In denial? Stock market underreaction to going-concern audit report disclosures

We investigate the stock price reaction to UK going-concern audit report disclosures in the calendar year subsequent to publication. Over this period our firm population underperforms by between 24% and 31% depending on the benchmark adopted. This market underreaction to such an unambiguous bad news...

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Bibliographic Details
Published in:Journal of accounting & economics 2004-12, Vol.38 (1), p.263-296
Main Authors: Taffler, Richard J., Lu, Jeffrey, Kausar, Asad
Format: Article
Language:English
Subjects:
Accounting
Arbitrage
Auditing
Behavioral finance
Bias
Disclosure
Earnings
Financial reporting
Investor biases
Investors
Limits to arbitrage
Market anomalies
Mathematical models
Rates of return
Statistical analysis
Stock exchange
Stock prices
Studies
United Kingdom
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Summary:We investigate the stock price reaction to UK going-concern audit report disclosures in the calendar year subsequent to publication. Over this period our firm population underperforms by between 24% and 31% depending on the benchmark adopted. This market underreaction to such an unambiguous bad news release is not a post-earnings announcement drift phenomenon; it is also robust to other potentially confounding explanations. However, whatever the reasons for such stock mispricing, we find costly arbitrage prevents rational investors forcing prices back into line with fundamental value. Our results have implications for the market's ability to impound bad news appropriately and the incompleteness of arbitrage in such small “loser” firm situations.
ISSN:0165-4101
1879-1980
DOI:10.1016/j.jacceco.2004.09.004