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Financial Restatements, Cost of Debt and Information Spillover: Evidence From the Secondary Loan Market

Authors

  • Jong Chool Park,

    1. The authors are both from Lally School of Management & Technology, Rensselaer Polytechnic Institute. They thank seminar participants at Rensselaer Polytechnic Institute, Financial Management Association Meeting, and Korean Accounting Association Summer Meeting for helpful comments and suggestions. Moreover, this paper has benefited from discussion of Min Sup Song and helpful comments and suggestions of Martin Walker (editor) and an anonymous referee. The authors also acknowledge excellent editorial assistance from Rosemarie Webb.
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  • Qiang Wu

    Corresponding author
    1. The authors are both from Lally School of Management & Technology, Rensselaer Polytechnic Institute. They thank seminar participants at Rensselaer Polytechnic Institute, Financial Management Association Meeting, and Korean Accounting Association Summer Meeting for helpful comments and suggestions. Moreover, this paper has benefited from discussion of Min Sup Song and helpful comments and suggestions of Martin Walker (editor) and an anonymous referee. The authors also acknowledge excellent editorial assistance from Rosemarie Webb.
      * Address for correspondence: Jong Chool Park, Lally School of Management & Technology, Rensselaer Polytechnic Institute, 110 8th Street, Troy, New York 12180, USA.
      e-mail: parkj@rpi.edu
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* Address for correspondence: Jong Chool Park, Lally School of Management & Technology, Rensselaer Polytechnic Institute, 110 8th Street, Troy, New York 12180, USA.
e-mail: parkj@rpi.edu

Abstract

Abstract:  In this paper, we investigate the effect of financial restatements on the debt market. Specifically, we focus on the secondary loan market, which has become one of the largest capital markets in the US, and ask the following: (1) whether financial restatements increase restating firm's cost of debt financing and (2) whether the information about restatements arrives at the secondary loan market earlier than at the stock market? Using 176 restatement data, we find significant negative abnormal loan returns and increased bid-ask spreads around restatement announcements. Furthermore, this negative loan market reaction is more pronounced when the restatement is initiated by either the SEC or auditors, and when the primary reason for restatement is related to revenue recognition issues. Additionally, we find restatement information arrives at the secondary loan market earlier than at the equity market, and that such private information quickly flows into the equity market. We also show that stock prices begin to decline approximately 30 days prior to the restatement announcements for firms with traded loans. However, we do not find such informational leakage for firms without traded loans. Collectively, the results of this paper suggest: (1) increased cost of debt financing after restatements and (2) superior informational efficiency of the secondary loan market to the stock market.

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