Board Of Directors Independence Hypothesis Essay

Board Of Directors Independence Hypothesis Essay

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2.6 Hypothesis Development
2.6.1 Board of Directors Independence Hypothesis
Both Beasley (1996) and Uzun et al (2004) demonstrated that larger proportion of independent non-executive directors on the board for US listed companies could reduce the likelihood of corporate fraud. These findings indicate that independent directors are more likely to represent shareholders’ interests. Thus, higher proportion of independent non-executive directors on the board could increase board’s effectiveness as a monitoring mechanism over management.
On the other hand, there are other evidence which casted doubts on the benefits of an independent board. Persons (2005) found that a board which largely comprised of independent directors has no significant effect on the likelihood of financial statement fraud in the US. Instead, the study highlighted that the likelihood of financial statement fraud is lower when audit committee is comprised solely of independent directors. Despite audit committee is a subset of the main board which depends on the board composition, this finding may indicate the independence of audit committee rather than the board itself is more effective in addressing fraud risk.

The contrasting findings appear to show that the impact of independent board on the likelihood of corporate fraud remains indefinite. Nevertheless, the governance principles of UK Code support the view that board independence is an essential factor for effective governance, which in turn could have a significant effect on reducing the likelihood of corporate frauds. UK Corporate Governance Code recommends that at least half of the board for UK listed company (excluding the chairman) should comprise of independent non-executive directors (at least two indep...

... middle of paper ...

...d depth to effectively mitigate bribery and corruption risk. The inclusion of a legal expert within the audit committee could greatly assist the audit committee in their risk oversight responsibilities, including ways in dealing with regulators to minimise the company’s risk exposure. Furthermore, with the combination of financial and legal experts, the diversity of backgrounds and experiences could help the audit committee to foster greater constructive discussion and penetrate deeper into business issues.

Therefore, this study predicts that availability of a legal expert in audit committee could enhance the effectiveness of committee’s oversight function which helps to reduce the likelihood of corporate fraud, suggesting the following hypothesis:

H4: The likelihood of corporate fraud is lower when the audit committee has at least one member with legal expertise.

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