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.