False News Implications for Auditors and Investors

I examine the determinants and implications of false news on client business risk and firm credibility. False news is defined as information presented as factually accurate, but which contains fabricated facts and is deliberately made public to mislead the reader. Importantly, it is later denied by a credible source. There is a significant concern about the influence of false news on individuals’ decision-making and judgment processes. However, our knowledge regarding false news and its implications for financial markets is minimal. I investigate false news by focusing on negative false news that is not initiated from within the company. Building on financial and political motives behind incidents of false news, I examine whether industry competition and media coverage play a role in making a firm a target for false news. I further examine the impact of false news on the firm’s financial reporting behavior and investigate whether the firm’s auditor prices false news. Lastly, based on the argument that false news increases distrust and uncertainty, I examine whether false news decreases the credibility of the firm’s disclosures and test whether the earnings response coefficient (ERC) is lower after the release of false news. I find that lower competition and higher media coverage are associated with higher likelihood of false news. Consistent with my predictions, I also find that false news target firms have higher abnormal accruals, higher abnormal real earnings activities, and higher audit fees. However, I do not find support for the notion that false news reduces credibility of firm’s disclosure.