Reverse Mergers and Earnings Quality

• In Event: Concurrent Session 2.3: Reverse Mergers

Abstract

We test for differences in financial reporting quality between companies that went public through a reverse merger (RM) and other public companies. Moreover we test whether audit quality (Big 4), foreign incorporation, and seasoned equity offering (SEO) play a role in the earnings quality of RM firms, above and beyond reverse mergers. The presence of a Big 4 auditor does appear to enhance reporting quality and contribute to the survival for firms audited by one of the Big 4 auditors. The rate of survival is significantly higher (almost twice as much) than the rate of survival for firms that went through RM with a non-Big 4 auditor. Furthermore, contrary to popular beliefs, we find evidence of earnings management in both U.S. and international RM companies. Finally, we find that earnings management is pervasive at all RM firms, especially those that need to raise capital through an SEO after the merger.

Authors

• Chu Chen, The University of Texas at El Paso

• Giorgio Gotti, The University of Texas at El Paso

• Kathryn Schumann, James Madison University