The effects of regulatory investigation, supplier defect, and product age on stock investors’ reaction to an automobile recall

When a product recall is announced, the product manufacturer's stock investors estimate the costs of the recall to determine how much to penalize the firm's stock price. Prior event studies have viewed these costs as manifest only in the downstream consumer market. We reason that this view is deficient. This article considers the costs of a recall as manifest in the nonproduct market (specifically, with the safety regulator) and the product market (i.e., with the upstream supplier and the downstream consumers). For each of these three stakeholders, we hypothesize one characteristic that proxies recall costs. We test the hypotheses in the context of 612 automobile recalls initiated by 14 manufacturers in the United States in 2009–2019. We find that automobile recalls elicit, on average, stock investors' reaction of −0.22%, equivalent to a loss of $81 million for an average manufacturer in our sample. Whereas the duration of regulatory investigation negatively affects this reaction, the product age positively impacts it. Further, whether the defective component is manufactured by a supplier or the recalling manufacturer does not matter to investors. The evidence suggests that stock investors estimate recall costs as manifest in the manufacturer's product market and nonproduct market. Further, managers can preserve the manufacturer's shareholder value by not letting regulatory investigation last long before a recall is announced.