Friends in low places: The impact of political scandals on connected firms' stock prices

Abstract

In this study, we use the exogenous nature of political scandals to test whether political connections in the form of campaign contributions expose firms to reputational risk. We hand-collect a sample of 218 scandals of members of the U.S. Congress that occurred between 2000 and 2019 and estimate the abnormal returns around the day a scandal first appeared in the news. We find that connected firms and to a lesser extent other politically active firms experience value losses around corruption scandals involving firms or lobbyists. Our results suggest that this effect is mainly driven by reputation spillover and investors updating their beliefs about the risks of political contributions instead of by an expected loss in political benefits. Moreover, shareholders of connected firms are more likely to submit proposals on the disclosure of political contributions following scandals, implying that they require more information to actively manage these risks.