Does investment efficiency improve after the disclosure of material weaknesses in internal control over financial reporting?

Highlights • Material weaknesses in ICFR are associated with investment inefficiency. • After the disclosure of ICFR weaknesses, the investment inefficiency gets mitigated. • These effects are robust to controls for earnings quality and various corporate governance mechanisms. Abstract We provide more direct evidence on the causal relation between the quality of financial reporting and investment efficiency. We examine the investment behavior of a sample of firms that disclosed internal control weaknesses under the Sarbanes-Oxley Act. We find that prior to the disclosure, these firms under-invest (over-invest) when they are financially constrained (unconstrained). More importantly, we find that after the disclosure, these firms’ investment efficiency improves significantly.

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Journal of Accounting & Economics

The Journal of Accounting and Economics is a peer-reviewed academic journal focusing on the fields of accounting and economics.

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