Does disclosure legislation work? A history lesson

The Enron collapse, one of the biggest corporate scandals of modern history, brought in its wake the Sarbanes-Oxley Act of 2002. But how successful is this kind of regulation in promoting best practice and stakeholders' interests?

by Stanford Knowledge Base
Last Updated: 23 Jul 2013

Economists from the liberal side have argued that market forces – contracts and the threat of litigation in case of defection – should be enough of a deterrent against corporate fraud. But lawsuits are costly, and access to information is not always straightforward.

An analysis of Sarbanes-Oxley's predecessor, the 1964 Securities Act Amendments, provides some interesting insight into the power of such regulations. Prior to 1964, disclosure requirements were generally quite lax and left the onus on shareholders to find the information they needed.

The 1964 Amendment dramatically changed the rules. Large over-the-counter (OTC, now known as NASDAQ) firms traded on the New York and American Stock Exchanges were required to register with the Securities and Commission (SEC), provide regular updates on their financial position, issue detailed proxy statements to shareholders, and report on insider holdings and trades.

The study found that OTC firms affected by the act experienced substantial one-time gains in stock compared to NYSE/AMEX firms unaffected by the legislation. Estimates suggest the 1964 Amendment could have created as much as $6.2 billion of value for shareholders. Affected firms also witnessed greater income and sales growth.

These findings suggest that regulations did, on the whole, have a beneficial impact on equity markets, implying that further regulations might therefore have similar impacts, particularly in the light of the proliferation of such markets.

The study does not imply, however, that had Sarbanes-Oxley been introduced before 2002, the Enron scandal would not have happened. But there is enough evidence to suggest that the recent wave of scandals could have been worse had the old 1964 disclosure regulations not been in place.

Source: Disclosure adds shareholder value: Lessons from Sarbanes-Oxley's predecessor
Michael Greenstone, Paul Oyer and Annette Vissing-Jørgensen
Stanford Knowledge Base, July 2006

Review by Emilie Filou

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