Audit Committee Members’ Reputation Incentives and Their Effectiveness in Monitoring the Financial Reporting Process

Abstract

We examine whether the reputation incentives of audit committee members are associated with their effectiveness in monitoring the financial reporting process. Prior research assumes that audit committee members allocate their effort proportionately across all memberships on which they serve. However, our findings suggest that audit committee members with multiple audit committee memberships tend to focus their attention on the memberships that provide them with the greatest reputation incentives. Specifically, firms with a larger proportion of audit committee members where the membership is the most prominent are associated with higher financial reporting quality and more effective monitoring of internal control. Additional tests reveal that audit committee members’ reputation incentives are driving our results rather than independent non‐audit committee members’ reputation incentives. We conclude that reputation is a strong incentive for audit committee members, such that it influences their monitoring effectiveness over the financial reporting process.

Employee disclosures in the grocery industry before the COVID‐19 pandemic

“…Big 4 auditor is also measured as a dichotomous variable with appointment of a Big 4 auditor equal to one and zero otherwise. Bakar et al, 2020;Hartnett and Shamsuddin, 2020), and existence of audit (Keshk et al, 2020;Khoo et al, 2020), nomination and remuneration committee (ASX Corporate Governance Council, 2019).…”

“…Corporate governance variables are measured with reference to ASX Corporate Governance Council recommendations and include measures of board monitoring including board size, independent board, independent chair, dual CEO/chair (Abu Bakar et al, 2020;Hartnett and Shamsuddin, 2020), and existence of audit (Keshk et al, 2020;Khoo et al, 2020), nomination and remuneration committee (ASX Corporate Governance Council, 2019).…”

Tracking the development of audit committees in Singapore listed companies

“…On the other hand, it is argued that "busy" directors may not have sufficient time to discharge their duties effectively especially when most AC meetings are bunched together, during earning announcement seasons. Studies are also divided on this (Carrera et al, 2017; MAJ 36,5 Khoo et al, 2020;Sharma et al, 2020). However, overall, AC members with excessive multiple directorships are frowned on.…”

Corporate social responsibility performance and the reputational incentives of independent directors

“…However, these studies focus on traditional board quality measures, such as board independence and board diversity, without paying much attention to an individual director's incentive. Several recent studies examine the reputational incentives of independent directors by exploring the significance of multiple directorships to governance quality (Bryan & Mason, 2020; H. H. Huang et al., 2018; Khoo et al., 2020; Masulis & Mobbs, 2014, 2019; Sila et al., 2017). Following these studies, we focus on the differential implications of independent directors’ unequal distribution of time and effort across multiple directorships on a firm's CSR performance.…”

“…Second, we contribute to the emerging literature on the consequences of unequal allocation of effort by independent directors on firm behavior. Previous research documents how the reputational incentives arising from multiple directorships influence various aspects of a firm's financial outcomes, including firm performance (Masulis & Mobbs, 2014), cost of borrowing (H. H. Huang et al., 2018), share price informativeness (Sila et al., 2017), financial reporting quality (Bryan & Mason, 2020; Khoo et al., 2020) and CEO compensation (Masulis & Mobbs, 2019). We extend this line of research by documenting that the reputational incentives of independent directors also affect a firm's CSR performance.…”