Does the Market Know? Going Concern Opinion Release and Firm Fundamentals

Abstract

Using a significant auditing event-the going concern audit opinion-we investigate the market’s forecasting ability and the importance of firm fundamentals in predicting the going concern event. First, we find that the equity market signals the upcoming going concern announcement as early as 30 days in advance. Specifically, during the window of [-30, -1] leading up to the announcement, the excess returns to going concern firms are 9.98% worse than the matched distressed firms. Moreover, short sellers, a group of sophisticated investors, significantly increase their shorting activities during days before the release of the going concern opinions. Furthermore, we find that firm fundamentals, which are observable to the market, are significantly predictive to the issuances of going concern. These variables include a firm’s operating performance (return on assets and operating cash flows), equity market liquidity, stock momentum, and filing delay. Overall, our evidence supports the perception that the market can forecast the going concern opinion release and points out its possible channel as well.