The Stock Price Effect of Emerging From Bankruptcy and The Associated Effect of Switching Auditors Post Bankruptcy… An Industry Analysis

Abstract

This study analyzes firms that emerge from Chapter 11 bankruptcy with
specific attention given to two groups; those that switch auditors post-bankruptcy,
and those who retain previous auditors in a post-bankruptcy environment. In addition,
further analysis is made to assess whether or not industry membership, along with
pre or post SOX environment play a role in results.
Results indicate that when the pre versus post SOX environment is assessed,
a significant difference is noted in the sample firms. Post SOX firms emerging
from Chapter 11 that switch auditors carry positive information content, therefore,
investors tend to bid up the price of stock of these firms. Firms emerging from
Chapter 11 in a post SOX environment that do not change auditors tend to convey
negative information content as their stock price is bid down by investors. With
respect to a pre SOX environment, results indicate that investors do not behave
significantly different whether the firms change auditors or not after emerging from
Chapter 11. In both cases, there is a positive correlation between earnings response
and stock price.
When attention turns to assessing individual industries in a post SOX
environment, a positive correlation between earnings response and stock price
is seen across all industries evaluated when the firm emerging from Chapter 11
switches auditors. Growth industry firms show the greatest stock price reaction to
earnings. With respect to firms that do not switch auditors post-bankruptcy, results
are mixed across industries. Most industries show a negative stock price reaction
but certain growth industries reflect a positive reaction. In a pre SOX environment,
no significant industry difference is noted, either by firms that switch auditors or
those that do not switch. All pre SOX industry firms, on average, have a positive
correlation between earnings response and stock price.