Social disclosure, financial disclosure and the cost of equity capital Alan J. Richardson*, Michael Welker School of Business, Queen’s University, Kingston, Canada K7L 3N6 Abstract We test the relation between financial and social disclosure and the cost of equity capital for a sample of Canadian firms with year-ends in 1990, 1991 and 1992. We find that, consistent with prior research, the quantity and quality of financial disclosure is negatively related to the cost of equity capital for firms with low analyst following. Contrary to expectations, there is a significant positive relation between social disclosures and the cost of equity capital. This positive relationship is mitigated among firms with better financial performance. We consider some biases in social disclosures that may explain this result. We also note that social disclosures may benefit the firm through its effect on organizational stakeholders other than equity investors. # 2001 Published by Elsevier Science Ltd. Regulators have argued that equity markets require comprehensive and transparent disclosures of value-relevant information by firms in order to function efficiently (e.g. Levitt, 1999). Theoreti- cally, adopting such a ‘‘disclosure position’’ (Gib- bins, Richardson, & Waterhouse, 1990) should benefit firms through lower cost of capital for at least two reasons. First, increased disclosure by firms reduces transaction costs for investors resulting in greater liquidity of the market and greater demand for the firm’s securities (e.g. Dia- mond & Verrecchia, 1991). Second, increased dis- closure reduces the estimation risk or uncertainty regarding the distribution of returns (Clarkson, Guedes, & Thompson, 1996). In spite of the regulatory and theoretical sup- port for increased disclosure by firms, direct evi- dence of a negative empirical relation between disclosure levels and the cost of capital is limited (e.g. Botosan, 1997; Botosan & Plumlee, 2000, on the cost of equity capital, and Sengupta, 1998 on the cost of debt). In part, the lack of strong empirical findings on the relationship between disclosureandcostofcapitalmaybeanartifactof the markets and information set that are used in empirical tests. If there is little variation in the information disclosed due to effective regulatory interventions, or if analysts routinely generate information independently of the firms’ own dis- closures, then the power of empirical tests will be significantly reduced. For example, Botosan (1997) documents a statistically significant nega- tive relation between the level of financial dis- closureandcostofequitycapitalforhersampleof USA manufacturing firms, but this relation holds 0361-3682/01/$ - see front matter # 2001 Published by Elsevier Science Ltd. PII: S0361-3682(01)00025-3 Accounting, Organizations and Society 26 (2001) 597–616 www.elsevier.com/locate/aos * Corresponding author.