Audit Committee Stock Options and Financial Reporting Quality after the Sarbanes-Oxley Act of 2002

Abstract

SUMMARYThe Sarbanes-Oxley Act (SOX) and its associated regulations significantly expanded the oversight role of audit committees and improved independence, but regulators bypassed restrictions on audit committee equity incentives. We examine the association of audit committee members' equity incentives and financial reporting quality in the post-SOX time period. We find that audit committee members' stock-option awards and holdings are positively associated with the likelihood of meeting/beating analyst earnings forecasts. On average, a company whose audit committee holds the mean value of exercisable option holdings is associated with a 10.0 percent increase in the likelihood of meeting or just beating its consensus analyst forecast. This effect increases to 17.8 percent for companies with high-growth opportunities. These results suggest that—even in the post-SOX era—the stock-option incentives provided to independent audit committee members are associated with reduced financial reporting quality.JEL Classifications: M41, M42