Academic journal article Academy of Accounting and Financial Studies Journal

Effect of Investor Relations on Cost of Debt Capital

Academic journal article Academy of Accounting and Financial Studies Journal

Effect of Investor Relations on Cost of Debt Capital

Article excerpt

INTRODUCTION

Corporate disclosure is effective in reducing the share of private information in the capital market and the incentives for investors to search for exclusively available information, easing information asymmetry (Diamond, 1985; Verrecchia, 2001). Corporate disclosure, in this sense, contributes to reducing capital cost coming from information asymmetry and is regarded to reflect corporate strategic choices for the purpose of information asymmetry decrease (Diamond and Verrecchia, 1991).

According to the hypothesis on capital market transactions by Healy and Palepu (2001), firms have incentives to voluntarily disclose information to reduce their capital procurement costs caused by information asymmetry. IR (Investor Relations) means a self-initiated corporate activity to offer general information about the whole firm management status including non-quantified data. IR is understood as a voluntary behavior by firms to deliver transparent information to investors. Therefore, IR activities are not obligatory but a voluntary tool to disclose corporate information on management performances and other related activities for the purpose to maintain firm soundness for investors. More recently, IR has become recognized as a positive means of enhanced corporate reliability and corporate information provision, further increasing its significance (Argenti et al. 2005).

IR has grown important because only after a desirable investment climate is established based on IR and stocks should be valued in the market in the first place, a firm can efficiently procure necessary funds for proper management and perform diverse projects without a failure. Of course, the corporate disclosure related laws and regulations have obligated firms to disclose corporate financial details and other major management matters to the stock market. However this is rather a passive behavior of providing only minimum amount of information. On the other hand, through IR, firms release not just quantified corporate information but also non-quantified data. Firms can swiftly, accurately and continuously inform their own project and performance details on a voluntary basis through IR, maximizing corporate promotion effects.

The positive effects of IR have been proven by relatively higher stock market returns and trading volumes in actual trades. According to the announcement of the Korea Exchange in March 2010, the average one-month stock transaction volume of 68 KOSDAQ-listed firms which had organized an IR in 2009 rose by approximately 55% for one post-IR month than before. The figure is far above 0.7%, the entire KOSDAQ transaction volume increase during the same period. The 68 firms' average stock price increase in 2009 was about 78%, exceeding the KOADAQ index rise of 51%.

According to the 2010 report by the Korea IR Service, IR was found to be most frequently utilized in South Korea to facilitate understanding of corporate and business projects. In the IR activity fact-finding investigation for listed firms, understanding of firms and its business projects and appropriate stock price formation ranked higher with similar scores. Also 80.7% of the surveyed firms said they were undervalued in the stock market. That is, the management was found to have utilized IR to secure management stability or firm value increase and IR activities in Korea unlike in other countries, were used not just for corporate image upgrade but also stock price management and fundraising (Na and Kim, 2000).

When it is said that firms have incentives to disclose information on a voluntary basis to reduce own fundraising expenses stemming from information asymmetry, IR can be expected to help lower corporate capital expenses by relieving information asymmetry among capital market participants. Also IR can induce capital market investors and debtors to develop a more favorable viewpoint towards the corresponding firm, affecting positively to corporate fundraising. …

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