Does Internal Control Reduce Firms’ Stock Price Crash Risk? Evidence from China

Under a unique setting in China, the success of internal control is dependent upon whether the informational and disciplinary role it serves effectively manages risks. Using the data from the China Stock Market & Accounting Research database and Dibo databases, the relationship between internal control and stock price crash risk of the firms is investigated. Our empirical results from the regression model show that there is a negative correlation between the price crash risk and the internal control. After two robustness checks, including alternative measures and multi-fixed effects model analysis , the same results are obtained as before. Furthermore, our heterogeneity analysis shows that the effect of internal control is much more significant on small-cap firms and firms with low institutional ownership. Collectively, our findings suggest that the importance of internal control on firm governance helps reduce stock price crash risk.