Ehud Kamar’s Study on the Consequences of SOX

Ehud Kamar presented a fascinating new paper last night at the Law School’s Law and Economics Seminar: Going-Private Decisions and the Sarbanes-Oxley Act of 2002: A Cross-Country Analysis.  The paper, which is coauthored by Pinar Karaca-Mandic and Eric Talley, uses a difference-in-differences approach to measure whether small firms are being driven out of the U.S. capital markets by Sarbanes-Oxley.  The Abstract is as follows:

This article investigates whether the passage and the implementation of the Sarbanes-Oxley Act of 2002 (SOX) drove firms out of the public capital market.  To control for other factors affecting exit decisions, we examine the post-SOX change in the propensity of public American targets to be bought by private acquirers rather than public ones with the corresponding change for foreign targets, which were outside the purview of SOX.  Our findings are consistent with the hypothesis that SOX induced small firms to exit the public capital market during the year following its enactment.  In contrast, SOX appears to have little effect on the going-private propensities of larger firms.

Ehud’s presentation at the Seminar was followed by a lively debate with faculty and students.  Some highlights:

—Allen Ferrell pointed out that the study uses the date of SOX’s enactment as the basis for its analysis, but that the market may well have been aware of its impending passage three or six months before the date it was enacted.  He also suggested that the study might control for capital structure, which might vary across countries.  Allen also wondered whether a decline in analyst coverage of small companies in the United States following the settlement between the State of New York and several large investment banks may also have affected going-private rates for small firms.

—Louis Kaplow suggested that the authors use data further back before the passage of SOX to see whether post-SOX data breaks meaningfully with the pre-SOX trend in going-private rates.  He also noted that the study’s difference-in-differences approach, while a useful means of controlling for other factors influencing acquisition rates (and thus well-motivated here), limits the scope of the paper’s implications: the data tells us only that SOX was, on a net basis, more costly for small firms than for big ones, but cannot tell us whether the overall costs of SOX outweigh its benefits.

—Mark Roe pointed out that the emergence of a monetary union in Europe during the post-SOX period may have had an effect on merger activity in the control group, and also noted that rules about squeeze-out mergers and stock buybacks had changed in recent years and may have effected going-private rates.  Ehud noted, however, that the study’s results persist when the authors compare U.S. going-private rates to those in Canada.

The full study, including the analysis that generated this interesting debate, can be accessed here.