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Liquidity Effects of Litigation Risk: Evidence from a Legal Shock

Author

Listed:
  • Tommaso Oliviero
  • Min Park
  • Hong Zou

Abstract

Theory offers two diverging views on the effects of ex ante litigation risk on corporate liquidity proxied by cash holdings. Ex ante litigation risk, however, is difficult to measure. We test the liquidity effects of ex ante litigation risk by exploiting the phase-by-phase introduction of securities class actions (SCAs) in Korea. Following the increase in litigation risk, firms significantly increase their internal liquidity, especially those without directors’ and officers’ liability insurance and those that are financially constrained. The results hold robustly in difference-in-differences and regression discontinuity designs. We also find that the increase in ex ante SCA risk improves firms’ stock market liquidity and valuation, especially for firms that do not carry liability insurance. Taken together, the results are consistent with the arguments that SCAs increase firms’ liability risk and lower investors’ risk.

Suggested Citation

  • Tommaso Oliviero & Min Park & Hong Zou, 2024. "Liquidity Effects of Litigation Risk: Evidence from a Legal Shock," Journal of Law and Economics, University of Chicago Press, vol. 67(1), pages 103-141.
    • Handle: RePEc:ucp:jlawec:doi:10.1086/727345
    DOI: 10.1086/727345
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    Cited by:

    1. Guo, Hongling & Zhou, Wei & Chen, Juan & Xie, Guangming, 2025. "Unveiling the contagion effect: How major litigation impacts trade credit," Research in International Business and Finance, Elsevier, vol. 75(C).
    2. Choi, Seungho & Gam, Yong Kyu & Kim, Yong Hyuck & Shin, Hojong, 2024. "The effect of ex ante litigation risk on corporate fraud: Evidence from securities class action act in Korea," Finance Research Letters, Elsevier, vol. 64(C).

    More about this item

    JEL classification:

    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • K22 - Law and Economics - - Regulation and Business Law - - - Business and Securities Law

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