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Endogenous governance transparency and product market competition

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  • Hidalgo-Cabrillana, Ana

Abstract

This paper endogenizes both the choice of governance transparency at the firrm level and the portfolio decisions of investors. ln the model, managers raise money in financial markets that are subject to imperfections arising from the non-observability of output for financiers. Investors, on the other hand, observe a signal correlated with returns. Formal contracting are needed to prevent expropriation of the investor`s wealth by the manager. The contract endogenously determines the nature and formation of the cost and benefits of voluntary disclosure. Managers optimally decide on the quality of the signal —used here as the measure of governance transparency- trading off the possibility of expropriating profits against the opportunity to raise more capital. We show that one important driving force behind governance transparency is product market competition: tougher competition translates into lower frictions on the capital market, since investors have better possibilities for portfolio diversification. Managers react to this loss of bargaining power by increasing transparency. Furthermore, firms characterized by low corporate profits or firms where investor protection is strong at the country level will be more likely to avoid voluntary disclosure regimes.

Suggested Citation

  • Hidalgo-Cabrillana, Ana, 2010. "Endogenous governance transparency and product market competition," UC3M Working papers. Economics we1021, Universidad Carlos III de Madrid. Departamento de Economía.
  • Handle: RePEc:cte:werepe:we1021
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    More about this item

    Keywords

    Corporate governance;

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G34 - Financial Economics - - Corporate Finance and Governance - - - Mergers; Acquisitions; Restructuring; Corporate Governance

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