Effect of audit and compensation committee membership overlap on audit fees

Abstract

Purpose Recent studies document that approximately two-thirds of sample firms have at least one audit committee member serving on their compensation committee (Liao and Hsu, 2013). Prior studies on overlap membership document that presence of audit committee members on compensation committee affects the reporting quality. Since auditors’ audit risk is affected by reporting quality. The purpose of this paper is to examine how the auditors perceive the overlap of audit and compensation committee members when pricing audit fees. Design/methodology/approach The author use a sample from 2007 to 2012 and run an OLS regression. Findings The author find a negative association between overlap membership and audit fees. The results are robust after controlling for selection bias, alternate measurement of overlap membership, and an alternate pre- and post-overlap membership test. Additional tests show that the negative relationship between overlap membership and audit fees is explained by lower audit risk and not by lower brand premium of non-Big4 auditors and that the benefit of overlapping membership increases when the audit committee size is large. Practical implications The findings suggest that firms with large audit committee can improve their reporting and lower their audit fees by having audit committee members on compensation committee. Originality/value The findings contribute to the literature on the consequences of overlap membership and on the ongoing debate about the extent that common membership enhances audit committee monitoring. It also adds to the limited literature on audit committee and audit pricing.

Do overlapping audit and compensation committee memberships contribute to better financial reporting quality? Empirical evidence for the German two-tier system

“…Our findings are robust to two alternative measures of financial reporting quality (i.e., earnings restatements and non-audit fees (NAF)) and are in line with the theoretical model by Laux and Laux (2009), who assume that overlapping memberships can be connected with an increased knowledge of pay-for-performance compensation and with a better position to analyse management's incentives for earnings management. Furthermore, our results are in line with Fernandez-Mendez et al (2017), Kalelkar (2017), Habib and Bhuiyan (2016) and Chandar et al (2012).…”

“…We have contributed to previous empirical studies by Fernandez-Mendez et al (2017), Kalelkar (2017), Habib and Bhuiyan (2016) and Chandar et al (2012) for the US, Spanish and Australian capital market, who also found a positive impact of OMAC on financial reporting quality. However, our results contrast the US findings by Liao and Hsu (2013) and Chang et al (2011), who found a negative impact of OMAC on financial reporting quality.…”

“…Although there is a wide range of empirical-quantitative research on audit committee effectiveness, overlapping memberships on audit and compensation committees have not been the main focus recently. We identified eight studies with mixed results regarding the impact of overlapping memberships on financial reporting quality (Kalelkar, 2017;Shankaraiah and Amiri, 2017;Fernandez-Mendez et al, 2017;Habib and Bhuiyan, 2016;Kusnadi et al, 2016;Liao and Hsu, 2013;Chandar et al, 2012;Chang et al, 2011). On the one hand, overlapping memberships are connected with an increased expertise and knowledge spillovers that can lead to increased monitoring quality in the audit committee (Habib and Bhuiyan, 2016).…”

“…On the one hand, overlapping memberships are connected with an increased expertise and knowledge spillovers that can lead to increased monitoring quality in the audit committee (Habib and Bhuiyan, 2016). On the other hand, their presence on more than one committee may cause audit committee members to become overcommitted, thereby decreasing their effectiveness as monitors of reported earnings (Kalelkar, 2017;Laux and Laux, 2009). According to the busyness hypothesis, audit committee monitoring is decreased when their members are busy (Tanyi and Smith, 2015).…”

Incentive and Supervisory Contract between Special Committees and CEO Based on the Evolutionary Game Model

“…In particular, special committees should play an active role in governance to incentivise and supervise the CEO. Kalelkar [1], Collier and Gregory [2], Sultana et al [3], and Bajra andČadež [4] discovered that the supervision efforts of the audit committee can improve the quality of a company's financial reports and reduce financial risks. Ghafran and O'Sullivan [5] noted that an audit committee with a professional background can inhibit an agent's earnings manipulation behaviour.…”