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Voluntary disclosure and corporate innovation

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Abstract

We examine whether a firm’s voluntary disclosures, proxied by management earnings forecasts, affect its innovation activity. A firm making more disclosures generates fewer patents and lower-quantity patents. Enactment of SOX is applied as a natural experiment for an exogenous shock to voluntary disclosure. Corporate innovation is reduced for accelerated filers, especially after SOX becomes effective. Nondedicated institutional ownership, R&D spillover, and rival firms’ innovation are higher for accelerated filers after SOX. There is more of a negative effect of voluntary disclosure on innovation activity when product markets are highly competitive, industry information diffusion is speedy, and disclosures are more informative.

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Notes

  1. We choose management earnings forecasts as a proxy for studying the relation between voluntary disclosure and firm innovation for three main reasons: First, forward-looking information of earnings can improve investors’ understanding of firm performance (Graham et al. 2005). Second, the timing of the management earnings forecast is generally known. Therefore, it is possible to assess changes in outcome variable before or after the management forecasts (Kim and Shi 2011). Third, forecasts of earnings are more directly confirmed by audited outcomes than is the case for more qualitative disclosures such as product market strategies (Ball et al. 2012).

  2. An example of Microchip Technology Inc. show that investors/competitors can really learned from management earnings forecasts (see the disclosure in the appendix). Steve Sanghi, Microchip's president and CEO, issued an optimistic earnings guidance because the production advantages and strong demand in the markets. Competitors can learn from this guidance that enables them to gauge a firm’s assessment of demand projections, the additional resource commitments required, the effect on the firm’s current product line-ups, product/technology combination, and so on, and to modify their subsequent innovation decisions.

  3. Unlike Cao et al. (2016) who investigate the impact of SOX on innovation, we investigate the impact of management voluntary disclosure on innovation by using SOX as a quasi-natural experiment to address the potential endogeneity of disclosure decision. We also go further than Cao et al. (2016) by distinguishing accelerated filers from nonaccelerated filers of SOX Sect. 404 and by proposing and testing the channels through which innovation is affected.

  4. For institutional investor classification, see Brian Bushee’s website (cct3.wharton.upenn.edu/faculty /bushee).

  5. For example, the negative relation between voluntary disclosure and innovation in a firm may be due to higher ex-ante proprietary costs that lead to both fewer voluntary disclosures (e.g., Verrecchia 1983; Hayes and Lundholm 1996) and greater ex-post innovation activity.

  6. The PCAOB replaced Auditing Standard No. 2 (AS2) with AS5 with the goal of increasing ICFR audit efficiency and effectiveness (PCAOB 2007b). Regulators and researchers subsequently noted that fewer accelerated filers disclosed ineffective internal controls, leading them to question whether ICFR audits under AS5 have become less effective (e.g., SEC 2009; Rice and Weber 2012; PCAOB 2013).

  7. Unlike previous authors, we do not use $75 million public float as the cut-off between accelerated and nonaccelerated filers because our purpose is to examine whether preparing Sect. 404 reports spurs management earnings forecasts. Even some small firms with less than $75 million public float voluntarily disclose 404 auditor reports, and they still engage in the same internal control evaluation process as large firms. Thus, we also consider them as accelerated filers.

  8. Our results are unaffected by matching with replacement.

  9. The results using the propensity score matching approach are consistent with our findings using the generalized difference-in-differences method. Detailed results are reported in Table 2 of the Internet Appendix.

  10. Our results are similar if industries are classified using the Fama–French 48 industry system.

  11. R&D incoming and outgoing spillovers capture different concepts of R&D spillover where the directions of knowledge flow are opposite (Cassiman and Veugelers 2002; Chen et al. 2013).

  12. In an untabulated analysis, following Hou (2007), we calculate industry-level information diffusion using industry average size, analyst coverage, institutional ownership, and turnover. These alternative definitions do not change our conclusion.

  13. We thank Kogan et al. (2017) for making these data available.

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Acknowledgements

We thank Konan Chan, Hung-Kun Chen, Yan-Shing Chen, Dosoung Choi, **-Chuan Duan, Frank C. Jen, Wei-Chuan Kao, Cheng-few Lee, Woan-lih Liang, Ji-Chai Lin, Shin-Huei Wang, K.C. John Wei, and conference and seminar participants at the 2017 International Conference on Challenge and Perspective on Data Analysis and National Taiwan University for helpful comments and suggestions. Our work was financially supported by the Center for Research in Econometric Theory and Applications (Grant no. 108L900202) from The Featured Areas Research Center Program within the framework of the Higher Education Sprout Project by the Ministry of Education (MOE) in Taiwan. Chia-Wei Huang and Yanzhi Wang gratefully acknowledges financial support from Ministry of Science and Technology in Taiwan.

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Authors and Affiliations

  1. Department of Finance, College of Management, National Taiwan University, 1, Section 4, Roosevelt Rd., Taipei City, Taiwan

    Sheng-Syan Chen

  2. Department of Finance, College of Commerce, National Chengchi University, 64, Section 2, ZhiNan Rd., Taipei City, Taiwan

    Chia-Wei Huang

  3. Nanyang Business School, Nanyang Technological University, 50 Nanyang Avenue, Singapore, 639798, Singapore

    Chuan-Yang Hwang

  4. Department of Finance, College of Management, and Center for Research in Econometric Theory and Applications, National Taiwan University, 1, Section 4, Roosevelt Rd., Taipei City, Taiwan

    Yanzhi Wang

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Appendices

Appendix 1

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Table 12 Control variable definitions
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12.

Appendix 2

Management Earnings Forecasts: The Example of Microchip Technology Inc.

This example shows that Steve Sanghi, Microchip's president and CEO, issued an optimistic earnings guidance because the production advantages and strong demand in the markets. Competitors can learn from this guidance that enables them to gauge a firm’s assessment of demand projections, the additional resource commitments required, the effect on the firm’s current product line-ups, etc., and to modify their subsequent innovation decisions.

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Chen, SS., Huang, CW., Hwang, CY. et al. Voluntary disclosure and corporate innovation. Rev Quant Finan Acc 58, 1081–1115 (2022). https://doi.org/10.1007/s11156-021-01019-7

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