bynum, cindy. thesis final
TRANSCRIPT
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Stock Price Reactions to Accounting Fraud The University of Tennessee
Undergraduate Thesis
Cynthia Bynum 30 April 2012
Global Leadership Scholars Advisor: Dr. Deborah Harrell
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Abstract
This paper documents a four-way analysis of the stock price reactions to lawsuits brought against
a company for corporate misconduct. The four-way analysis interprets the stock price reactions
to lawsuit filings both pre- and post- Sarbanes Oxley Act of 2002 (SOX), and class action
lawsuits and non class action lawsuits. The reactions are based on the announcement date with a
ten-day window both before and after the date. This is based on the assumption that information
can be leaked to the media or stockholders before the announcement day and in order to grasp
the actual affect for days after the announcement day. With this research, I expect to find a
negative stock reaction in all companies when an announcement of corporate misconduct is
made. This negative reaction will show that shareholders are not as confident of the profitability
or success of that company. It may also serve as society’s punitive damage for the mistrust that it
has placed among its consumers, shareholders, and stakeholders. I also expect to find that
companies facing lawsuits for corporate misconduct post-SOX will experience a more negative
reaction than those pre-SOX. My assumption is based on SOX being a far-reaching reform of
regulatory policies of companies’ business practices. I see this as holding companies to a higher
standard with more regulations and policies to follow. I also expect companies with class action
lawsuits to face a larger negative stock reaction than companies without class action lawsuits. To
be declared a class action lawsuit, many prerequisites and trial hearings are required before it can
legally be entitled as a class action lawsuit. This presumes that the company has wronged a
multitude of stakeholders. Non-class action lawsuits do not have the court hearing as a
prerequisite and may include just one party or individual that has been wronged by the company.
I will run regression analyses on the closing stock prices to test my assumptions.
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I. Motivation
When deciding in the infinite realm of topics what to conduct my research on for my
thesis, I knew I wanted something intriguing and related to the financial prosperity of businesses.
Corporate misconduct and financial fraud have always been intriguing topics to me. Though, I
find it more interesting the lengths that companies reach to cover any traces of misconduct. This
led me to the curiosity of what happens to companies when they are charged of accounting fraud.
Accounting fraud can be defined in a multiple of ways. Common cases of accounting
fraud include “cooking the books” by hiding large expenses, overstating revenues, overstating
assets, understating liabilities, etc. My research assumes that accounting fraud is any deception
or misleading information released in accounting and financial statements that leads the
company to appear in a healthier financial position than what they actually are. My research does
not focus on any particular type of accounting fraud such as price-fixing or overstating revenues.
Instead, it covers a wide array of accounting fraud.
The framework of my study will be compiled by analyzing thirty-two different
companies accused of accounting fraud. This number is broken down into four different
categories giving the four-way analysis. These categories were selected by a sparked interest of
how price reactions changed both after SOX was passed and if the classification was a class
action lawsuit. These two specifications are important as I can see significant roles that they play
in the business world. When SOX was passed, many new regulations, policies, and rules were
issued to help monitor and facilitate good business practices. It was the biggest reform in
financial reporting since the 1930s (Cahan). So, it would be a great specification to use to
measure how stock prices were affected both before and after the reform. The other stipulation
on my research is class action lawsuits. Class action lawsuits are when a class of people or
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parties comes together to file a lawsuit against a company who wronged them in the similar
manner. It is common for shareholders to gather and file class action lawsuits against the
company for which they hold shares (Eble). This stipulation also has great significance. Class
action lawsuits have many prerequisites and go through a trial before it is recognized as a class
action lawsuit. This would suggest that with more people being affected and it already being
processed through a court trial that there would be a greater negative reaction to the stock prices.
It would be interesting to study the difference in the stock reactions for companies with class
action lawsuits filed against them and companies without. These two specifications are being
used for comparison of whether they really have an affect on reaction of stock prices when a
company is accused of corporate misconduct.
In the awakening of the twenty first century, America witnessed a widespread of
financial scandals with some of the major influences being Enron and WorldCom. Enron was an
American energy company that was based out of Houston, Texas. During the time period of
Enron’s scandals, it was the seventh largest company in the U.S. (EBSCOhost). In November
1997, Enron began its transactions that enabled it to hide its debts from the public eye. Enron
accomplished this by buying out stakes in a company called JEDI. Enron then sold the stakes to
a firm, which it created called Chewco. Three and a half years later in February 2001, three
critical events happened that caused a decline in stock prices: Arthur Andersen made claims of
dropping Enron as a client, Kenneth Lay stepped down from CEO with Jeffrey Skilling taking
his place, and FORTUNE magazine made claims that Enron was piling on debt while keeping it
hidden from Wall Street (Time U.S. and Time Specials). In August, the newly appointed CEO
Jeffrey Skillings resigned, totaling six senior executives leaving the company within the past
year (Time Specials). From this point until Enron filed what was then the largest bankruptcy in
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U.S. history on December 2, the scandals of Enron began to unravel quickly. Arthur Andersen
was quick to rid all of their basic documents with Enron, and the Securities Exchange
Commission filed for an inquiry of Enron’s financial statements (Time Specials). The scandals
incurred by Enron led not only to its bankruptcy but also led the Arthur Andersen accounting
firm, one of the five largest in the world, to an early end. Enron shareholders lost nearly $11
billion. Price per share hit an all time high of $90 in mid 2000, then by October 2001 had
plummeted to less than $1 per share. By the time the stock closed the day Enron filed for
bankruptcy, it was only trading for $0.26 (Time Specials). Enron was the US’s largest
bankruptcy until the WorldCom scandals the following year. WorldCom was once US’s second
largest long distance phone company. WorldCom was considered to have a solid business
strategy as they were acquiring a lot of telecommunication companies during the wake of the
technology boom (Moberg). WorldCom went from a Wall Street favorite to a surprising record
bankruptcy. The CEO of WorldCom, Bernie Ebbers, joined the company in 1985 when it was
formerly know as Long-Distance Discount Services (LDDS) (Washington Post). WorldCom,
known for its strategic business plan of making acquisitions, completed three mergers in
1998.One the mergers was with MCI Communications Corporation for $40 billion, making it
the largest merger in history at that time (Washington Post). The company continued to merge,
but it started to draw attention to the Securities and Exchange Commission who requested
information for WorldCom’s accounting procedures in March 2002. Shortly following, credit
ratings were being cut, and CEO Bernie Ebbers resigned in late April. Investigations into
WorldCom’s financials suggest improper reporting dating back to 1999, and the company filed
for bankruptcy protection on July 21, 2002 (Washington Post). WorldCom became the largest
bankruptcy in US history (Beltran).
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These record setting scandals and bankruptcies are what gave push for the passing of
SOX. The changes that the US faced were swift, and the Public Company Oversight Board
(PCAOB) laid down stiff rules for the financial reporting and auditing for companies (Cahan).
Even those these regulations were issued, it does not prevent another major accounting scandal.
However, with these changes in regulations, we can compare companies before and after to see
if it does affect companies (Cahan).
II. Related Research
The Sarbanes-Oxley Act of 2002
The Sarbanes Oxley Act of 2002 (SOX) was Congress’ effort to respond to corporate
scandals and used to restore confidence in the stock markets. Again, it was the largest
accounting reform in the US since the 1930s. It was nothing to be taken lightly. After a wave of
scandals was uncovered in the start of the 21st Century, Congress had to enact provisions to
protect shareholders and the general public from fraudulent practices. These regulations covered
a range of topics and people: Public Company Accounting Oversight Board, Auditor
Independence, Corporate Responsibility, Enhanced Financial Disclosures, etc. To help explain
the strict regulations placed on companies, here are a couple of examples of rules set in place by
SOX:
Sec. 301‘‘(2) RESPONSIBILITIES RELATING TO REGISTERED PUBLIC
ACCOUNTING FIRMS.—The audit committee of each issuer, in its capacity as a
committee of the board of directors, shall be directly responsible for the appointment,
compensation, and oversight of the work of any registered public accounting firm
employed by that issuer (including resolution of disagreements between management and
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the auditor regarding financial reporting) for the purpose of preparing or issuing an
audit report or related work, and each such registered public accounting firm shall
report directly to the audit committee.”
Sec. 401 “(b) COMMISSION RULES ON PRO FORMA FIGURES.—Not later than 180
days after the date of enactment of the Sarbanes-Oxley Act of 2002, the Commission shall
issue final rules providing that pro forma financial information included in any periodic
or other report filed with the Commission pursuant to the securities laws, or in any public
disclosure or press or other release, shall be presented in a manner that—
(1) does not contain an untrue statement of a material fact or omit to state a material fact
necessary in order to make the pro forma financial information, in light of the
circumstances under which it is presented, not misleading; and
(2) reconciles it with the financial condition and results of operations of the issuer under
generally accepted accounting principles.” (U.S. Securities and Exchange Commission)
In late 2001, American headlines covered the unraveling of the Enron and Andersen
scandals. Closely followed by these were ImClone, Global Crossing, and other similar stories of
companies falsifying their financial records. At first, Congress did little in reaction to these
events. Though, several committees commenced hearings, and several new bills were introduced
to address the recent trend of corporate misconduct. However, at the time, the Senate was under
Democratic control and the Republican Party controlled the House of Representatives. The
differences between these two legislations were so extreme that is appeared that the effort for
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corporate reform had stalled (Spurzem). During the times that the committees were meeting, two
men, Michael Oxley and Paul Sarbanes, were in the making of a bill to be passed to set
regulations on companies to provide honest representation of financials. In late April 2002, the
House of Representatives passed Representative Michael Oxley’s bill in an attempt to create a
reform and put a stop to the wave of scandals. Shortly after this in June, WorldCom announced
that it had been overstating its earnings for the past fifteen months. This put legislation into full
gear to get a bill passed to stop companies from these scandals. On June 25, Senator Sarbanes
introduced his bill to the full Senate, and it was passed on July 15. The conference committees
that were meeting reconciled the differences between these two bills. They approved the full bill
and named it the Sarbanes-Oxley Act of 2002 on July 24, 2002. The bill became enacted on July
30 when President George W. Bush signed it into law (Digital Pathways).
Although SOX was enacted on July 30, 2002, the complicated bill took over a year to
fully be enforced, ranging from the date it was enacted until December 15, 2003. The bill was
broken into several topics, which were broken into numerous different effective dates.
Examples of these broken down effective dates include:
“Topic 101 (d) Public Company Oversight Board:
Effective Date: SEC determination no later than April 26, 2003”
“Topic 406 Senior Management Code of Ethics:
Effective Date: Final rule issued by the SEC on January 23, 2003. Rule is effective for
fiscal years ending on or after July 15, 2003.” (PricewaterhouseCoopers)
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Legislation passed SOX in an attempt to protect shareholders and the general public from
companies behaving with corporate misconduct. It was also a warning to companies of the
consequences if caught in their actions. SOX enacted guidelines for how companies should report
their financial statements, limiting the number of loopholes that companies could use to
fraudulently misrepresent their financial performance. SOX also includes the responsibility that
companies have to their employees, shareholders, customers, and the public, in general. A code
of ethics is something else that can be found in SOX. Following the law can be the minimal of
ethics, so it is important for companies to understand that following the law is just the bare
minimum. With these guidelines set in place, companies are held to a much higher standard in
honestly and accurately reporting the financials of their companies. My research will show us if
stock prices were affected by these new regulations set in place. More reform may be a solution if
companies are unaffected by SOX and are still fraudulently depicting the financial statements of
the company.
Class Action Lawsuits
For the other part of my research that I am conducting, I am analyzing whether lawsuits
against companies experienced a larger impact on stock prices if they were class action lawsuits.
A class action lawsuit is defined as a type of lawsuit in which a large group of people
collectively brings a claim against the same defendant. This type of lawsuit is prominent in the
United States in which it was originated (Eble). For my study, I will be comparing the reaction
of stock prices in companies with class action lawsuits versus companies with lawsuits or
allegations that are not class action. Class action lawsuits have many prerequisites and go
through a court process before being declared a class action lawsuit. It is a topic of study
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because it will be interesting to see if being a class action lawsuit has a bigger negative reaction
to stock prices.
Class action lawsuits tend to be taken more serious as there has already been a court
overseeing the lawsuit, classifying it as class action. There are four prerequisites to class action
lawsuits: 1. The class is so numerous that joinder of all members is impracticable (numerosity);
2. There are questions of law or fact common to the class (commonality); 3. The claims or
defenses of the representative parties are typical of the claims or defenses of the class
(typicality); and 4. The representative parties will fairly and adequately protect the interests of
the class (adequacy of representativeness) (Rule 23). In a short time after a person sues as a
class representative, the court will determine by order whether to certify the action as a class
action. The order will determine the type of class and appointing the class counsel. After the
class is issued, defined and appointed counsel, the order may be altered or amended before final
judgment. All members of a class may be identified and offered a notice after the final
judgment of the class is made. The notice should include the nature of the action, the definition
of the class certified, the class claims, the right to an attorney, the right to seek exclusion from
the class and the protocol for this exclusion, and the binding effect of a class judgment on
members.
Some of the top class action lawsuits include AOL Time Warner who settled for $2.5
billion, Tyco Telecommunications who settled for $3.2 billion, Exxon who was ruled to pay $5
billion (late reduced to $500 million), WorldCom who settled for $6.2 billion, and Enron who
settled for $7.2 billion (American Greed). All of these companies had class action lawsuits filed
against the after a court found that they had met all of the prerequisites and thought it was a
viable reason. The majority of lawsuits are settled outside of the court system either through
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negotiation, mediation, or arbitration (Obringer). It will not be common to find lawsuits make it
through the entire court process. An alternative settlement seems enticing to many companies,
as it would save much time and a lot of court expenses.
Class action lawsuits must follow procedural law. There are many steps and actions that
must be taken before a class action lawsuit is bind by law. With the steps taken, much time must
be allocated to define the class and make final judgment of the class and their lawsuit. This must
be taken into consideration when judging the effects of the stock prices. My research will show
if class action lawsuit cases have a larger affect on stock prices.
III. Hypothesis
After further research into the stipulations and guidelines of SOX, I expect to find that
the sixteen companies with allegations of accounting fraud post-SOX will experience larger
negative stock effects than those of the sixteen pre-SOX. More so, I expect to find the companies
with class action lawsuits filed against them to experience a greater negative stock price reaction
as compared to those companies without class action lawsuits. Class action lawsuits go through a
lengthier litigation process and have a more sever punishment for companies. This gives
adherence as to why I expect this sample to experience a more negative stock price reaction.
IV. Methodology
For my topic, I am researching the stock price reaction, if any, that occurred to
thirty-‐ two companies once an allegation was lodged against the company for accounting
fraud. My research consisted of collecting a significant amount of primary data. The thirty-‐
two companies consist of sixteen companies whose litigations occurred before the
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Sarbanes-‐Oxley Act (SOX) of 2002 and sixteen companies with litigations occurring after
SOX was in full effect. Like many large reforms, SOX was broken down into several topics,
covering different aspects of the financial reporting process. These different topics had a
wide array of dates in which the bill was to be enacted, even though it was signed into law
on July 30, 2002. These dates of enactment ranged from July 30, 2002 until December 15,
2003. Chart 1 gives a more visual aid for the enactment dates. For this reason, the
companies chosen for the pre-‐ and post-‐ SOX study were all chosen with announcement
dates of lawsuit either prior to July 2002 or after the year ending 2003. This would yield all
pre-‐SOX companies to have announcement dates prior to July 1, 2002 and all post-‐SOX
companies to have announcement dates after January 1, 2004. This stipulation is to prevent
complication and confusion for the pre-‐ and post-‐SOX companies. Then, to further my
analysis, of the sixteen companies both pre-‐ and post-‐ SOX, they were divided into eight
class action lawsuits and eight non-‐class action lawsuits. This will give me a four-‐way
analysis in comparing effects of stock prices. There are class action lawsuits versus non-‐
class action lawsuits and pre-‐SOX versus post -‐SOX.
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Chart 1. Outlined is the number of topics that became effective on various dates ranging from July 31, 2002
until December 15, 2003. This does not include all topics in the Sarbanes-‐Oxley Act of 2002. Some topics of
the Act were not given an effective date. The dates listed are not actual effective dates, but rather month end
dates, so it encompasses the number of topics that became effective during that given month.
My sample data consists of thirty-‐two companies in total that faced allegations for
corporate misconduct. For the class action lawsuits, I used the class action lawsuit filings
off Stanford’s securities website, http://securities.stanford.edu. Under the filings section, I
randomly selected sixteen companies, eight whose litigation dates were before July 2002
and eight whose litigation dates were after January 1, 2004. Companies that were
randomly selected but did not meet the requirements were thrown out and another
company was chosen at random. The companies chosen had to meet the requirements of
being a publically traded company, having historical stock prices available, and having
stock price returns data publically available for the event window occurring in the set pre-‐
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or post-‐SOX time frame. To account for bias, another specification added on to my
empirical research was that I have no prior knowledge of the company. Of the two hundred
eighty-‐six companies posted on Stanford’s securities website, only seventeen companies
met the requirements, eight post-‐SOX and nine pre-‐SOX. This explains my small sample
size, as I was very limited to the companies that met the qualifications for my research. My
randomized selection was based off blindly pointing at a company and testing to see if it
met the specifications. If it did not, then it was crossed out and another company was
selected. Chart 2 identifies the sixteen class action lawsuits companies, both pre-‐ and post-‐
SOX that were selected for my study.
Chart 2. Identified are the sixteen companies selected as the class action lawsuits sample of my research.
For the non-‐class action lawsuits, I used the LexisNexis Academic database. The
same requirements were applied to non-‐class action lawsuits categories as well: to account
for bias, I must have no previous knowledge of the company, it must be a publically traded
company, have historical stock prices available, and have an announcement date in the set
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pre-‐ or post-‐SOX time frame. The companies that met these requirements were then
crossed check with the Stanford database to ensure that they did not fall into the class
action lawsuit sample. My selection process for this part of my sample was still random, but
it was conducted in a different manner. Using LexisNexis, I used key terms to search all
major publications for companies accused of accounting fraud. Key terms used to search
for companies include: accounting fraud, financial fraud, corporate misconduct, accounting
scandals, price-‐fixing, fraud, and financial scandals. Again, I randomly selected companies
and tested the criteria. If the company did not meet the qualifications, then it was thrown
out, and the selection process continued. Through this process, I identified one hundred
forty-‐three companies. Only twenty companies met the qualifications for this sample, and
sixteen were randomly selected. Chart 3 lists the companies chosen for the non-‐class action
lawsuit sample.
Chart 3. Identified are the sixteen companies selected as the non-‐class action lawsuits sample of my research
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The announcement date for my samples is the date in which the allegations were
made public. To encompass a range of possibilities to capture stock price reactions, I will
use an event window period. This includes ten days prior to the announcement date to
account for early leakage to the media or shareholders and ten days after the
announcement date to capture the actual public reaction to the allegations. This creates a
twenty-‐one day event window, including t=o as the announcement date. Prior to the event
window, I pulled a year worth of stock prices to be able to calculate the normal, expected
return. Using a regression analysis, the assumed stock price for the announcement day can
be calculated. It can then be compared to the actual stock price for the announcement day.
This comparison will allow the analysis of the actual shock, if any, of the stock prices on the
date the allegation was announced.
For the regression analysis, the closing prices have been pulled from the Bloomberg
Database. Yahoo Finance proved to be an unreliable and inaccurate source of data for my
research. It was my original source of stock price information, but after providing
inaccurate, insufficient, or unreliable data for specific stocks, it has become a mere
checkpoint for certain stock prices. Bloomberg has provided all of the closing stock prices
and can account for dividends paid.
The date of the first public announcement of accounting fraud will be set as t=0. The
ten days prior to the announcement date will be t=-‐10, t=-‐9… with t=-‐1 being the day
before the announcement date. The ten days after the announcement date will be t=1, t=2…
with t=10 being the tenth day after the announcement was made public. Using the Brown
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and Warner (1985) standard event study methodology, I was able to capture the stock
price reactions during the event window of the first public announcement. I was able to
examine the single day abnormal returns, ARt and the multi-‐day cumulative abnormal
return, CAR(a,b), where a and b indicate days that are relative to t=0.
For sufficient regression results, there must be a minimum of 150 days prior to the
event window. For my study, 250 days were used, giving roughly a year’s worth of daily
returns prior to the event window. Using the 250, t=-‐11 to t=-‐260, days prior to the event
window, I calculated the Beta, β, and the Intercept, α, using a least square regression of
€
rit
and
€
rmt to use in the equation to define the abnormal return. The Brown and Warner
(1985) market model used for abnormal returns for firm i is defined as
€
Rit = rit −α i −βirmt (1)
where
€
rit represents the firm i’s common stock on day t, and
€
rmt is the return on the
Standard and Poor’s (S&P 500) return on the index of day t. To calculate the average
abnormal return for each day t in the event window, it was computed as
€
ARt =1Nt
Riti=1
Nt
∑#
$ % %
&
' ( ( (2)
where
€
Nt represents the number of firms in the average on day t. The cumulative average
return was calculated as
∑=
=b
attARbaCAR ),( (3)
where a and b are days relative to the announcement date.
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V. Data and Results
Table 1. The daily abnormal returns during the event window are based on the Beta and Intercept over the period -‐260 days to -‐11 days relative to the event period of the announcement date. This table lists the daily abnormal returns during the event window for the eight companies in the post-‐SOX and class action lawsuit category and the average.
Table 2. The daily abnormal returns during the event window are based on the Beta and Intercept over the period -‐260 days to -‐11 days relative to the event period of the announcement date. This table lists the daily abnormal returns during the event window for the eight companies in the pre-‐SOX and class action lawsuit category and the average.
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Table 3. The daily abnormal returns during the event window are based on the Beta and Intercept over the period -‐260 days to -‐11 days relative to the event period of the announcement date. This table lists the daily abnormal returns during the event window for the eight companies in the post-‐SOX and non-‐class action lawsuit category and the average.
Table 4. The daily abnormal returns during the event window are based on the Beta and Intercept over the period -‐260 days to -‐11 days relative to the event period of the announcement date. This table lists the daily abnormal returns during the event window for the eight companies in the pre-‐SOX and non-‐class action lawsuit category and the average.
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Table 5. Cumulative average abnormal returns are calculated using the Brown and Warner (1985) methodology. The CARs are measured relative to the announcement date of t=0. The whole sample includes all thirty-‐two companies from the four different categories. Post-‐Sarbanes-‐Oxley 2002 includes sixteen companies, eight class action lawsuits and eight non-‐class action lawsuits. Then the class action lawsuits and non-‐class action lawsuits make up the fourth and fifth category. Then, all four categories are separated for comparison.
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After calculating the abnormal returns and the cumulative average abnormal
returns, my results suggest that there is no difference between pre-‐SOX (-‐0.04017) and
post-‐SOX (-‐0.04778). However, there does appear to be a difference between Post-‐SOX
class action lawsuits (.007713) and pre-‐SOX class action lawsuits (-‐0.00461) and also
between class action lawsuits (0.001552) and non-‐class action lawsuits (-‐0.0895).
Although, it should be noted that given my small sample size of only thirty-‐ two firms, I am
unable to test if these differences are statistically significant. Given the time frame that I
used (1997-‐2011), there were not enough companies that met the data qualifications.
Through much research, it has become apparent that in order to encompass enough
companies for my research, my time frame would need to be altered and extended. Other
studies such as that done by Murphy, Shreives, and Tibbs encompass 394 companies using
the time frame from 1982-‐1996. My specification to reduce bias by eliminating companies
with previous knowledge also limited my research sample size.
After compiling my research and analyzing the data, my hypothesis has been
rejected. I hypothesized that the firms with announcement dates post-‐SOX would have a
larger negative stock effect than those with announcement dates before SOX. I also
concluded that companies with class action lawsuits would experience greater negative
effects than companies with class action lawsuits. However, as my results show, there
appears to be no substantial difference between pre-‐SOX and post-‐SOX companies. And
contrary to my hypothesis, the companies with non-‐class action lawsuits appear to
experience a larger negative stock effect. Again, I am unable to test if this is significant due
to the small sample size. Future research can be conducted to help explain my findings and
test for the significance of the differences in the cumulative average returns.
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VI. Future Research
Further research would be needed to maybe help explain why class action lawsuits
saw a much less effect than the non-‐class action lawsuits category. One reason may be due
to bankruptcy filings prior to the announcement date, which would cause a large negative
effect at the bankruptcy announcement. This could take away from the negative effect of
the accounting fraud. Other factors that could contribute to my findings could be the size of
the company, the number of stockholders, the number of shares outstanding, the industry
of the company, the revenues of the company, the type of the accounting fraud, etc.
I would like to conduct future research into companies to see if insider secrets or
bankruptcy played a significant role the effects of the stock prices. Some of the companies
included in my samples faced large negative effects after filing for bankruptcy, which
usually occurred a few months before the announcement of accounting fraud was made.
This factor could have made a huge impact on why there was not such a dramatic effect
when the fraud was announced. Another factor could have been that the major
stockholders in the company could have been informed prior to the allegations and started
to sell their stock. This could have a more gradual effect on the price of the stock as
opposed to the immediate effect expected when the announcement is made. Further
research needs to be conducted to determine if these factors played a meaningful role in
the stock price reactions.
Since my sample size was rather small, future research would need to be conducted
with a larger sample size to see if the differences are statistically significant. With a larger
sample size, given a larger scale of time, different results may be concluded, but the
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difference can be test for statistical significance. I would suggest analyzing a minimum of
thirty companies in each classification group in order for it to render significant results.
Future research can also be conducted to test to see if the industry plays a
significant role in the stock price reactions. In my research, I found that many companies
were either in the energy, communications, or health industry. Therefore, it would be
interesting to see if certain industries experience occurrences of accounting fraud more
frequently and if particular industries experience a larger negative stock effect. It would be
interesting to find out if the public is more involved through stocks with choice industries
as opposed to other industries.
VII. Conclusion
There were some limitations to my research that may have affected my results. Due
to my specific qualifications for companies for my research, I was only able to use a sample
size of thirty-‐two. This sample size is not large enough to test if the differences in my
results are significant or not. With such a small sample size, any one company’s data could
have skewed all of the data for that particular category. Therefore, future research
conducted on this topic should definitely change the qualifications to implement more
companies in the research and further be able to encompass and capture the stock price
reactions. My research also did not account for factors such as bankruptcy, company size,
number of shareholders and shares outstanding, and some other factors that might have
affected the results of my data.
My hypothesis was proven wrong, as my results concluded that the implementation
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of Sarbanes-‐Oxley 2002 did not affect the stock price reactions. It also concluded that non-‐
class action lawsuits experienced a larger negative stock effect than class action lawsuits,
which is completely opposite of what I would argue. An analysis of my research suggests
that companies may not experience as large of punitive damages from stockholders than
one might think. I plan to extend my study in the future to research some of the factors that
may have affected my study. I would also encourage companies to study these results in
hopes of implementing a stronger policy to help filter out and detect fraud. Undetected
fraud might be the biggest secret in the corporate world, and it would be my hope that
significant research be published in arguing that companies do suffer through stock price
reactions as a direct result of accounting fraud.
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Works Cited
Beltran, Luisa. "WorldCom Files Largest Bankruptcy Ever." CNNMoney. Cable News Network, 22 July
2002. Web. 22 Feb. 2012. <http://money.cnn.com/2002/07/19/news/worldcom_bankruptcy/>.
Brown, Stephen J., and Jerold B. Warner. "Using Daily Stock Returns." Journal of Financial
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