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Going Concerns and Bankruptcy Risk: A Rational Explanation for an Apparent Anomaly
Peter Demerjian,
University of Michigan
ABSTRACT. This paper examines the stock returns of firms receiving going concern audit opinions. Consistent with existing research, the returns are negative and significant in the months following issuance of the going concern. The negative returns persist up to a year, and are statistically significant regardless of benchmark, peaking at a mean value of -20%. Additional results show that the negative returns are driven by firms that eventually delist, with “survivor” firms having positive returns. This suggests that the going concern provides a signal for investors of increased uncertainty. The evidence also suggests that news in future periods resolves this uncertainty: if the news is good, the price will recover, and if the news is bad the price will continue to decline. Investors trade accordingly as the uncertainty is resolved. The observed price drift is therefore not a delayed reaction to known information, but rather the timely processing of delayed information.
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