Reduced disclosure and default risk: analysis of smaller reporting companies

Shiyan Yin (), Kai Yao (), Thanaset Chevapatrakul () and Rong Huang ()
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Shiyan Yin: University of Nottingham
Kai Yao: Southwestern University of Finance and Economics
Thanaset Chevapatrakul: University of Nottingham
Rong Huang: University of Nottingham

Review of Quantitative Finance and Accounting, 2024, vol. 63, issue 1, No 12, 355-395

Abstract: Abstract We examine the causal effect of reduced disclosure levels on the risk of default. Employing regression discontinuity (RD) design as our main identification strategy and the smaller reporting company rule (SRC rule) as the exogenous source of variation, we show that smaller reporting companies (SRCs), which are permitted to provide scaled disclosures in their 10-Ks, experience significantly and economically higher default risk. We demonstrate that, while there is no effect of information loss if a smaller reporting company voluntarily maintains its disclosure level by continuing to report its financial performance in full, there is an increase in its default risk due to the loss of commitment to mandatory disclosure. We also find that, compared to previously qualified SRCs, newly qualified smaller reporting companies face steeper increases in bankruptcy risk during their first year of eligibility. Our analysis indicates that strong external oversight mechanisms, better corporate governance, and credible audit quality attenuate the negative impact of reduced disclosure levels on the risk of default. Our results are robust to alternative model specifications, RD design assumptions, and measures of default risk.

Keywords: Smaller reporting company rule; Disclosure; Default risk; Regression discontinuity design (search for similar items in EconPapers)
JEL-codes: G28 G32 G33 G38 M41 M49 (search for similar items in EconPapers)
Date: 2024
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DOI: 10.1007/s11156-024-01262-8

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