Information Content of Public Firm Disclosures and the Sarbanes-Oxley Act∗

We find evidence that public firm disclosure, in the form of Management Discussion and Analysis (Sections 7 and 7a of annual reports), is more informative about the firm’s future risk following the passage of the Sarbanes-Oxley Act of 2002. Employing a novel text regression, we are able to predict, out of sample, firm return volatility using the Management Discussion and Analysis section from annual 10-K reports, which contains forward-looking views of the management. Using the relative performance of the text model as a proxy for the informativeness of reports, we show that MD&A sections are significantly more informative after the passage of SOX. We further show that this additional information is associated with a reduction in share illiquidity, suggesting that the information divulged was new to investors. Finally, we find that the increase in informativeness of MD&A reports is most pronounced for firms with higher costs of adverse selection.