All that glitters is not gold! Independent directors' attributes and earnings quality: Beyond formal independence

Abstract

Research Question/Issue: This paper examines the effect of additional independent directors' attributes, beyond formal independence, on earnings management practices. Research Findings/Insights: I find that being non-busy, having accounting expertise, and being appointed by non-controlling shareholders are relevant directors' attributes—beyond formal independence—in their earnings management monitoring task, among the directors' attributes I have tested. Additionally, the paper shows that independent directors who possess such features simultaneously outclass all other directors—included the touted effective formally independent directors—in mitigating earnings management activities. Theoretical/Academic Implications: I respond to calls for dismantling common wisdom on board independence, investigating factors leading to better monitoring, showing that independent directors are not all-alike. With specific reference to directors' monitoring task, when controlling for additional directors' attributes, formal independence becomes uninfluential in constraining earnings management activities. I also show that the co-existence of attributes makes independent directors more effective relative to board mates not sharing such attributes. Practitioner/Policy Implications: Findings of this work might be useful for practitioners in attempting to design corporate governance mechanisms better able to monitor earnings management practices through independent directors and may serve as a stimulus for regulators when re-thinking regulations on board composition and structure.