The Effect of Hedge Fund Activism on Financial Reporting Quality

• In Event: Continental Breakfast and Research & Education Forum
  In Paper Session: Table 6: Financial Reporting Quality

Abstract

This paper examines the impact that hedge fund activism has on corporate financial reporting quality. While activist hedge funds often attest that their actions improve the monitoring of firms in which they invest, their shorter-term holding periods suggest that monitoring is not a seminal function of their intervention. I find that the short-term nature of the investments made by hedge fund activists overshadow the monitoring and lead to management pressures that decrease firms’ financial reporting quality. More specifically, I find that companies who are targeted by hedge fund activists have a higher propensity to misstate their financial statements in the two periods surrounding the hedge fund’s intervention. These results suggest that hedge fund activist investors pressure management and this pressure leads to reduced levels of financial reporting quality after an investment is disclosed in the target firm. My results are robust to firm fixed effects and propensity score matching.

Author

• John Kyle Castonguay, University of Tennessee-Knoxville