The Effects Of Fraud On Corporate Mergers And Acquisitions

Fraud by list companies seriously impairs the interests of investors and other stakeholders,leading to detrimental effect on the capital market,as well as on the social credit system.Therefore,regulatory enforcement actions constantly increase.The number of companies which are punished for committing fraud rises as well.Relevant literature reveals that these fraud companies may subject to possible legal sanctions and lawsuits,more importantly,the regulatory enforcement actions cause serious reputation loss to these companies.Many stakeholders may withdraw their support and resources from the fraud companiese,resulting in the decline of the corporate value,and also affecting their financial activities such as financing and investment.Researchers have devoted considerable attention to the influence of corporate fraud on firms' financing activities,however,the literature lacks sufficient attention to the investment activities part.In this paper,I focus on a core investment activity—Mergers and Acquisitions(M&As),and examine whether fraud revelation affects corporate M&As and the mechanism.Using a sample of A-share listed companies in China from 2008 to 2017,this study analyze the relationship between fraud revelation and the decision of corporate M&As,and explain the adjustment of M&A decision of fraud companies from the perspective of reputation repair.Then,from the perspective of stakeholders,I test the mechanism of the reputation repair of the fraud firms.Finally,I study the impact of fraud firms' M&As on corporate performance.The main results of this paper are as follows:The first part examines the relationship between fraud commitment and firm's M&As,I find that:(1)In China,fraud revelation positively affects fraudulent firms' subsequent M&A policies,fraudulent firms are incline to make more and larger M&As;(2)Compared with the state-owned enterprises with abundant resource endowment,the non-state-owned enterprises are more inclined to increase M&As after fraud commitment;(3)Further research shows that,in terms of the degree of fraud,serious fraud has more significant positive impact on M&As;in terms of the types of fraud,information disclosure fraud has more significant positive impact on M&As;in addition,the increase of M&A activities may last for a long time.In this paper,I explain the abnormal phenomenon of M&As of Chinese fraud firms from the perspective of reputation repair.The second part investigates the mechanism of the abnormal phenomenon of fraud firms,I find that:(1)Compared with the fraud firms that without implementing M&As,the equity cost are lower for the fraud firms that implementing M&As,indicating that in the capital market,the M&As of fraud firms can improve the relations with the key capital providers-shareholders;(2)Compared with the fraud firms that without implementing M&As,fraud firms that implementing M&As have higher trade credit from suppliers and higher sales revenue from customers,indicating that in the product market,the M&As of fraud firms can improve the relations with the key stakeholders in the upstream and downstream of the supply chain-suppliers and customers;(3)Further research shows that,in the capital market,fraud firms' M&As play a positive role in increasing the amount of financing;(4)In the capital market,reputation loss and its repair are more pronounced to suppliers and customers with smaller size.This paper holds that the M&A activities carried out by the fraud enterprises can achieve reputation repair effect through improving the relations with key stakeholders.The third part analyze the M&A performance of fraud firms,and find that:(1)M&As causes increase to the short-term performance of fraud firms;(2)In terms of M&As types,horizontal M&As have more positive impact on the short-term performance of fraud firms;(3)Further analysis points out that,in the context of limited resources,the increase of M&A investment of fraud firms may occupy other types of investment activities to a certain extent,especially leading to the decrease of R&D;(4)Three years after the implementation of M&As,the performance of fraud firms reversed.Taken together,this paper finds that after the fraud revelation,listed companies make more M&As in order to improve relations with stakeholders and to repair their reputation.This kind of reputation repair behavior can achieve a certain effect,and is conducive to improving the short-term performance of fraud enterprises.This paper contributes to the literature in several ways:First,this paper deepens the knowledge of enterprise behavior by examining the role that fraud revelation plays in affecting M&A activities.From the perspective of the impact of fraud revelation on financial activities,a majority of the literature verifies the influence of corporate fraud on the financing activities,but little on the investment activities.Even though some reserchers shed light on the investment after fraud,they use financing as an intermediary,showing that due to the lack of financial support after fraud revelation,the investment activities have to be reduced(Autore et al.,2014;Yuan and Zhang,2016).This paper directly focuses on the relationship between fraud revelation and corporate investment activities,examineing the proactive adjustment of investment decisions in the environment of reputation loss caused by fraud revelation.Furthermore,this paper extends research on the motives of M&As.In addition to the traditional M&As motivation theory,such as the theory of synergy effect,hubris hypothesis etc.,which analysis from the perspective of enterprises and executives,recent literatures pay more attention to the influence of external environmental factors on corporate M&As.Reserchers find that financial crisis(Wan and Yiu,2009),M&As waves(Haleblian et al.,2009;Maksimovic et al.,2013),national institutional environment(Meyer et al.,2009),industry regulation(Cornaggia et al.,2015),political promotion opportunities(Chen et al.,2015),various competition activities(Haleblian et al.,2017;Shi et al al.,2017)and other environmental factors may affecting firms' M&A decision.Based on the situation of China's capital market,this paper examines the decision-making of M&As under the background of fraud revelation,and proposes a new motive of M&As of reputation repair.Moreover,this study adds new empirical evidence for reputation repair.How to repair damaged reputation is one of the most important unsolved problems in current reputation research(Karpoff,2012).When enterprises facing the crisis of reputation loss,they may react proactively in many ways,such as improving corporate governance(Marciukaityte et al.,2006),changing executives(Chakravarthy et al.,2014;Faber,2005),changing auditors(Singer,2004;Wilson,2008),increasing charitable donations(Li et al.,2017;Xia et al.,2019),voluntary release of social responsibility report(Che and Su,2018),and adoption of corporate name change(Xie et al.,2017).This paper points out that the implementation of M&As is conducive to earn back the trust of key stakeholders in the capital market and product market,to reduce the negative impact of reputation loss,and to achieve better reputation restoration effect in the short term.Last but not the least,the conclusion of this paper suggests the regulatory agencies to reasonably anticipate,guide and supervise the response measures after fraud revelation,so as to avoid the distorted or weakened governance effect of regulatory penalties.Strict supervision in China's securities market leads to a large number of fraud companies that have been punished,and they may take measures to slove the problem of the negative impact.The investigation of the economic consequences of the fraud revelation should not only include the negative impact on the enterprises,but also include the reasonable response of these enterprises.The suggestion for fraud enterprises,they should have a good understanding of and choose the measures to deal with fraud revelation.When facing the reputation loss caused by fraud revelation,enterprises should consider how to solve existing problems and correct the defects,preventing the recurrence of fraud from the source.The suggestion for market participants,investors and other stakeholders in the capital market should have a deep understanding of the response strategies of the fraud firms,in order to identify the real value of enterprises.