Externalities of Financial Fraud: Competitor Reaction and Cross-Sectoral Impact of the Luckin Coffee Scandal

This study examines the impact of the Luckin Coffee financial fraud scandal on abnormal stock returns across related and unrelated industries. Using a Difference- in-Differences (DID) methodology, this study examines market reactions to two key events: the initial fraud allegations in the Muddy Waters report (January 31, 2020) and Luckin Coffees admission of fraudulent activities (April 2, 2020). The food and beverage sector experienced a sharp 7.75% decline (p < 0.05) in abnormal returns during the first week following the fraud allegations, stabilizing over the next two months. Upon confirmation of the fraud, the retail food sector demonstrated a strong positive reaction, with returns increasing by 17.45% (p < 0.01) in the first week and continuing to rise in the following months. In contrast, the food and beverage sector saw only temporary gains, with no significant movement thereafter. Other sectors, such as technology and finance, displayed considerable volatility and delayed responses to the scandal. These findings highlight the externalities of financial fraud, illustrating its disruptive effect on market behavior across industries. The results underscore the need for more robust corporate governance, enhanced regulatory oversight, and targeted behavioral interventions to mitigate fraud risk and restore investor confidence.