Schmalenbach Business Review

, Volume 18, Issue 2, pp 147–178 | Cite as

Audit Committees and Earnings Management – Evidence from the German Two-Tier Board System

  • Benjamin T. Albersmann
  • Daniela HohenfelsEmail author
Original Article


This study investigates whether audit committees of German firms and their characteristics are related to earnings management. This issue is of particular interest, as it reveals the effectiveness of voluntarily established audit committees in a two-tier board system. In contrast, most prior research focuses on the characteristics of mandatory audit committees in one-tier board systems. We use a sample from German listed firms between 2005 and 2009, and accrual-based earnings management serves as a proxy for audit committee effectiveness. The results suggest that the existence of an audit committee is related to a lower degree of earnings management. Using a differences-in-differences approach, we also provide evidence that the level of earnings management decreases after the formation of an audit committee. Moreover, the results show that the participation of financial experts in audit committees and the increase in audit committee meetings are associated with less earnings management, i. e. these characteristics seem to enhance the effectiveness of audit committees. With respect to meeting frequency, 4–5 meetings per year seem to represent an effective number of meetings in order to reduce the level of earnings management.


Audit committees Financial expert Corporate governance Two-tier board system Earnings management Abnormal accruals 


M4 K2 H1 G3 


  1. Anand, Anita I. 2005. An Analysis of Enabling vs. Mandatory Corporate Governance post Sarbanes-Oxley. The Delaware Journal of Corporate Law 31:229–252.Google Scholar
  2. Archambeault, Deborah, F. Todd DeZoort, and Dana R. Hermanson. 2008. Audit committee incentive compensation and accounting restatements. Contemporary Accounting Research 25:965–992.CrossRefGoogle Scholar
  3. Bartov, Eli, Ferdinand Gul, and Judy Tsui. 2001. Discretionary-accruals models and audit qualifications. Journal of Accounting & Economics 30:421–452.CrossRefGoogle Scholar
  4. Baxter, Peter, and Julie Cotter. 2009. Audit committees and earnings quality. Accounting and Finance 49:267–290.CrossRefGoogle Scholar
  5. Beasley, Mark S. 1996. An Empirical Analysis of the Relation Between the Board of Director Composition and Financial Statement Fraud. The Accounting Review 71:443–465.Google Scholar
  6. Beasley, Mark S., Joseph V. Carcello, Dana R. Hermanson, and Terry L. Neal. 2009. The audit committee oversight process. Contemporary Accounting Research 26:65–122.CrossRefGoogle Scholar
  7. Bryan, Daniel, M. H. Carol Liu, Samuel L. Tiras, and Zili Zhuang. 2013. Optimal versus suboptimal choices of accounting expertise on audit committees and earnings quality. Review of Accounting Studies 18:1123–1158.CrossRefGoogle Scholar
  8. Bundestag-Drucksache (BT-Drucksache) 14/7515 vom 14 Aug 2001 Bericht der Regierungskommission “Corporate Governance” Unternehmensführung – Unternehmenskontrolle – Modernisierung des AktienrechtsGoogle Scholar
  9. Bédard, Jean, Sonda M. Chtourou, and Lucie Courteau. 2004. The effect of audit committee expertise, independence, and activity on aggressive earnings management. Auditing 23:13–35.CrossRefGoogle Scholar
  10. Chi, Wuchun, Ling Lei Lisic, and Mikhail Pevzner. 2011. Is Enhanced Audit Quality Associated with Greater Real Earnings Management? Accounting Horizons 25(2):315–335Google Scholar
  11. Choi, Jong-Hag, Kyu-An Jeon, and Jong-Il Park. 2004. The role of audit committees in decreasing earnings management: Korean evidence. International Journal of Accounting, Auditing and Performance Evaluation 1:37–60.CrossRefGoogle Scholar
  12. Cohen, Jeffrey, Lisa M. Gaynor, Ganesh Krisnamoorthy, and Arnold M. Wright. 2007. Auditor communications with the audit committee and the board of directors: Policy recommendations and opportunities for future research. Accounting Horizons 21:165–187.CrossRefGoogle Scholar
  13. Davidson, Ryan, Jenny Goodwin-Stewart, and Pamela Kent. 2005. Internal governance structures and earnings management. Accounting and Finance 45:241–267.CrossRefGoogle Scholar
  14. Dechow, Patricia M., and Ilia D. Dichev. 2002. The Quality of Accruals and Earnings: The Role of Accrual Estimation Errors. The Accounting Review 77:35–59.CrossRefGoogle Scholar
  15. DeAngelo, Linda E. 1981. Auditor size and audit quality. Journal of Accounting and Economics 3:183–199.Google Scholar
  16. Dechow, Patricia M., Richard G. Sloan, and Amy P. Sweeney. 1995. Detecting earnings management. The Accounting Review 70:193–225.Google Scholar
  17. Deckert, Martina. 1996. Effektive Überwachung der AG-Geschäftsführung durch Ausschüsse des Aufsichtsrats. Zeitschrift für Wirtschaftsrecht 17:985–994.Google Scholar
  18. DeFond, Mark L., and James Jiambalvo. 1994. Debt covenant violation and manipulation of accruals. Journal of Accounting & Economics 23:145–176.CrossRefGoogle Scholar
  19. DeZoort, Todd F., Dana R. Hermanson, Deborah S. Archambeault, and Scott A. Reed. 2002. Audit committee effectiveness: A synthesis of the empirical audit committee literature. Journal of Accounting Literature 21:38–75.Google Scholar
  20. Dhaliwal, Dan, Vic Naiker, and Farshid Navissi. 2010. The Association Between Accruals Quality and the Characteristics of Accounting Experts and Mix of Expertise on Audit Committees. Contemporary Accounting Research 27:787–827.CrossRefGoogle Scholar
  21. Ernstberger, Jürgen, Jörg-Markus Hitz, and Michael Stich. 2012. Why do firms produce erroneous IFRS financial statements? Working Paper. : . doi: 10.2139/ssrn.2060328.Google Scholar
  22. Ernstberger, Jürgen, Benedikt Link, Michael Stich, and Oliver Vogler. 2016. The Real Effects of Mandatory Quarterly Reporting. Working Paper. München: TUM School of Management.Google Scholar
  23. EU Directive 2006/43/EG (2006) Richtlinie 2006/43/EG des Europäischen Parlaments und des Rates vom 17. Mai 2006 über Abschlussprüfungen von Jahresabschlüssen und konsolidierten Abschlüssen, zur Änderung der Richtlinien 78/660/EWG und 83/349/EWG des Rates und zur Aufhebung der Richtlinie 84/253/EWG des Rates. Amtsblatt der Europäischen Union 49, L 157:87–107.Google Scholar
  24. Fama, Eugene F., and Michael C. Jensen. 1983. Separation of ownership and control. Journal of Law and Economics 26:301–325.CrossRefGoogle Scholar
  25. Fischbach, Dorian. 2003. Der Bilanzprüfungsausschuss des Aufsichtsrats und seine Zusammenarbeit mit dem Abschlussprüfer. Köln: EUL-Verlag.Google Scholar
  26. Frankel, Richard M., Marilyn F. Johnson, and Karen K. Nelson. 2002. The relation between auditors’ fees for non-audit services and earnings quality. The Accounting Review 77:71–105.CrossRefGoogle Scholar
  27. Geraldes Alves, Sandra M. 2011. The effect of the board structure on earnings management: evidence from Portugal. Journal of Financial Reporting & Accounting 9:141–160.CrossRefGoogle Scholar
  28. Ghosh, Aloke, Antonio Marra, and Moon Doocheol. 2010. Corporate boards, audit committees, and earnings management: pre- and post-SOX evidence. Journal of Business Finance & Accounting 37:1145–1176.CrossRefGoogle Scholar
  29. Gul, Ferdinand A., Simon Fung, and Bikki L. Aloke. 2009. Earnings Quality: Some Evidence on the Role of Auditor Tenure and Auditors’ Industry Expertise. Journal of Accounting & Economics 47:265–287.CrossRefGoogle Scholar
  30. Healy, Paul M., and James M. Wahlen. 1999. A Review of Earnings Management Literature and Its Implications for Standard Setting. Accounting Horizons 13:365–383.CrossRefGoogle Scholar
  31. Louis, Henock. 2004. Earnings management and the market performance of acquiring firms. Journal of Financial Economics 74(1):121–148.CrossRefGoogle Scholar
  32. Hribar, Paul, and Daniel W. Collins. 2002. Errors in Estimating Accruals: Implications for Empirical Research. Journal of Accounting Research 40:105–134.CrossRefGoogle Scholar
  33. Huck, Anja, and Helmut Ammann. 2003. Der Deutsche Corporate Governance Kodex – Ein Praktiker-Leitfaden für Unternehmer und Berater. Herne: NWB.Google Scholar
  34. Hüffer, Uwe. 2012. Kommentar zum Aktiengesetz, 10th edn., München: C.H. Beck.Google Scholar
  35. Jamil, Nurul N., and P. Nelson Sherliza. 2011. An Investigation on the Audit Committees Effectiveness: The Case for GLCs in Malaysia. Gadjah Mada International Journal of Business 13:287–305.Google Scholar
  36. Jensen, Michael C., and William H. Meckling. 1976. Theory of the Firm: Managerial Behaviour, Agency Costs and Ownership Structure. Journal of Financial Economics 3:305–360.CrossRefGoogle Scholar
  37. Jones, Jennifer J. 1991. Earnings Management During Import Relief Investigations. Journal of Accounting Research 29:193–228.CrossRefGoogle Scholar
  38. Jones, Keith L., Gopal V. Krishnan, and Kevin D. Melendrez. 2008. Do Models of Discretionary Accruals Detect Actual Cases of Fraudulent and Restated Earnings? An Empirical Analysis. Contemporary Accounting Research 25:499–531.CrossRefGoogle Scholar
  39. Kang, Sok-Hyon, and K. Sivaramakrishnan. 1995. Issues in Testing Earnings Management and an Instrumental Variable Approach. Journal of Accounting Research 33:353–367.CrossRefGoogle Scholar
  40. Karamanou, Irene, and Nikos Vafeas. 2005. The Association between Corporate Boards, Audit Committees, and Management Earnings Forecasts: An Empirical Analysis. Journal of Accounting Research 43:453–486.CrossRefGoogle Scholar
  41. Keune, Marsha B., and Karla M. Johnstone. 2012. Materiality Judgments and the Resolution of Detected Misstatements: The Role of Managers, Auditors, and Audit Committees. The Accounting Review 87:1641–1677.CrossRefGoogle Scholar
  42. Klein, April. 2002a. Audit committee, board of director characteristics, and earnings management. Journal of Accounting and Economics 33:375–400.CrossRefGoogle Scholar
  43. Klein, April. 2002b. Economic Determinants of Audit Committee Independence. The Accounting Review 77:435–452.CrossRefGoogle Scholar
  44. Köhler, Annette G. 2005. Audit Committees in Germany – Theoretical Reasoning and Empirical Evidence. Schmalenbach Business Review 57:229–252.Google Scholar
  45. Koprivica, Rasmus. 2009. Die Effektivität von Prüfungsausschüssen: Eine theoretische und empirische Analyse. Saarbrücken: Südwestdeutscher Verlag für Hochschulschriften.Google Scholar
  46. Kothari, S.P., Andrew Leone, and Charles Wasley. 2005. Performance matched discretionary accruals measures. Journal of of Accounting and Economics 39:163–197.CrossRefGoogle Scholar
  47. Krishnan, Jayanthi, Yuan Wen, and Wanli Zhao. 2011. Legal Expertise on Corporate Audit Committees and Financial Reporting Quality. The Accounting Review 86:2099–2130.CrossRefGoogle Scholar
  48. Larcker, David, and Tjomme O. Rusticus. 2007. Endogeneity and Empirical Accounting Research. European Accounting Review 16:207–215.CrossRefGoogle Scholar
  49. Lawrence, Abbott J. 2000. The Effects of Audit Committee Activity and Independence on Corporate Fraud. Managerial Finance 26:55–67.Google Scholar
  50. Lennox, Clive S., Jere R. Francis, and Zitian Wang. 2012. Selection Models in Accounting Research. The Accounting Review 87:589–616.CrossRefGoogle Scholar
  51. Lin, Jerry W., F. Li June, and Joon S. Yang. 2006. The effect of audit committee performance on earnings quality. Managerial Auditing Journal 21:921–933.CrossRefGoogle Scholar
  52. Lück, Wolfgang. 1990. Audit Committees – Eine Einrichtung zur Effizienzsteigerung betriebswirtschaftlicher Überwachungssysteme. Zeitschrift für betriebswirtschaftliche Forschung 42:995–1013.Google Scholar
  53. Lück, Wolfgang. 1999. Audit Committees – Prüfungsausschüsse zur Sicherung und Verbesserung der Unternehmensüberwachung in deutschen Unternehmen – Fehlende Effizienz betrieblicher Überwachung in deutschen Unternehmen: Überlegungen zur Sicherung und Verbesserung durch die Einrichtung von Audit-Committees. Der Betrieb 52:441–444.Google Scholar
  54. Md Yusof, Mohd Atef. 2010. Does Audit Committee Constraint Discretionary Accruals in MESDAQ Listed Companies? International Journal of Business and Social Science 1:124–136.Google Scholar
  55. Menon, Krishnangopal, and David D. Williams. 2004. Former Audit Partners and Abnormal Accruals. The Accounting Review 79:1095–1118.CrossRefGoogle Scholar
  56. Myers, James N., Linda A. Myers, and Douglas J. Skinner. 2007. Earnings Momentum and Earnings Management. Journal of Accounting, Auditing and Finance 22:249–284.CrossRefGoogle Scholar
  57. Paefgen, Walter G. 1982. Struktur und Aufsichtsratverfassung der mitbestimmten AG – Zur Gestaltungsmacht der Satzung und der Geschäftsordnung des Aufsichtsrats. Köln: Heymann.Google Scholar
  58. Peasnell, K.V., P.F. Pope, and S. Young. 2000. Detecting Earnings Management Using Cross-Sectional Abnormal Accrual Models. Accounting and Business Research 30:313–322.CrossRefGoogle Scholar
  59. Peasnell, K.V., P.F. Pope, and S. Young. 2005. Board Monitoring and Earnings Management: Do Outside Directors Influence Abnormal Accruals? Journal of Business Finance & Accounting 32:1311–1346.CrossRefGoogle Scholar
  60. Pincus, Karen, Mark Rusbarsky, and Jilnaught Wong. 1989. Voluntary formation of corporate audit committees among NAS-DAQ firms. Journal of Accounting and Public Policy 8:239–265.CrossRefGoogle Scholar
  61. Piot, Charles. 2004. The existence and independence of audit committees in France. Accounting and Business Research 34:223–246.CrossRefGoogle Scholar
  62. Piot, Charles, and Janin Rémi. 2007. External Auditors, Audit Committees and Earnings Management in France. European Accounting Review 16:429–454.CrossRefGoogle Scholar
  63. Rainsbury, Elizabeth A., Michael E. Bradbury, and Steven F. Cahan. 2008. Firm characteristics and audit committees complying with “best practice” membership guidelines. Accounting and Business Research 38:393–408.CrossRefGoogle Scholar
  64. Rashidah, Abdul R., and Haneem M.A. Fairuzana. 2006. Board, audit committee, culture and earnings management: Malaysian evidence. Managerial Auditing Journal 21:783–804.CrossRefGoogle Scholar
  65. Ringleb, Henrik-Michael, Thomas Kremer, Marcus Lutter, and Axel von Werder. 2014. Kommentar zum Deutschen Corporate Governance Kodex. München: C.H. Beck.Google Scholar
  66. Rössler, Stefan. 2001. Das Audit Committee als Überwachungsinstrument des Aufsichtsrats – Ein Beitrag zur Verbesserung der Corporate Governance vor dem Hintergrund des Gesetzes zur Kontrolle und Transparenz im Unternehmensbereich (KonTraG). Landsberg: Verlag Moderne Industrie.Google Scholar
  67. Sharma, Vineeta D., Divesh S. Sharma, and Umapathy Ananthanarayanan. 2011. Client Importance and Earnings Management: The Moderating Role of Audit Committees. Auditing 30:125–156.CrossRefGoogle Scholar
  68. Simunic, Dan A. 1980. The pricing of Audit Services: Theory and Evidence. Journal of Accounting Research 18:161–190.CrossRefGoogle Scholar
  69. Song, Jihe, and Brian Windram. 2004. Benchmarking Audit Committee Effectiveness in Financial Reporting. International Journal of Auditing 8:195–205.CrossRefGoogle Scholar
  70. Svanström, Tobias. 2013. Non-audit Services and Audit Quality: Evidence from Private Firms. European Accounting Review 22(2):337–366Google Scholar
  71. Tucker, Jennifer W. 2010. Selection Bias and Econometric Remedies in Accounting and Finance Research. Journal of Accounting Literature 29:31–57.Google Scholar
  72. Vafeas, Nikos. 2005. Audit committees, boards, and the quality of reported earnings. Contemporary Accounting Research 22:1093–1122.CrossRefGoogle Scholar
  73. Vander Bauwhede, Heidi V., Marleen Willekens, and Ann Gaeremynck. 2003. Audit firm size, public ownership, and firms’ discretionary accruals management. The International Journal of Accounting 38:1–22.CrossRefGoogle Scholar
  74. Vander Bauwhede, Heidi, and Marleen Willekens. (2004) Evidence on (the lack of) audit-quality differentiation in the private client segment of the belgian audit market. European Accounting Review 13(3):501–522.Google Scholar
  75. Velte, Patrick, and Markus Stiglbauer. 2011. Impact of audit committees with independent financial experts on accounting quality. An empirical analysis of the German capital market. Problems and Perspectives in Management 9:17–33.Google Scholar
  76. Wilke, Henk, and Ad van Knippenberg. 1996. Gruppenleistung. In Sozialpsychologie: Eine Einführung, ed. W. Stroebe, M. Hewston, and G.M. Stephenson, 468–483. Berlin: Springer.Google Scholar
  77. Woidtke, Tracie, and Yin-Hua Yeh. 2013. The role of the audit committee and the informativeness of accounting earnings in East Asia. Pacific-Basin Finance Journal 23:1–24.CrossRefGoogle Scholar
  78. Xie, Biao, Wallace N. Davidson III, and Peter J. DaDalt. 2003. Earnings management and corporate governance: the role of the board and the audit committee. Journal of Corporate Finance 9:295–316.CrossRefGoogle Scholar
  79. Yang, Joon S., and Jagan Krishnan. 2005. Audit Committees and Quarterly Earnings Management. International Journal of Auditing 9:201–219.CrossRefGoogle Scholar
  80. Van der Zahn, Mitchell, and Greg Tower. 2004. Audit committee features and earnings management: further evidence from Singapore. International Journal of Business Governance and Ethics 1:233–257.CrossRefGoogle Scholar
  81. Zang, Amy Y. 2012. Evidence on the trade-off between real activities manipulation and accrual-based earnings management. The Accounting Review 87:675–703.CrossRefGoogle Scholar

Copyright information

© Schmalenbach-Gesellschaft für Betriebswirtschaft e.V. 2017

Authors and Affiliations

  1. 1.Fachbereich 1, Rechnungswesen, Controlling und WirtschaftsprüfungTechnische Universität DarmstadtDarmstadtGermany

Personalised recommendations