Do Financial Markets Discipline Corporate Maleficence by Driving Down Stock Prices ? Tackling Money Laundering Conference Utrecht, 2-3 November 2007 Peter-Jan Engelen Utrecht University, the Netherlands

Slide nr.2 Background of the project Relationship between discovery of illegal corporate behaviour and stock prices Do shareholders punish companies by driving down stock prices? Is there any price for corporate maleficence?  Disciplinary role  Magnitude of penalty

Slide nr.3 Background of the project – cont’d Event study methodology  Campbell, Lo and MacKinlay (1997), Chap.4  MacKinlay (JEL, 1997)  McWilliams and Siegel (AMJ, 1997)  Armitage (JES, 1995) Two exploratory studies  Low countries  Sample of 5 European countries

Slide nr.4 Methodology Event study AAR E aggregate of individual abnormal stock returns aligned in event time Calculating individual ARs:

Slide nr.5 Benchmark expected return models Market-adjusted model Market model Dimson model for thin trading correction

Slide nr.6 Test statistics Traditional t-test of Brown and Warner (1985)

Slide nr.7 Test statistics – cont’d Potential problems  Event-induced variance Variance during event window exceeds variance over estimation period  Thin trading Non-normal return distribution  Traditional test statistics might be misspecified Non-parametric tests do not depend on assumptions about probability distribution of returns

Exploratory study 1

Slide nr.9 Sample description Preliminary study The Low Countries (B, NL) Listed on Euronext Brussels or Amsterdam Public announcement of 57 cases of corporate malconduct Leading financial newspapers (FD, FET)

Slide nr.10 Scope  Impact of different types of illegal behaviour Insider trading, corruption, tax fraud, accounting fraud, miscellaneous  Impact of company versus individual level  Impact of phase Rumour Formal investigation (police, judicial)  Impact of direct versus indirect effect Bottom line (direct) Reputation (indirect)

Slide nr.11 Hypotheses Hyp.1 – Stock prices of listed firm show a negative abnormal return upon the announcement of the corporate malconduct Hyp.2 – A value-impact corporate malconduct exhibits a larger negative abnormal return of stock returns than a maleficence with only an impact on the trust of shareholders Hyp.3 – Corporate malconduct at the firm level has a larger negative abnormal return than at the individual level Hyp.4 – The further corporate maleficence is along the formal investigation procedure, the larger the abnormal negative return

Slide nr.12 Empirical results – Total sample (Madj) DayNAARt-value % % %-2.54 * %-2.78 ** % % %2.45

Slide nr.13 Empirical results – subsamples Corruption  Only day 0 sign. at 5% level using MM (-1.77%)  Other days no significant ARs Tax fraud  Sign. at 5% level at day 0 (-0.99%)  Sign. at 1% level at day [+1] (-3.55%) (-4.54%) Insider trading  Not sign. at day 0 (-0.66%)  Sign. at 1% level at day [-1] (-2.13%)

Slide nr.14 Empirical results – subsamples Accounting fraud  Sign. AR at day [-2] at 1% level (-10.40%) Miscellaneous  Sign. AR at day 0 at 1% level (-1.20%)

Slide nr.15 Empirical results – subsamples Stadium  No price reaction for rumours  Sign. neg. AR for court phase Firm vs. individual level  No difference Bottom-line vs. trust  Higher impact for bottom-line events

Exploratory study 2

Slide nr.17 Sample description Public announcement of 239 cases of corporate malconduct Leading financial newspapers Five countries  Belgium, France, Germany, the Netherlands, UK Five types of corporate malconduct  Insider trading, tax and accounting fraud, bribery, price fixing and market power abuse, miscellaneous

Slide nr.18 Sample description – cont’d Country France51 Belgium18 UK63 The Netherlands43 Germany64 Type Insider trading62 Fraud51 Bribery23 Price fixing93

Slide nr.19 Empirical results (Madj) all (239) fraud (51) bribery (23) price (93) insider (62) %+0.17%+0.01%-0.20%-0.28% -1.04%+1.13%-0.25%-0.96%-2.45% %-1.98%+0.20%+0.29%-1.97% %-0.06%+0.15%-0.13%+0.60% %-0.11%-0.28%-0.12%-0.89% [-5,+5]-2.07%-1.20%-1.15%-0.64%-5.36%

Slide nr.20 Empirical results (Madj) – cont’d All (239) France (51) Germ. (64) UK (63) Nether. (43) Belg. (18) %-0.23%-1.14%+0.23%+0.57%+1.67% -1.04%-0.40%-1.17%-0.98%-2.08%-0.38% %+0.06%-1.85%-0.56%-0.40%-1.21% %-0.19%+0.82%+0.09%-0.43%-0.89% %-0.37%-1.28%+0.59%+0.45%+0.27% [-5,+5]-2.07%-1.63%-5.51%+0.18%-2.23%+1.53%

Slide nr.21 Further research Larger sample with richer taxonomy of corporate malconduct Cross-country (five countries) – cultural differences Differences in types across countries Differences pre and post Enron (mental framing) or other time-effects Interpretation and consequences of the results for business ethics