Product Market Similarity, Benchmarking, and Corporate Fraud

Abstract

We document a strong negative relation between firms' product market similarity to their rivals and their observed fraud rate. This disciplining effect is larger than most documented fraud predictors and remains virtually unchanged after controlling for those predictors and traditional measures of competition. By exploiting variation from rivals' newly available public disclosures, as well as cross-sectional variation in firm complexity, institutional ownership, and analyst coverage, we show that the effect is most likely driven by firms' external information environment. Our analyses suggest that greater product similarity enhances the external information environment, which improves external monitoring and disciplines manager reporting behavior.

Keywords: Corporate Fraud, Product Market Competition, Product Similarity, Benchmarking, Corporate Governance

JEL Classification: G30, M41, G34