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Elsevier B.V.


This study examines cross-sectional differences in stock market reactions to the disclosure of internal control deficiencies under Section 302 of the Sarbanes-Oxley Act. We hypothesize that the market punishment for internal control problems will be less severe for internal control disclosure that helps reduce market uncertainty around the disclosure. We also predict that such a relation is dependent on the types of disclosure and the market's prior knowledge of the credibility of firms' financial reporting. Consistent with our hypothesis, we find that when firms disclose their internal control deficiencies, their abnormal stock returns are negatively associated with changes in market uncertainty (e.g., changes in the standard deviations of daily stock returns) around the disclosure. We also find that the impact of the uncertainty reduction is greater for voluntary disclosures of non-material weakness, especially those made in the context of previous suspicious events. The negative impact of changes in market uncertainty on the abnormal stock returns remains intact even after controlling for possible simultaneity. An analysis using financial analysts' earnings forecasts dispersion as an alternative proxy for uncertainty confirms the results.


NOTICE: this is the author's version of a work that was accepted for publication in Journal of Accounting and Public Policy. Changes resulting from the publishing process, such as peer review, editing, corrections, structural formatting, and other quality control mechanisms may not be reflected in this document. Changes may have been made to this work since it was submitted for publication. A definitive version was subsequently published in Journal of Accounting and Public Policy, Vol. 28, No. 5, (2009) doi:10.1016/j.jaccpubpol.2009.07.004

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