Corporate Investment Under the Cloud of Litigation
Charles A. Dice Center Working Paper No. 2018-18
60 Pages Posted: 11 Sep 2018
Date Written: September 11, 2018
We study the effect of legal risk on firms’ investment. Using legal risk measures based on the number of litigious words in SEC 10-K filings, we find legal risk reduces investment. Underlying mechanisms include both i) a financing channel, whereby legal risk reduces credit ratings, increases bank loan costs, and decreases borrowing, and ii) an attention channel, whereby legal risk consumes top-management’s attention. Accordingly, we find legal risk has negative effects on firms’ investment efficiency and stock performance. We address endogeneity concerns through a DiD analysis utilizing staggered adoptions of universal demand laws across states.
Keywords: Legal risk, Investment, SEC 10-K filing
JEL Classification: G30, G31, K20
Suggested Citation: Suggested Citation