Theories and Determinants of Voluntary Disclosure (Accounting

and Finance Research Volume 3, No. 1)6

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“The following literature reviews on the board of directors’ characteristics and ownership
structures that can influence voluntary corporate disclosure. These are independent directors,
board size, audit firm size, the presence of a corporate governance committee, government
ownership, institutional ownership, and director ownership.”

“A. Board of Directors’ Characteristics”

“The characteristics of the board of directors are important in determining voluntary
corporate disclosure. In this study, the corporate governance mechanisms investigated
include: (i) independent directors; (ii) board size; (iii) audit firm size; and (iv) the presence of
a corporate governance committee. Both theoretical and empirical literature regarding the
relationship between these mechanisms and corporate disclosure is, therefore, reviewed in the
following subsections.”

Proportion of Independent Directors and Voluntary Corporate Disclosure

“In recent years, independent boards have received much attention from corporate
governance regulations and academic research. Agency theory suggests that independent
boards have a greater capacity to limit managerial opportunism. An independent board has
the capacity to protect shareholders and help reduce agency costs. Agency theory also
predicts that the presence of independent directors can reduce information asymmetry.
Similarly, independent board membership can enhance good governance by providing a
better representation of stakeholders’ interests. The author argue that independent directors
can support the board and committees through their knowledge and experience. In addition,
they are better able to monitor managers but also takes the example of the article 7 which
suggests that a high proportion of independent directors on the board may lead to excessive
managerial monitoring, which could potentially hinder managerial initiatives.”

“Corporate Board Size and Voluntary Corporate Disclosure”

“From an agency theory perspective, shareholders expect a high level of disclosure from the
board of directors, as they have been selected to represent their interests. Agency theory
proposes that board size is a crucial factor in monitoring management behaviour. The author
argues that increased managerial monitoring positively affects voluntary disclosure. He
indicates that the existence of experienced, knowledgeable and independent directors is
related to board size. Thus, due to the complexity of their activities, large firms are more
likely to have a larger number of directors in order to improve firm monitoring and control.”
“In contrast, increasing the number of directors may lead to poor communication, co-
ordination and interaction among directors which may adversely affect the accountability of
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the directors and management. Similarly, he argues that CEOs of large boards may be easily
controlled by an overbearing CEO due to issues of poor communication and excessive
director free-riding.”
Audit Firm Size and Voluntary Corporate Disclosure
“Although firms’ management is fully responsible for the content of disclosure, agency and
stakeholder theories predict that audit firms can influence the level and quality of corporate
governance disclosure. Audit firms are an external corporate governance mechanism
important in monitoring managers by examining firm financial performance and disclosure. It
can be argued that audit firms can limit agents’ opportunistic behaviour, which may help
reduce agency conflicts. Therefore, it can be argued that the quality of external auditing can
improve the level of corporate governance disclosure. It is found that large audit firms (big-
four) have better auditing performance standards than small audit firms. Therefore, large
audit firms are more likely to have highly experienced, trained and qualified auditors.”
The Presence of a Corporate Governance Committee and Voluntary Corporate
Disclosure
The presence of a corporate governance committee is one of the recommendations recently
made by a number of corporate governance codes. The main purpose of the committee is to
help implement corporate governance standards, which can increase voluntary corporate
disclosure. Stakeholder theory is based on the notion that the role of corporate governance is
to protect stakeholders and shareholders equally. Thus, the presence of a corporate
governance committee can further protect stakeholders’ rights. Furthermore, the presence of a
corporate governance committee can reduce variations in information, sending a signal to the
market about the company’s commitment to good corporate governance practices.

“B. Ownership Structure and Voluntary Corporate Disclosure”

“Ownership structure is found to be an important determinant of better governance practices.
The theoretical expectation is that large shareholders have the ability to monitor managers,
which can enhance governance practices, including voluntary disclosure. The discussion in
this subsection focuses on four types of ownership structures: (i) government ownership; (ii)
institutional ownership; and (iii) board ownership.”
“Government Ownership and Voluntary Corporate Disclosure”
“From a stakeholder theory perspective, state (government) ownership is a key factor
influencing corporate governance disclosure, particularly in emerging countries where
concentrated ownership structures are widespread. The author argues that agency problems
are more likely to arise with large ownership, such as government ownership. In addition, it
has been argued that government ownership normally leads to intervention by the
government in the running of the firm, which can lead to poor corporate governance
practices. For example, a government can use its power to appoint directors and CEOs,
regardless of the individuals’ qualifications and experience8.”

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“In contrast, stewardship theory predicts that CEOs and executive directors may not be
affected by government ownership because their interests are aligned with those of every
corporate owner. Specifically, CEOs seek to improve firm performance with the aim of
improving their own future job opportunities, as well as protecting their own reputations.
From a resource dependence theory perspective, however, government ownership may grant
access to critical resources, such as finance, government contracts and tax subsidies, which
can improve firm performance and disclosure.”
“Institutional Ownership and Voluntary Corporate Disclosure”
“Institutional investors are capable of monitoring firms and helping to improve corporate
governance disclosure. Agency theory predicts that monitoring is useful in reducing conflicts
of interest between directors and investors. The author suggests that institutional investors
have a much stronger incentive to protect their investment, especially if exit is costly.
Therefore, the presence of institutional shareholders ensures that a degree of accountability
exists between shareholders and top management. This suggests that the presence of
institutional ownership can reduce agency costs.”

“Director Ownership and Voluntary Corporate Disclosure”

“The importance of director ownership stems from the significant role that the board of
directors plays regarding corporate governance disclosure policies. From an agency theory
perspective, the relationship between director ownership and voluntary corporate disclosure
is not conclusive9. The author argues that directors may seek to maximise their wealth by
using inside information only in matters where their own interest is served, and not
necessarily for the best interests of the firm.”

CONCLUSION
“Corporate disclosure is a broad area consisting of mandatory and voluntary disclosures
about a company and its operations. A thorough understanding of the conceptual and
regulatory framework of corporate disclosure is essential before going for analysing the
disclosure practices of Indian companies. The conceptual framework of corporate disclosure
is intended to be a collection of fundamental concepts on which accounting and reporting
standards are based. Disclosures made over and above the mandatory minimum are referred
to as voluntary disclosure. They are disclosed purely at the company's discretion to provide
accounting and other information deemed relevant to the decision needs of users of their
annual reports.”
“This paper provided a snapshot of the theoretical aspect of voluntary disclosure. Theories
related to voluntary disclosure that are commonly used through the literature include agency
theory, signalling theory, capital need theory, and legitimacy theory. Future research is still
needed by the researcher since no consensus is found regarding certain aspects of voluntary
disclosure such as its relationship with the cost of capital.”

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“The reviews of this project provide some insights about the complementary and substitutive
relationships between Corporate Governance and Voluntary Disclosure. Future research can
also include the empirical research and extend to analyse some other institutional factors like
investors’ protection rights and legal enforcement, which might also have played some role in
influencing the relationship between Corporate Governance and Voluntary Disclosure.
Furthermore, it is also evident from the review that Board Size and Board Independence are
the most commonly studied Corporate Governance attributes in relation to Voluntary
Disclosure, whereas attribute like audit committee independence, despite their theoretical
relevance and practical importance are least studied in relation to Voluntary Disclosure, thus
signalling the need to focus on these attributes in future studies.”

REFERENCE

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