Regulation Fair Disclosure and the Cost of Equity Capital

Regulation Fair Disclosure (Reg FD) prohibits selective disclosure of material information to a subset of market participants such as analysts and institutional investors without simultaneously disclosing the same information to the investing public. We examine the effect of Reg FD on the cost of equity capital. If Reg FD curtails selective disclosure without a significant adverse effect on the quality and quantity of information dissemination from firms to market participants, the cost of capital should decrease after Reg FD (Easley and O'Hara 2004). Using ex ante measures of the cost of equity capital advanced in the recent accounting and finance literatures, we find that (1) the cost of capital declines in the post-FD period relative to the pre-FD period, on average, for a broad cross-section of U.S. firms, (2) the decrease in the cost of capital post Reg FD is mainly for medium and large firms but is not significant for small firms and (3) the decrease in the cost of capital post Reg FD is systematically related to firm characteristics indicative of selective disclosure before Reg FD. In contrast, we do not find a reduction in the cost of capital post Reg FD for American Depository Receipts and foreign firms listed in U.S. that are legally exempt from Reg FD. Overall, our findings are consistent with Reg FD having reduced the cost of equity capital for U.S. firms.