Corporate fraud, systematic risk, and shareholder enrichment

Dale O. Cloninger, and Edward R. Wallera

School of Business and Public Administration, University of Houston-Clear Lake, 2700 Bay Area Blvd., Houston, TX 77058, USA

Available online 12 July 2000.


The impact of the disclosure of alleged illegal corporate activities together with the possible motives for their use increasingly has become the subject of research by financial scholars. These studies primarily analyze the disclosure’s effect on the market returns of the firm’s equity. The consensus of these studies is that the initial disclosure of alleged illegal corporate activities results in significant negative abnormal returns to the existing shareholders. The size of these abnormal returns generally exceeds the actual fines, fees and penalties that the firms eventually experience. The impact of these disclosures on systematic risk and their possible implications for managerial behavior and corporate policy have suffered from relative neglect. The present research seeks to establish what, if any, impact the disclosure of alleged corporate fraud has on systematic risk. Using the data set provided by Karpoff and Lott (1993, The reputational penalty firms bear from committing corporate fraud. J Law Econ, 34, 757-802), this research tests whether securities experience any significant beta shifts upon the initial disclosure of alleged corporate fraud. Empirical tests find evidence consistent with the theory that agents engage in illegal activity in an attempt to enhance share price. The empirical results also provide additional insight into the question of why corporations engage in criminal activity.

Article Outline

1. Introduction

2. Previous research on illegal corporate behavior

3. Empirical tests

4. The hedging story

5. Summary

6. Implications for corporate policy


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