No News is Good News: Voluntary Disclosure in the Face of Litigation

No News is Good News: Voluntary Disclosure in the Face of Litigation

By
Iván Marinovic, Felipe Varas
RAND Journal of Economics. November
11, 2016, Vol. 47, Issue 4, Pages 822-856

We study disclosure dynamics when the firm value evolves stochastically over time. The presence of litigation risk, arising from the failure to disclose unfavorable information, crowds out positive disclosures. Litigation risk mitigates firms’ tendency to use inefficient disclosure policies. From a policy perspective, we show that a stricter legal environment may be an efficient way to stimulate information transmission in capital markets, particularly when the nature of information is proprietary. We model the endogeneity of litigation risk in a dynamic setting and shed light on the empirical controversy regarding whether disclosure preempts or triggers litigation.