Public Signals, Default Risk, and Voluntary Disclosure

We examine how the information in public signals (e.g., earnings, analysts’ forecasts) affects firms’ voluntary disclosures. We consider levered firms and information structures such that investors update their beliefs about both the mean and variance of the firm’s cash flows. We predict that firms that, conditional on the public signal, have a higher default risk are less likely to disclose. For firms with low ex ante default risk, larger positive surprises following the public signal initially increase the disclosure likelihood because they indicate a higher mean of cash flows. However, too large positive surprises may reduce the disclosure likelihood of these firms, because the larger surprise is also indicative of higher variance and, thus, higher probability of default. Symmetrically, larger negative surprises may increase disclosure for firms with high ex ante default risk, despite the more pessimistic inference about the mean, because the higher variance makes it more likely that these firms avoid default. Extending our analysis to multiple analysts’ forecasts, we predict that not only consensus, but also dispersion affect firms’ disclosure likelihood. Consensus conveys information about the mean and variance of cash flows, whereas dispersion is informative about the precision of analysts’ signals, which in turn affects the information content of forecasts. This paper was accepted by Suraj Srinivasan, accounting. Funding: D. Lee-Lo gratefully acknowledges financial support from the Accounting Research Center at Kellogg.