The impact of high insider ownership on SOX 404 internal controls

2019 ◽  
Vol 20 (1) ◽  
pp. 106-122
Author(s):  
Lucy Uche Diala ◽  
Robert Houmes
Keyword(s):  
Financial Reporting ◽  
Internal Control ◽  
Reporting Quality ◽  
Internal Controls ◽  
Section 404 ◽  
Probit Regression ◽  
Content Type ◽  
Insider Ownership ◽  
Ex Post ◽  
The Impact

Purpose This study aims to investigate the effect of high insider ownership on firms’ internal controls over financial reporting. In particular, it examines how high insider ownership affects the likelihood of an adverse Sarbanes–Oxley Act Section (SOX Section 404) opinion and its subsequent remediation. Design/methodology/approach Tests of hypotheses use ineffective controls and remediation models. The initial tests in this study use ineffective internal controls over financial reporting probit regression models to investigate how high insider ownership affects the ex-post likelihood of an adverse 404 opinion. Two remediation models – a multinominal probit regression and probit regression model – are used to investigate the effect of high insider ownership on the likelihood of successfully remediating an adverse 404 opinion. Findings Results show that while the ex-ante likelihood of an adverse SOX Section 404 auditor’s internal control opinion increases with high insider ownership, high insider ownership firms are more likely to remediate ineffective 404 controls. This study rationalizes these diverse findings by asserting that prior to an adverse 404 opinion, entrenched managers avoid internal control financial reporting oversight and monitoring. After an adverse opinion, however, and within the context of an imminent and explicit value reducing 404 opinion, powerful high insider owner managers are motivated to remedy ineffective controls. Originality/value This research synthesizes existing streams of literature on insider ownership and the effectiveness of internal control over financial reporting quality to provide new information on the effects of high insider ownership on firms’ internal controls.

scholarly journals Internal Control Weakness and Managerial Myopia: Evidence from SOX Section 404 Disclosures

2019 ◽  
Vol 8 (1) ◽  
pp. 71-83 ◽  
Author(s):  
Amy E. Ji
Keyword(s):  
Financial Reporting ◽  
Internal Control ◽  
Investment Decisions ◽  
Reporting Quality ◽  
Internal Controls ◽  
Financial Reporting Quality ◽  
Section 404 ◽  
Managerial Myopia ◽  
Internal Control Weaknesses ◽  
The Impact

Problem/ Relevance: Managerial myopia is an important issue of interests to academics, practitioners, and regulators as managers have been condemned for their obsession with short-term earnings and myopic investment decisions that sacrifice firms’ long term value for shareholders. This article contributes by examining whether the quality of firms’ internal controls over financial reporting (ICFR) is associated with managerial myopia. Research Objective/ Questions: The purpose of this study is to examine whether managers in firms reporting material internal control weaknesses (ICW) under Section 404 of the Sarbanes-Oxley Act (SOX) of 2002 engage in myopic behaviors more than those in firms without reporting ICW. Methodology: The study uses the logit regression model to investigate a sample obtained from Compustat for the period of 2005-2013. Major Findings: The study finds a positive association between internal control weaknesses reported by auditors under Section 404 of the SOX and managerial short-termism which is measured by the probability of cutting R&D expenses in the current year from the previous year. Implications: Whereas prior studies mostly examine the impact of internal controls on accounting quality, this study demonstrates the implication of internal controls beyond financial reporting quality by showing an association between internal control quality and managerial myopia. Future research may further investigate the association between firms’ financial reporting quality and managerial investment decisions.

Internal control and financial reporting quality of small firms

2020 ◽  
Vol 19 (2) ◽  
pp. 221-246
Author(s):  
Jagan Krishnan ◽  
Jayanthi Krishnan ◽  
Sophie Liang
Keyword(s):  
Financial Reporting ◽  
Internal Control ◽  
Small Firms ◽  
Reporting Quality ◽  
Financial Reporting Quality ◽  
Policy Debate ◽  
Content Type ◽  
Material Weaknesses ◽  
The Impact

Purpose The Dodd–Frank Act of 2010 exempts small, non-accelerated filers from compliance with Sarbanes–Oxley Act (SOX) Section 404b internal control audits. However, these firms are required to comply with other internal control regulations, namely, SOX Sections 302 and 404a, starting in 2002 and 2007, respectively. A small number of these firms also voluntarily adopted (and sometimes dropped) Section 404b during 2004-2010. The purpose of this study is to investigate the impact of a series of internal control regulations introduced by SOX on the financial reporting quality of small firms. Design/methodology/approach The research design for this study is empirical. Using unsigned and signed discretionary accruals as measures of financial reporting quality, the authors compare the financial reporting quality for adopters and non-adopters across four regulation regimes over the period 2000-2010: PRESOX, SOX 302, SOX 404a and SOX 404b. Findings The results indicate that most of the adopters and non-adopters benefited from SOX 302 and 404a compared with the PRESOX period. However, only the non-adopters gained incrementally when moving from SOX 302 to SOX 404a. Also, Section 404b benefited firms with material weaknesses, as well as firms without material weaknesses that had the lowest reporting quality, in the PRESOX period. Research limitations/implications This study helps inform the important policy debate on whether to increase the threshold that is used for the SOX 404b exemption. It shows incremental benefits for firms that adopted Section 404b audits, even when they were complying with Section 302 and Section 404a. Consequently, extending the exemption to more companies would result in a loss of the reporting quality benefit of 404b. Originality/value This study contributes to the literature by focusing exclusively on non-accelerated filers and by examining differences across four regulation regimes over a long window compared to prior studies. It provides evidence that the financial reporting benefit of SOX 404b is not transitional, but rather extends for a few years even after some firms discontinued the 404b audits.

Investor Perceptions of Government Deregulation: Evidence from Section 404 of the Sarbanes-Oxley Act

2020 ◽  
Author(s):  
Benjamin W Hoffman ◽  
John L. Campbell ◽  
Jason L. Smith
Keyword(s):  
Financial Reporting ◽  
Government Regulation ◽  
Abnormal Returns ◽  
Reporting Quality ◽  
Internal Controls ◽  
Litigation Risk ◽  
Section 404 ◽  
Fraud Risk ◽  
Sarbanes Oxley ◽  
Public Company

We investigate the stock market's reaction to events leading up to the Securities and Exchange Commission's (SEC) and Public Company Accounting Oversight Board's (PCAOB) 2007 regulatory changes that reduced the scope of and documentation requirements for assessments of firms' internal controls over financial reporting (ICFR), as required by Section 404 of the Sarbanes-Oxley Act. The stated goal of these regulations was to reduce firms' and auditors' compliance costs with mandatory ICFR assessments, while maintaining the effectiveness of these assessments. We examine abnormal returns surrounding key dates leading to the passage of these regulations and offer two main findings. First, investors reacted negatively on key event dates, suggesting that investors viewed the regulations as likely to reduce financial reporting quality rather than to drive firm and audit efficiencies. Second, this negative market reaction is larger when ICFR effectiveness should matter most - when firms are more complex, have higher litigation risk, and greater fraud risk. In additional analysis, we find that restatements increase in the post-regulation time period, consistent with investors' concerns that the effect of the legislation would be a reduction in ICFR effectiveness. Overall, our results may imply that investors prefer stronger government regulation when it comes to the assessments of a firm's internal controls over financial reporting.

Effects of leadership and accounting capacity on accountability through the quality of financial reporting by public organisations in Vietnam

2021 ◽  
Vol ahead-of-print (ahead-of-print) ◽  
Author(s):  
Yen Thi Tran ◽  
Nguyen Phong Nguyen ◽  
Trang Cam Hoang
Keyword(s):  
Public Sector ◽  
Financial Reporting ◽  
Reporting Quality ◽  
Financial Reporting Quality ◽  
Equation Modeling ◽  
Content Type ◽  
Research Results ◽  
Public Organisations ◽  
The Impact

Purpose By drawing on the institutional theory and contingency theory, this study aims to examine the effects of leadership and accounting capacity on the quality of financial reporting and accountability of public organisations in Vietnam. Furthermore, this paper is to determine the impact of financial reporting quality on accountability. Design/methodology/approach The research model and hypotheses have been tested by partial least squares structural equation modeling, with 177 survey samples obtained from accountants and managers working in the public sector in Vietnam. Findings The research results indicate that leadership and accounting capacity have a positive effect on financial reporting quality; leadership and accounting capacity positively influence accountability; and the quality of financial reporting has a positive impact on accountability. Research limitations/implications The research results provide empirical evidence of the direct impact of leadership and accounting capacity on financial reporting quality and accountability of public organisations in a developing country. Moreover, the current work also provides important evidence for the impact of financial reporting quality on accountability. Practical implications Public sector organisations must realise that leadership and accounting capacity play a vital role in the accounting reform process. Public institutions likewise need to pay attention to develop accounting capacity and promote leadership. Moreover, the results respond to the continuing call for increased citizen trust in public organisations. Originality/value To the best of the authors’ knowledge, this study is the first to examine the chain from leadership, accounting capacity, financial reporting quality and accountability in the context of public sector organisations in an Asian transition market.

Financial reporting quality, family ownership, and investment efficiency

2019 ◽  
Vol 45 (4) ◽  
pp. 513-535 ◽  
Author(s):  
Faisal Shahzad ◽  
Ijaz Ur Rehman ◽  
Sisira Colombage ◽  
Faisal Nawaz
Keyword(s):  
Financial Reporting ◽  
Family Firms ◽  
Emerging Market ◽  
Reporting Quality ◽  
Least Square ◽  
Financial Reporting Quality ◽  
Family Ownership ◽  
Investment Efficiency ◽  
Content Type ◽  
The Impact

Purpose The purpose of this paper is to empirically investigate the impact of two monitoring mechanisms: family ownership (FO) and financial reporting quality (FRQ) on investment efficiency (IE) over the period of 2007–2014 for listed firms on the Pakistan Stock Exchange. Design/methodology/approach The authors employ two-dimensional pooled OLS cluster at the firm and year level, two-stage least square regression and feasible generalized lease square regression regression methods. Findings The findings suggest that higher FRQ and FO are associated with higher IE. Further, the authors report that higher FRQ and FO mitigate over- and under-investment. The impact of FRQ on IE is stronger (weaker) for family-controlled businesses. The results for these particular estimates are robust for alternative estimation techniques and measures of FRQ and FO. Originality/value The study draws on both agency and behavioral agency theories and therefore contributes to the literature in the following ways. First, the authors examine a relationship between FRQ and IE. Second, the authors test the impact of FO on IE. Third, the authors test the moderating impact of FO on the relationship between FRQ and the IE of family and non-family firms in relatively less regulated emerging market.

An exploration of the choice to comply voluntarily with SOX section 404(b)

2019 ◽  
Vol 35 (1) ◽  
pp. 93-110
Author(s):  
Alan Blankley ◽  
David Hurtt ◽  
Jason MacGregor
Keyword(s):  
Financial Reporting ◽  
Internal Control ◽  
Small Businesses ◽  
Small Companies ◽  
Section 404 ◽  
Content Type ◽  
Sarbanes Oxley ◽  
Financial Perspective ◽  
The Law ◽  
Several Delays

Purpose Central to the Sarbanes–Oxley Act was a requirement that every company have an audit of its internal control over financial reporting. However, there were concerns that this requirement was overly burdensome, from a financial perspective, for small businesses. This concern promoted several delays in enforcing the law for small companies and ultimately caused congress to permanently exempt small businesses. Yet, there are some small companies that voluntarily elect to comply with the law. The purpose of this paper is to explore why these companies elect to incur these costly audits. Design/methodology/approach Using a sample of 5,834 non-accelerator US firms, this paper uses a robust logistic regression model to examine why some firms comply voluntary with SOX Section 404(b). Findings This study shows that small companies getting audits of internal controls may be doing so to restore investor confidence after reporting failures, to appear credible prior to raising funds, as a response to organizational changes, or in anticipation of being required to comply. Practical implications This study provides regulators with an improved understanding of when it is necessary to implement mandatory rather than voluntary guidance. Originality/value This study is the first to document why a client would voluntarily comply with SOX Section 404 (b).

IFRS adoption, financial reporting quality and cost of capital: a life cycle perspective

2019 ◽  
Vol 31 (3) ◽  
pp. 497-522 ◽  
Author(s):  
Ahsan Habib ◽  
Md. Borhan Uddin Bhuiyan ◽  
Mostafa Monzur Hasan
Keyword(s):  
Life Cycle ◽  
Financial Reporting ◽  
Cost Of Capital ◽  
Reporting Quality ◽  
Financial Reporting Quality ◽  
Cost Of Equity ◽  
Content Type ◽  
Ifrs Adoption ◽  
Life Cycle Stages ◽  
The Impact

Purpose This paper aims to investigate the impact of International Financial Reporting Standards (IFRS) adoption on financial reporting quality and cost of equity. The paper further investigates whether such association varies at different life cycle stages. Design/methodology/approach This paper follows the methodologies of DeAngelo et al. (2006) and Dickinson (2011) to develop proxies for the firms’ stages in the life cycle. Findings Using both pre- and post-IFRS adoption period for Australian listed companies, the paper finds that financial reporting quality reduced and cost of equity increased because of the adoption of IFRS. The paper further evidences that financial reporting quality in the post-IFRS period increased cost of equity. Finally, the paper finds that mature firms produce a better quality of earnings, which result in lower cost of capital. The results indicate that a mature firm was benefited because of the adoption of IFRS. Originality/value The finding of this research is useful to the regulators and practitioners to understand the widespread benefit of IFRS adoption.

Better with age: financial reporting quality in family firms

2019 ◽  
Vol ahead-of-print (ahead-of-print) ◽  
Author(s):  
Roberto Tommasetti ◽  
Marcelo Á. da Silva Macedo ◽  
Frederico A. Azevedo de Carvalho ◽  
Sergio Barile
Keyword(s):  
Financial Reporting ◽  
Family Firms ◽  
Reporting Quality ◽  
Management Control ◽  
Financial Reporting Quality ◽  
Content Type ◽  
Family Control ◽  
A Value ◽  
The Family ◽  
The Impact

Purpose The purpose of this paper is to contribute to the literature on financial reporting quality (FRQ) within family firms (FFs), assessing whether longevity can determine a different propensity to earning management (EM) behaviors. Design/methodology/approach The sample, composed by Italian and Brazilian listed family (and non-family) firms, is segregated into old and young. For each subsample, unsigned discretionary accruals are calculated, using two different EM models. A linear regression model is then proposed, together with some robustness tests, to confirm the research hypothesis. Findings The outcome is that, within FFs, the entrenchment effect seems to be diminishing with the company’s age, up to become lower than the alignment effect. With some caveat, research also demonstrates that old FFs are more propense to supply higher FRQ than any other subsample group. Research limitations/implications The authors demonstrated that, in terms of EM decision process, FFs become virtuous just with time. More research is needed to evaluate the impact of the share and management control separately and to analyze different generation segmentation. Practical implications This paper could help non-family stakeholders, as it shows that different company types (family vs non-family), at a different stage of the life-cycle (young vs old) have a different attitude toward FRQ. On the other hand, family owners could exploit the longevity as a value driver. Originality/value This paper suggests that agency theory and socio-emotional theory are complementary in explaining the family control role in earnings management decisions. The study also contributes to the debate of FF homogeneity and on risk behavior in FFs, often portrayed as having a patient capital.

The impact of demographic characteristics of CEOs and directors on audit fees and audit delay

2015 ◽  
Vol 30 (8/9) ◽  
pp. 963-997 ◽  
Author(s):  
Maretno Agus Harjoto ◽  
Indrarini Laksmana ◽  
Robert Lee
Keyword(s):  
Ethnic Minority ◽  
Financial Reporting ◽  
Audit Committee ◽  
Reporting Quality ◽  
Audit Fees ◽  
Content Type ◽  
Top Executives ◽  
The Us ◽  
Female Ceos ◽  
The Impact

Purpose – The purpose of this study is to examine the impact of gender and ethnicity of CEO and audit committee members (directors) on audit fees and audit delay in the US firms. Design/methodology/approach – Audit-related corporate governance literature has extensively examined the determinants of audit fees and audit delay by focusing on board characteristics, specifically board independence, diligence and expertise. The authors provide empirical evidence that gender and ethnicity diversity in corporate leadership and boardrooms influence a firm’s audit fees and audit delay. Findings – This study finds that firms with female and ethnic minority CEOs pay significantly higher audit fees than those with male Caucasian CEOs. The authors also find that firms with a higher percentage of ethnic minority directors on their audit committee pay significantly higher audit fees. Further, the authors find that firms with female CEOs have shorter audit delay than firms with male CEOs and firms with a higher percentage of female and ethnic minority directors on their audit committee are associated with shorter audit delay. Results indicate that female CEOs and both female and ethnic minority directors are sensitive to the market pressure to avoid audit delay. Research limitations/implications – The results suggest that gender and ethnic diversity could improve audit quality and the firms’ overall financial reporting quality. Practical implications – This study provides insights to regulators and policy-makers interested in increasing diversity within a firm’s board and top executives. Recently, the US Securities and Exchange Commission (SEC) and the European Commission have been pressing publicly traded companies to improve diversity among their directors. This study provides evidence and perspective on how diversity can enhance financial reporting quality measured by audit fees and audit delay. Originality/value – Previous studies have not given much attention on the impact of racial ethnicity in addition to gender characteristics of top executives and audit committee directors on audit fees and audit delay.

The impact of corporate social responsibility and internal controls on stakeholders’ view of the firm and financial performance

2017 ◽  
Vol 8 (3) ◽  
pp. 246-280 ◽  
Author(s):  
Orhan Akisik ◽  
Graham Gal
Keyword(s):  
Corporate Social Responsibility ◽  
Social Responsibility ◽  
Financial Performance ◽  
Internal Control ◽  
Internal Controls ◽  
Third Party ◽  
Global Reporting Initiative ◽  
Content Type ◽  
Corporate Social ◽  
The Impact

Purpose The purpose of this study is to empirically examine whether two major stakeholder groups – customers and employees – consider third party-reviewed corporate social responsibility (CSR) reports and assurance on the quality of internal controls as value determinant in their decisions, and how their decisions influence financial performance through the halo effect of these reports. Design/methodology/approach Using Compustat North America and Global Reporting Initiative data, the authors used first-order autoregressive models over the period from 2006 to 2012. Findings The results indicate that the impacts of customers and employees on financial performance are influenced by third party-reviewed CSR reports and effective internal control. Moreover, it is found that the third party-reviewed CSR reports and effective internal control enable the persistence of financial performance. Social implications The findings have implications for stakeholders in terms of third party-reviewed CSR reports and effective internal control. The findings are important due to the influence that these stakeholders (customers and employees) have on the financial performance of firms and the impact that CSR actions can have on society as a whole. Originality/value To the authors' knowledge, this is the first study that contributes to the literature by demonstrating that information about third party-reviewed CSR reports and internal control reviews may influence the perceptions of firms by two primary stakeholders – customers and employees.

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