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- Title
The Effect of the Private Securities Litigation Reform Act of 1995 on the Cost of Equity Capital.
- Authors
Ho Young Lee; Mande, Vivek; Myungsoo Son
- Abstract
This study examines how the Private Securities Litigation Reform Act (PSLRA) affects financial information quality, as reflected in firms' cost of equity capital. We argue that the passage of PSLRA influences the incentives of those involved in the financial reporting process which in turn affects the firms' financial reporting quality. PSLRA replaced joint and several liability with proportionate liability, providing auditing firms with significant relief from litigation. We contend that the reduction in litigation risk for auditors decreased audit quality. PSLRA also made it more difficult for investors to sue firms for fraud which we argue reduces incentives of managers to report information truthfully. Using the cost of equity capital to proxy for financial information quality, we find that the cost of equity capital increases after the enactment of PSLRA, and the increase is more pronounced for clients of Big N auditors and for firms facing high litigation risk.
- Subjects
CAPITAL costs; INVESTORS; PRIVATE security services; FINANCIAL markets; SECURITIES trading
- Publication
Quarterly Journal of Finance & Accounting, 2009, Vol 48, Issue 2, p85
- ISSN
1939-8123
- Publication type
Article