Implication of Securities Class Actions for Cost of Equity Capital and Shareholder Wealth

International Journal of Law and Management, 52 (2), 144-16, 2008

47 Pages Posted: 11 Sep 2006 Last revised: 23 Aug 2017

See all articles by Sudheer Chava

Sudheer Chava

Georgia Institute of Technology - Scheller College of Business

C.S. Agnes Cheng

Hong Kong Polytechnic University - School of Accounting and Finance

Henry He Huang

Yeshiva University - Sy Syms School of Business

Gerald J. Lobo

University of Houston - C.T. Bauer College of Business

Date Written: August 1, 2006

Abstract

We investigate the effects of the filing of securities class actions on firms' cost of equity capital and shareholder wealth. We posit that class action litigation increases perceived uncertainties about the firm and leads to an increase in its cost of equity capital. Using three models for estimating the cost of equity capital, we document increases in firms' cost of equity capital following filing of the class actions. Our analysis indicates that the majority of the value loss following filing of class actions arises from the increase in the cost of equity capital while only a small fraction of the loss arises from downward revisions of future earnings. We also find that the increases in the cost of equity capital are higher when accounting issues and audit firms are involved, when the lawsuits have higher merit, and when firms are smaller. Finally, we document that the settlement amounts are not significantly higher than the short-term market value loss resulting from the filing, suggesting that investors do not receive a significant net benefit from filing a class action lawsuit.

Keywords: cost of equity capital, securiteis class action

JEL Classification: G12, K22, M40

Suggested Citation

Chava, Sudheer and Cheng, C.S. Agnes and Huang, Henry and Lobo, Gerald J., Implication of Securities Class Actions for Cost of Equity Capital and Shareholder Wealth (August 1, 2006). International Journal of Law and Management, 52 (2), 144-16, 2008. Available at SSRN: https://ssrn.com/abstract=929195 or http://dx.doi.org/10.2139/ssrn.929195

Sudheer Chava

Georgia Institute of Technology - Scheller College of Business ( email )

800 West Peachtree St.
Atlanta, GA 30308
United States

HOME PAGE: http://www.prism.gatech.edu/~schava6/

C.S. Agnes Cheng

Hong Kong Polytechnic University - School of Accounting and Finance ( email )

M715, Li Ka Shing Tower
Hung Hom, Kowloon, Kowloon
Hong Kong

Henry Huang

Yeshiva University - Sy Syms School of Business ( email )

New York, NY 10033
United States
8322763834 (Phone)

Gerald J. Lobo (Contact Author)

University of Houston - C.T. Bauer College of Business ( email )

Houston, TX 77204-6021
United States
713-743-4838 (Phone)
713-743-4828 (Fax)

HOME PAGE: http://www.bauer.uh.edu/acct/acctprofile.asp?search=Gerald%20Lobo

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