Shareholder Litigation Rights and Stock Price Crash Risk

Abstract

We study the impact of shareholder-initiated litigation risk on a firm's stock price crash risk. Our empirical analysis takes advantage of the staggered adoption of universal demand laws, which led to an exogenous decline in derivative litigation risk. We find that a decline in the threat of derivative litigation reduces crash risk and that information hoarding associated with earnings management is a channel through which litigation risk affects crash risk. The relationship is also moderated by how exposed firms are to the other primary form of shareholder litigation, namely securities class-action lawsuits.

Keywords: shareholder litigation risk, derivative lawsuits, universal demand, stock price crash risk, securities class action lawsuits, judge ideology

JEL Classification: G14, G30, G38, K22