Shareholder rights and the market reaction to Sarbanes-Oxley

The Sarbanes-Oxley Act of 2002 (SOX) was aimed at enhancing corporate governance, financial reporting, and audit functions. This study compares the market reaction of firms with weak and strong protection of shareholder rights to the passage of SOX. We find that firms with weak shareholder rights experienced positive abnormal returns when SOX was passed. This is consistent with the market perceiving that such firms would benefit from the governance reforms. In contrast, firms with strong shareholder rights did not experience a significant positive market reaction. We also find a significant increase in risk for firms with weak shareholder rights following the passage of SOX. In addition, we find that strong shareholder rights firms decreased shareholder protection after SOX, while weak shareholder rights firms did not change significantly from their pre-SOX protection levels. We find no evidence of abnormal long-run performance for firms that altered their shareholder protection following SOX.