Do Management Internal Control Certifications Increase the Likelihood of Restatement-Related Litigation?

48 Pages Posted: 2 Nov 2012 Last revised: 26 Apr 2013

See all articles by Chris E. Hogan

Chris E. Hogan

Michigan State University - Department of Accounting & Information Systems

Tamara A. Lambert

Lehigh University

Jaime J. Schmidt

University of Texas at Austin

Date Written: April 24, 2013

Abstract

Although the Sarbanes-Oxley Act of 2002 imposes internal control disclosure and certification requirements on management, regulators are concerned that companies are not disclosing material internal control weaknesses on a timely basis. This study investigates whether litigation risk could act as a mechanism to incentivize timely material weakness disclosure. Examining material weakness and restatement disclosures from 2003 – 2011, we find that restatement-related litigation is significantly greater for firms with material weakness disclosures regardless of when the material weakness was disclosed (i.e., during the misstated time period or following the restatement announcement). In fact, we find that over 75 percent of lawsuits allege that management falsely certified internal controls regardless of whether the material weakness was disclosed during or after the misstated time period. While we do not find evidence that internal control-related arguments are associated with the resolution of litigation, our results generally indicate that SOX-mandated internal control certifications are increasing litigation costs without providing management with an incentive to disclose material weaknesses on a timely basis.

Keywords: internal control weaknesses, class-action litigation, financial statement restatements, disclosure timeliness

Suggested Citation

Hogan, Chris E. and Lambert, Tamara A. and Schmidt, Jaime J., Do Management Internal Control Certifications Increase the Likelihood of Restatement-Related Litigation? (April 24, 2013). Available at SSRN: https://ssrn.com/abstract=2169553 or http://dx.doi.org/10.2139/ssrn.2169553

Chris E. Hogan

Michigan State University - Department of Accounting & Information Systems ( email )

270 North Business Complex
East Lansing, MI 48824-1034
United States

Tamara A. Lambert

Lehigh University ( email )

621 Taylor Street
Bethlehem, PA 18015
United States

Jaime J. Schmidt (Contact Author)

University of Texas at Austin ( email )

Austin, TX 78712
United States

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