Monitoring Effects of Foreign Internal Capital Disclosure on Foreign Investment and Operating Profitability

Abstract

As firms’ internal capital increases to record amounts, the monitoring of related agency problems only becomes more important. This paper finds that disclosing disaggregated information about internal capital improves the monitoring of firms’ accumulation and deployment of internal capital. Using the Securities and Exchange Commission (SEC)’s introduction of disclosure requirements for foreign internal capital (FIC), I identify the causal effects of FIC disclosure on firms’ capital management decisions. I find that FIC disclosure reduces the accumulation of capital in foreign countries and the expansion of foreign operations through M&A. These decreases in FIC and foreign M&As are more significant when firms’ CEOs are more entrenched, suggesting that FIC disclosure mitigates existing agency problems associated with the use of internal capital across countries. I also find that foreign profit margin increases after FIC disclosure. This paper highlights that disclosure requirements improve monitoring and alter firms’ real activity decisions.