Are Investors Confused by Restatements after Sarbanes-Oxley?

Abstract:     
Regulators have expressed concern that investors are “confused” by the high volume and questionable materiality of accounting restatements since passage of the Sarbanes-Oxley Act (SOX). These concerns are consistent with a history of regulatory skepticism about investors’ ability to process revisions to financial statements. This study looks for evidence of investor confusion over post-SOX restatements by examining stock returns and trading volume. I find that the initial price reaction to restatement announcements becomes significantly less negative after SOX, even after controlling for many restatement characteristics. To assess whether these less negative returns represent an underreaction, I test for negative post-restatement drifts in prices. Little evidence of drifts following post-SOX restatements is found. In fact, drifts following pre-SOX restatements are significantly larger, suggesting that pricing efficiency has improved. Finally, I find no evidence of confusion in the trading volume around post-SOX restatements. Thus, the findings provide little evidence that investors are confused by post-SOX restatements.

Keywords: Restatements, Sarbanes-Oxley

JEL Classification: M40, M41

Accepted Paper Series