Activist short-sellers and accounting fraud allegations

Date

2019-06-18

Authors

Kartapanis, Antonis

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Abstract

This study examines the predictive power of accounting fraud allegations by activist short-sellers and costs imposed by allegations that are subsequently not confirmed. Importantly, only 30% of the allegations are later confirmed. Although there is a high rate of unconfirmed allegations, activist short-sellers still provide the strongest signal that a firm has committed accounting fraud relative to other commonly used fraud predictors. These allegations also help improve the efficacy of the legal system as securities class actions containing allegations similar to those of activist short-sellers are more likely to settle. Unconfirmed fraud allegations impose some costs on targeted firms as they increase non-meritorious litigation risk and audit fees, but the costs are not significant enough to affect profitability. Further, unconfirmed fraud allegations temporarily depress prices and increase information asymmetry, thus negatively affecting capital markets. Overall, the findings suggest that executives’ concerns regarding false allegations are valid, but at the same time, activist short-sellers’ allegations are a strong predictor of accounting fraud. The findings should be of interest to regulators who are concerned with false rumors spreading in the market.

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