Wall Street Journal
Monday, March 8, 2021

Media coverage of corporate wrongdoing is an important part of holding executives accountable, according to a new study from a University of Iowa researcher, and shows the value of a robust watchdog media.

The study, from Dain Donelson, professor of accounting in the Tippie College of Business, looked at shareholder lawsuits brought against firms that engaged in corporate backdating, a practice revealed by the Wall Street Journal in a Pulitzer Prize-winning series of stories. The investigation, published in 2006 and 2007, was based on a 2005 study published by Tippie finance professor Erik Lie.

Lie’s study found a significant number of firms had been backdating stock options or misrepresenting the option grant dates to when the stock was selling for a higher price so that the option was more valuable. The practice violates federal securities law. The WSJ investigation that followed found backdating to be even more widespread and led to numerous shareholder lawsuits against firms that gave backdated options to their managers, as well as investigations by federal regulatory agencies.

Donelson says the WSJ series increased litigation probability by an economically meaningful amount. For example, being named by the WSJ increased case filing likelihood in the same quarter by 45%, and by 60% overall.

The study also found a market impact of the Journal’s coverage, as stock prices of companies named in the investigation fell up to 5% in the week following publication.

Donelson says the coverage led to more lawsuits in part because the stories brought attention of the wrongdoing to shareholders and attorneys. Many of the lawsuits filed against firms cited the WSJ’s investigation in their filings.

But the coverage did more than just shine a public light on the backdating. Donelson says it also helped plaintiff’s lawyers by essentially acting as an expert witness, prompting companies that engaged in backdating to realize they needed to settle. In the backdating lawsuits, he says plaintiff’s lawyers “outsourced” much of their investigation to the Wall Street Journal and other media outlets that covered the scandal.

To discover if the WSJ’s coverage was responsible for the litigation, Donelson and his research team compared the outcome of those firms named in news coverage to those firms that engaged in backdating but were not publicly identified by media. They found 88 percent of firms identified in the Journal’s investigation were sued, compared to only 4 percent that WSJ didn’t identify.

Donelson says the results of the Journal’s investigation show the need for a vigilant media to act as a check on corporate misbehavior.

“Unfortunately, the reduction in newsroom employment by nearly half in the last decade and the many newspaper bankruptcies suggest there are fewer deterrents to corporate malfeasance,” he says.

Donelson’s paper, “Does Media Coverage Cause Meritorious Shareholder Litigation? Evidence from the Stock Option Backdating Scandal,” was co-authored by Antonis Kartapanis and Christopher Yust of Texas A&M University. It was published in the Journal of Law and Economics.

 

Media contact: Tom Snee, tom-snee@uiowa.edu, 319-541-8434