Firm performance and cost of equity capital: the moderating role of narrative risk disclosure quality in Egypt

Abstract

This paper aims to examine the moderating effect of the narrative risk disclosure quality on the association between firm performance and the cost of equity capital in the Egyptian setting. Manual content analysis and factorial principal component techniques are used to quantify the quality dimensions of the narrative risk disclosures. The weighted average cost of equity is used to estimate the firms’ costs of equity. A cross-sectional analysis was conducted over three years (2018–2020) for a sample of 73 non-financial firms listed on the Egyptian Stock Exchange (EGX100). Multiple OLS regression models are employed to test the hypotheses. The results reveal a negative association between firm performance and the cost of equity and, while such association strengthened when adding the narrative risk disclosure quality as a moderator variable. This suggests that risk disclosure is important to stockholders’ investment decision-making in the Egyptian context. Based on the dearth of literature related to the economic reverberations of narrative risk disclosure quality in emerging economies, this study contributes to the risk reporting literature by providing evidence on the moderating effect of the narrative risk disclosure quality and its reverberations on the firm’s cost of equity capital in one of the emerging economies as Egypt. With regard to the findings of this study, we expect to contribute to the practice and theory by providing new and different insights about the moderating effect of narrative risk disclosure on the association between firm performance and cost of equity capital.

The effect of IFRS convergence on risk disclosure: an investigation into the Indian accounting system

“…The first is that greater coverage of information about material risk topics and strategies for mitigating these risks in the annual report would decrease the information asymmetry between executives and shareholders (Ismail and Obiedallah, 2022;Jensen and Meckling, 1976). As the information gap is reduced, this would improve market liquidity and decrease transaction costs, subsequently lowering the entity's cost of equity (Al-Hadi et al, 2017;Botosan, 1997).…”

“…Ye, Q., Gao, J. and Zheng, W. (2018) The study uses capital asset pricing model (CAPM) to measure the cost of equity capital, which has been considered a reasonable estimator and used in many IFRS literature (Bansal, 2022;Ismail and Obiedallah, 2022). This method explains the expected returns as the sum of expected risk-free rate (RiskFree t ) and the product of a firm's market beta (b it ) and the expected risk premium (Return_market t À RiskFree t ).…”

“…More importantly, these studies particularly highlight that companies provide inadequate risk information in their corporate reports. Correspondingly, this information deficiency may have several detrimental effects on the capital market, including increasing estimation risk, elevating transaction costs and lowering market efficiency (Al-Hadi et al , 2016; Ismail and Obiedallah, 2022; Neri et al , 2018). Acknowledging this issue, regulators have often intervened by implementing new regulations and standards that mandate firms to provide appropriate risk information in their corporate reports.…”