Board independence, board diligence, board expertise and impact on audit report lag in Malaysian market

• Author: j.unaidda

Introduction

Financial reports is one of the medium that provide users with quality information and could assist them in decision-making process as investors of companies. The quality of information is often attributed by the effectiveness and efficiency. Efficiency in the context of quality information is often refers to timeliness concerning reporting delay from the company?s accounting year end to the date of the audit report is completed (Chambers and Penman, 1984)¹.

Timeliness of financial reporting is crucial because most users particularly the shareholders and potential investors often rely on the financial reports before deciding whether to retain as shareholders or to become investors of a company. Audit report lag would lead the shareholders and potential shareholders to postpone their transaction on shares or sales their current and purchase of new shares (Ng and Tai, 1994). This in turn, would provide negative effect to the company.

In Malaysia, Bursa Malaysia has demand for timely financial reporting through the provision of Chapter 2 and Chapter 9 of the Listing Requirements (2009), Bursa Malaysia Securities Berhad. The demand of timeliness in financial reporting is crucial to many users particularly the shareholders and potential investors. As reported in Bursa Malaysia website 2010, there are few evidences of late submission of annual report among listed companies. The companies are reported as late submission and reprimand by the Bursa Malaysia when they breached the listing requirement paragraph 9.23(a). This scenario has motivated this study to investigate it further in identifying the responsible person to solve it.

Bursa Malaysia has also highlighted the role of directors? play in maintaining appropriate standards of corporate responsibility and accountability by having timely financial reporting. Bursa Malaysia has expressed concern with regards to directors? role in corporate governance. The Malaysian Code on Corporate Governance (MCCG) which was established in 2000 is later revised in 2007 also provides the role of the directors in a company which includes reviewing and developing company?s strategic plan, overseeing and evaluating the management operationalisation, identifying and preventing risk and reviewing the internal control system in order to ensure compliance with the laws, rules, guidelines and regulations. Thus, this study aims to answer the following research question: “Could board of directors play an important role in effectively monitoring the timeliness of audit report?

This study is important since there have been extensive improvements on the laws and regulations imposed by Malaysian Institute of Corporate Governance (MICG) and Bursa Malaysia to Malaysian companies. This is consistent with the actions of many regulatory agencies and listing authorities around the world where requirements and recommendations regarding timely disclosure of financial reports were issued (Abdelsalam and Street, 2007). Accordingly, whether these requirements and recommendations issued would affect the corporate governance performance among the companies in terms of timeliness of audited annual report has yet to be extensively examined.

Within the Malaysian context, studies that have examined the issue of timeliness using firm?s specific variables (examples total assets, industry type) in Malaysia are Ahmad and Kamarudin (2003) and Che-Ahmad and Abidin (2008). However, these two studies did not examine the issue of timeliness in relation to corporate governance mechanism.

Studies have proposed that corporate governance is an important determinant to ensure the success of a company in various aspects such as companies? performance (Mohd Ghazali, 2010; Che Haat et al. 2008), financial reporting quality (Ismail et al. 2008; He et al. 2009), corporate failure (Hsu and Wu, 2010), audit quality (Wan Abdullah et al. 2008), environmental reporting (Said et al. 2009; Buniamin et al. 2008), earnings management (Abdul Rahman and Mohamed Ali, 2006; Xie et al. 2003). For example: Afify (2009) examined the impact of corporate governance mechanisms on audit report lag in Egypt. His results indicate that board independence, CEO duality and existence of an audit committee significantly affect audit report lag. Similarly, Tauringana et al. (2008) examined the link between corporate governance and audit report lag. However, Afify (2009) and Tauringana et al. (2008) studies were conducted in a non-Malaysian setting. This study extends the corporate governance literature by examining the issue of timeliness of annual reports in the Malaysian market by incorporating corporate governance, audit report lag and firm?s specific variables.

The main objective of the study is to evaluate the effectiveness of the corporate governance mechanisms in ensuring timeliness of audit annual reports in Malaysia. Specifically, this study examines the effectiveness of board of directors in assuring audit report lag. Three variables of board of directors are examined, namely board independence, board diligence and board expertise.

The remainder of this paper is organised as follows. Section two discusses on the literature review and hypotheses development. Then, it is followed with section three which discusses on research design. Section four provides the results including the descriptive statistics for dependent and independent variables as well as on univariate and fixed panel regression. Section five addresses the discussion on the results while section six is conclusion for the study.

Literature review and Hypotheses Development

Corporate governance serves as a control mechanism in safeguarding against inappropriate management behavior (Baker and Owsen, 2002) by reconciling the interests of shareholders and managers (Fama and Jensen, 1983). Corporate governance not only provides monitoring tool on the behavior of the directors, but also on monitoring the overall performance of the company which include assuring quality of the financial reports. The above statement show the importance of corporate governance in a company and this is best justified by agency theory. In the view of resource based theory, ability, qualification, and experience of the board of directors and audit committee are among the other vital resources that the company possesses in enhancing it performance.

1. Board independence

   Effective board of directors is an important mechanism of internal governance in solving agency problems in managing an organisation (Che Haat et al. 2008). Thus, it is necessitated to provide greater assurance of the financial reporting (Carcello et al. 2002). Resolving the agency problem would be more effective when the boards are comprised of independent directors. Many studies have argue that the effectiveness of the board would increase when more non-executive directors are in the board of directors (Ho and Williams, 2003; Weir et al. 2002). For example: Beasley and Petroni (2001) investigated the association between board composition and the choice of auditors of 681 property- liability insurance companies. They found that board of directors with higher proportion of independent directors would have more tendencies to employ specialised brand name auditors (high quality auditor) than board of directors with lower percentage of independent directors. O?Sullivan, (2000) and Salleh et al. (2006) also found proportion on non executive director had positive impact on audit quality. The authors stated that non- executive directors pressure to have proper and intensive audit. It is anticipated that increase of non-executive directors in the board of directors also improves audit quality. Board independence with financial expertise is related to more transparent disclosures on companies? performance (Felo, 2009). They might require more audit effort than the usual amount of effort being expensed which would eventuate to an increase in audit quality...