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The Impact of Footnote Transparency on Managerial Discretion : Evidence from FAS 132 R Pension Disclosure

This paper finds that footnote transparency is effective at disciplining managerial discretion and that the market will use information provided in footnotes to assess firm value. After the introduction of FAS132R, firms used less discretion in setting pension assumptions, and the distribution of discretion across firms was reduced. The primary driver of changes in pension expense resulting from the increased transparency is the discount rate assumption. Firms were able to offset increases in pension expense by lowering the assumed compensation rate, which was unaffected by FAS132R. I also find that the market responded to the new disclosures. Stock returns are more highly associated with pension expense in the post-FAS132R period, which is consistent with an improvement in the overall quality of pension expense. Moreover, firms experienced a negative abnormal return if they revealed a high use of discretion in their first FAS132R disclosure, which is consistent with the market being able to discriminate the quality of pension expense across firms. The size and funded status of the pension plan impacted how firms responded to the increased disclosure requirements. * Harvard Business School, jnaughton@hbs.edu.