The Audit Committee: Management Watchdog or Personal Friend of the CEO?

2013 ◽  
Vol 89 (1) ◽  
pp. 113-145 ◽  
Author(s):  
Liesbeth Bruynseels ◽  
Eddy Cardinaels
Keyword(s):  
Earnings Management ◽  
Financial Reporting ◽  
Internal Control ◽  
Audit Committee ◽  
Social Ties ◽  
Data Availability ◽  
Audit Committees ◽  
Sarbanes Oxley ◽  
Negative Effect

ABSTRACT To ensure that audit committees provide sufficient oversight over the auditing process and quality of financial reporting, legislators have imposed stricter requirements on the independence of audit committee members. Although many audit committees appear to be “fully” independent, anecdotal evidence suggests that CEOs often appoint directors from their social networks. Based on a 2004 to 2008 sample of U.S.-listed companies after the Sarbanes-Oxley Act, we find that these social ties have a negative effect on variables that proxy for oversight quality. In particular, we find that firms whose audit committees have “friendship” ties to the CEO purchase fewer audit services and engage more in earnings management. Auditors are also less likely to issue going-concern opinions or to report internal control weaknesses when friendship ties are present. On the other hand, social ties formed through “advice networks” do not seem to hamper the quality of audit committee oversight. Data Availability: All data are publicly available from sources identified in the text.

scholarly journals An Investigation on the Audit Committees Effectiveness: The Case for GLCs in Malaysia

2011 ◽  
Vol 13 (3) ◽  
pp. 287 ◽  
Author(s):  
Nurul Nazlia Jamil ◽  
Sherliza Puat Nelson
Keyword(s):  
Earnings Management ◽  
Financial Reporting ◽  
Audit Committee ◽  
Reporting Quality ◽  
Audit Committees ◽  
Financial Reporting Quality ◽  
Financial Expertise ◽  
Monitoring Mechanism ◽  
The Impact

Financial reporting quality has been under scrutiny especially after the collapse of major companies. The main objective of this study is to investigate the audit committee’s effectiveness on the financial reporting quality among the Malaysian GLCs following the transformation program. In particular, the study examined the impact of audit committee characteristics (independence, size, frequency of meeting and financial expertise) on earnings management in periods prior to and following the transformation program (2003-2009). As of 31 December 2010, there were 33 public-listed companies categorized as Government-Linked Companies (GLC Transformation Policy, 2010) and there were 20 firms that have complete data that resulted in the total number of firm-year observations to 120 for six years (years 2003-2009).  Results show that the magnitude of earnings management as proxy of financial reporting quality is influenced by the audit committee independence. Agency theory was applied to explain audit committee, as a monitoring mechanism as well as reducing agency costs via gaining competitive advantage in knowledge, skills, and expertise towards financial reporting quality. The study is important as it provides additional knowledge about the impact of audit committees effectiveness on reducing the earnings management, and assist practitioners, policymakers and regulators such as Malaysian Institute of Accountants, Securities Commission and government to determine ways to enhance audit committees effectiveness and improve the financial reporting of GLCs, as well as improving the quality of the accounting profession.     

The Impact on Auditor Judgments of CEO Influence on Audit Committee Independence

2011 ◽  
Vol 30 (4) ◽  
pp. 129-147 ◽  
Author(s):  
Jeffrey R. Cohen ◽  
Lisa Milici Gaynor ◽  
Ganesh Krishnamoorthy ◽  
Arnold M. Wright
Keyword(s):  
Earnings Management ◽  
Financial Reporting ◽  
Audit Committee ◽  
Data Availability ◽  
Audit Committees ◽  
Undue Influence ◽  
Management Incentives ◽  
Auditor Judgments ◽  
The Impact ◽  
Selection Of

SUMMARY Despite the importance of audit committee independence in ensuring the integrity of the financial reporting process, recent research suggests that even when audit committees meet regulatory independence requirements, certain factors, such as undue influence by the CEO over the selection of the audit committee, may diminish the ability of its members to be substantively independent. This study investigates whether auditors consider CEO influence over audit committee independence when making audit judgments where management's incentives to manage earnings differ. In an experiment, we find that audit partners and managers waive a larger amount of a proposed audit adjustment when management's incentives for earnings management are low than when incentives are high. However, when management incentives are high, auditors are less likely to waive as much of an adjustment when the CEO has less influence over the audit committee's independence than when the CEO's influence is greater. In all, the results support our expectations that auditors consider CEO influence on audit committee independence in the resolution of contentious accounting issues. Data Availability: Contact the authors.

Client Importance and Earnings Management: The Moderating Role of Audit Committees

2011 ◽  
Vol 30 (3) ◽  
pp. 125-156 ◽  
Author(s):  
Vineeta D. Sharma ◽  
Divesh S. Sharma ◽  
Umapathy Ananthanarayanan
Keyword(s):  
Best Practices ◽  
Earnings Management ◽  
Financial Reporting ◽  
Audit Committee ◽  
Positive Association ◽  
Auditor Independence ◽  
Economic Importance ◽  
Audit Committees ◽  
Inside Ownership

SUMMARY This study provides empirical evidence on how the association between the economic importance of a client to the auditor and earnings management is moderated by the audit committee. We employ city office-level client importance fee-based measures, both performance-adjusted discretionary total and current accruals as proxies for earnings management, and a measure of audit committee best practices. We document a positive association between client importance and our two proxies for earnings management. This association is stronger for income-increasing earnings management. However, the association between client importance and earnings management is more pronounced when the audit committee does not meet best practices. We infer that the economic importance of a client appears to threaten auditor independence and thus the quality of financial reporting, but only when the audit committee exhibits characteristics associated with the provision of weak oversight. We also find that the association between client importance and earnings management is conditional on inside ownership, growth, leverage, and firm size, which are moderated by the audit committee. This study is the first to demonstrate that audit committees can moderate threats to auditor independence thus protecting the quality of financial reporting. The study discusses potential implications for policy making and empirical research.

The Influence of Audit Committee Expertise on Firms' Internal Controls: Evidence from Mergers and Acquisitions

2020 ◽  
Vol 34 (3) ◽  
pp. 193-211
Author(s):  
Mikhail Sterin
Keyword(s):  
Financial Reporting ◽  
Internal Control ◽  
Audit Committee ◽  
Internal Controls ◽  
Data Availability ◽  
Audit Committees ◽  
First Year ◽  
Opt Out ◽  
Indirect Path ◽  
Control Decision

SYNOPSIS This study examines how audit committee expertise influences firms' key internal control scoping decisions. Using a unique merger and acquisition (M&A) setting where the internal control audit is voluntary, I study whether audit committee expertise is associated with the deferral of internal control testing for acquired firms. I also examine whether this internal control decision provides a channel through which audit committee expertise leads to positive financial reporting outcomes. I find that audit committees with greater specialized expertise (industry and legal) are less likely to opt-out of first-year target internal control over financial reporting (ICFR) integration. In my second analysis, I find that target ICFR integration provides an indirect path through which industry and legal expertise reduce the likelihood of misstatement. This study contributes to the audit committee and internal controls literature by providing evidence on audit committee influence over firms' internal control decisions and related financial reporting outcomes. JEL Classifications: M41; M42; M48. Data Availability: The data are publicly available from the sources identified in the paper.

scholarly journals SOX Section 404 Twenty Years After: Reviewing Costs and Benefits

2020 ◽  
Vol 9 (1) ◽  
pp. 103-112
Author(s):  
Bianca Fischer ◽  
Bernadette Gral ◽  
Othmar Lehner
Keyword(s):  
Earnings Management ◽  
Financial Reporting ◽  
Internal Control ◽  
Earnings Quality ◽  
Costs And Benefits ◽  
Section 404 ◽  
Positive Effects ◽  
Sarbanes Oxley

Some issues of the Sarbanes Oxley Act of 2002 are still discussed controversially in literature. Thereof, Section 404 concerning internal control over financial reporting is one of the most criticized parts. This article focuses on costs and benefits of the section and impacts on earnings management. Most authors agree that compliance costs of Section 404 far outweigh its benefits. However, long-term benefits are expected. Regarding earnings management, studies show that the section has positive effects such as increased earnings quality and improved internal control systems. Although the section is heavily debated in literature, there is consensus that SOX Section 404 greatly contributed to the improvement of quality of financial reporting and of corporate governance as a whole.

scholarly journals The Impact Of Audit Committees Personal Characteristics On Earnings Management: Evidence From China

2012 ◽  
Vol 28 (6) ◽  
pp. 1331-1344 ◽  
Author(s):  
Baolei Qi ◽  
Gaoliang Tian
Keyword(s):  
Earnings Management ◽  
Financial Reporting ◽  
Audit Committee ◽  
Personal Characteristics ◽  
Audit Committees ◽  
Publicly Traded ◽  
Upper Echelons Theory ◽  
Gender Education ◽  
The Impact

This study investigates the influence of audit committees personal characteristics on the firms earnings management behavior using Chinas publicly traded firms during 2004-2010. Overall, our findings suggest that audit committees several personal characteristics, such as age, gender, education level, and working experience, are associated with earnings management, which in turn may affect the quality of financial reporting. The results are robust after controlling the size, independence, meeting frequency of audit committee, and other firm specific characteristics. The results are consistent with the predictions based on the Upper Echelons Theory. The contributions to the earnings management literature and implications for regulators and investors are also discussed.

The Effectiveness of SOX Regulation: An Interview Study of Corporate Directors

2012 ◽  
Vol 25 (1) ◽  
pp. 61-87 ◽  
Author(s):  
Jeffrey R. Cohen ◽  
Colleen Hayes ◽  
Ganesh Krishnamoorthy ◽  
Gary S. Monroe ◽  
Arnold M. Wright
Keyword(s):  
Financial Reporting ◽  
Internal Control ◽  
Audit Committee ◽  
Policy Decision ◽  
Substantial Improvement ◽  
Data Availability ◽  
Internal Auditors ◽  
Sarbanes Oxley ◽  
Financial Expertise ◽  
Accounting Judgments

ABSTRACT: This study provides insights on the effectiveness of the Sarbanes-Oxley Act (U.S. House of Representatives 2002) in promoting high-quality financial reporting and good corporate governance, based on interviews conducted with 22 experienced directors from U.S. firms. Our analysis indicates that SOX has positively impacted the monitoring role of the audit committee (board), which directors attributed to the financial expertise and internal control requirements and heightened substantive diligence. However, some considered that an emphasis on financial expertise at the expense of legal expertise and financial markets expertise could compromise the quality of financial disclosures due to a lack of business savvy needed to inform accounting judgments and the standardization of reporting. SOX was also perceived as having led to a formalistic approach to accounting policy decision making by the audit committee and external auditor, as a buffer against litigation. While CEO certification was viewed as having led to heightened ownership and diligence on the part of decision agents throughout the financial reporting decision hierarchy, it was also identified as a source of the costly resource-intensive reaction to SOX. Directors also considered that SOX had led boards to take a narrow focus on financial reporting risk at the expense of strategy. Further, management was identified as being actively involved in the more overt process of initiating and administering the process. The directors' responses also demonstrate some variation in the extent and nature of the role played by the audit committee to resolve accounting disputes, reflecting varying interpretations of law. Participants indicate that SOX has also led to a substantial improvement in the scope, responsibility, and status of internal auditors. Data Availability: Contact the authors.

Did the 1999 NYSE and NASDAQ Listing Standard Changes on Audit Committee Composition Benefit Investors?

2017 ◽  
Vol 92 (6) ◽  
pp. 187-212 ◽  
Author(s):  
Seil Kim ◽  
April Klein
Keyword(s):  
Financial Reporting ◽  
Audit Committee ◽  
Research Question ◽  
Reporting Quality ◽  
Audit Committees ◽  
Financial Reporting Quality ◽  
Difference In Differences ◽  
Listed Firms ◽  
Sarbanes Oxley ◽  
Independent Audit

ABSTRACT In December 1999, the SEC instituted a new listing standard for NYSE and NASDAQ firms. Listed firms were now required to maintain fully independent audit committees with at least three members. In July 2002, the U.S. Congress legislated these standards through the Sarbanes-Oxley Act. Our research question is whether all investors benefited from the 1999 new rule. Using both an event study and a difference-in-differences methodology, we find no evidence of higher market value or better financial reporting quality resulting from this rule.

scholarly journals Corporate Social Responsibility, Audit Committee Expertise, and Financial Reporting: Empirical Evidence from Korea

2021 ◽  
Vol 13 (19) ◽  
pp. 10517
Author(s):  
Haeyoung Ryu ◽  
Soo-Joon Chae ◽  
Bomi Song
Keyword(s):  
Corporate Social Responsibility ◽  
Social Responsibility ◽  
Financial Reporting ◽  
Audit Committee ◽  
Earnings Quality ◽  
Audit Committees ◽  
Accounting Expertise ◽  
Corporate Social

Corporate social responsibility (CSR) involves multiple activities and is influenced by the cultural and legal environment of the country in which a firm is located. This study examines the role of audit committees’ (AC) financial expertise in the relationship between CSR and the earnings quality of Korean firms with high levels of CSR. Using a multivariate analysis, it investigates whether the ACs that include members with accounting expertise, finance expertise, or supervisory expertise individually affect a firm’s decision making. It also examines how ACs with diverse expertise contribute toward improving the financial reporting quality of firms with high levels of CSR. The results demonstrate that when there is a certified accountant in the AC of a firm that practices CSR based on ethical motivation, the earnings management through discretionary accruals is more strictly controlled. This is more effective when the AC comprises members with accounting and non-accounting expertise. This finding implies that the AC plays a positive role in improving the accounting information quality of firms with CSR excellence. Moreover, while the role of accounting experts in the AC is important for maintaining high earnings quality, combining other types of expertise creates synergy.

scholarly journals Integration of Internal Control and Financial Statement Audits: Are Two Audits Better than One?

2018 ◽  
Vol 94 (2) ◽  
pp. 53-81 ◽  
Author(s):  
Lori Shefchik Bhaskar ◽  
Joseph H. Schroeder ◽  
Marcy L. Shepardson
Keyword(s):  
Financial Reporting ◽  
Internal Control ◽  
Audit Quality ◽  
Internal Controls ◽  
Data Availability ◽  
Financial Statement ◽  
Auditor Judgment ◽  
Public Company ◽  
Better Than

ABSTRACT The quality of financial statement (FS) audits integrated with audits of internal controls over financial reporting (ICFR) depends upon the quality of ICFR information used in, and its integration into, FS audits. Recent research and PCAOB inspections find auditors underreport existing ICFR weaknesses and perform insufficient testing to address identified risks, suggesting integrated audits—in which substantial ICFR testing is required—may result in lower FS audit quality than FS-only audits. We compare a 2007–2013 sample of small U.S. public company firm-years receiving integrated audits (accelerated filers) to firm-years receiving FS-only audits (non-accelerated filers) and find integrated audits are associated with higher likelihood of material misstatements and discretionary accruals, consistent with lower FS audit quality. We also find evidence of (1) auditor judgment-based integration issues, and (2) low-quality ICFR audits harming FS audit quality. Overall, results suggest an important potential consequence of integrated audits is lower FS audit quality. Data Availability: Data are publicly available from the sources identified in the text.

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