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Too Big to Disclose: Firm Size and Materiality Blindspots in Securities Regulation

Georgiev, George S., Too Big to Disclose: Firm Size and Materiality Blindspots in Securities Regulation (December 13, 2016). UCLA Law Review, Vol. 64, 2017. Available at SSRN:

“This Article argues that the securities disclosure regime contains previously unexamined structural deficiencies, which pertain to the information provided by the largest public companies. These deficiencies arise from the operation of the materiality standard, a core element of the disclosure regime that is used in a number of disclosure rules. The materiality standard is designed to limit firms’ disclosure to information that would be of importance to investors, and to prevent the overproduction of information. I argue, however, that in the case of large firms the materiality standard can also lead to the underproduction of information — or to “materiality blindspots.” Since the threshold for what is material increases as firms get bigger, at the very largest firms even matters that are significant or sizeable in absolute terms may be deemed immaterial and remain undisclosed. Such firms are “too big to disclose” and, in a perfectly legal manner, take advantage of the materiality standard to avoid disclosure. I illustrate the materiality blindspots phenomenon by analyzing the disclosure rules in three key areas (material contracts, material legal proceedings, and material business spending) and presenting original case studies of the disclosure practices of large firms. After revisiting accepted theory on disclosure regulation through the prism of firm size and analyzing examples from the case studies, I identify two sets of potential harms. First, materiality blindspots may undermine investor protection and corporate governance, including by diminishing stock price accuracy and making inside and outside monitoring for fraud, waste, or suboptimal management practices more difficult. Second, the materiality standard may give systematic advantages to large firms and lead to market distortions, in effect serving as a regulatory subsidy for bigness. I suggest that certain disclosure requirements that currently rely only on the materiality standard should be supplemented with targeted rules employing quantitative thresholds. This could provide a safety net against materiality blindspots by requiring large firms to disclose additional information that is not caught by the existing materiality standard, but that is significant or sizeable in absolute terms.”

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