Do Mandated Risk Disclosures Affect Corporate Risk-Taking?

Abstract

I examine whether mandated risk disclosures affect corporate risk-taking. I argue that mandated risk disclosures influence corporate risk-taking by mitigating risk-related agency conflicts and informing managers about their firms’ risks. Using the 2005 risk factor disclosure mandate as a setting, I predict and find that firms susceptible to shareholder-debtholder conflicts reduce their risk-taking after the mandate. I also show that firms whose managers underestimate the volatility of future outcomes reduce their risks after the mandate. To further investigate the mechanisms through which firms change risks, I exploit granular operational data from a sample of U.S. power plants. After the mandate, power plants with a high propensity for shareholder-debtholder conflicts or with inaccurate forecasts reduce exposure to risks by making several operational changes—geographically diversifying their operations, holding more fuel stock, expanding their supplier bases, etc. Collectively, my findings suggest that mandated risk disclosures influence corporate risk-taking behavior by reducing shareholder-debtholder conflicts and prompting managerial learning.