Substitutes or complements? The role of the board in moderating the relationship between board diversity and earnings management

Abstract

The influence of board diversity on earnings quality has received growing attention from scholars and regulators, yet findings remain inconclusive. Much of this uncertainty stems from a narrow focus on visible diversity traits such as gender and age, while overlooking deeper characteristics like education, tenure, and experience. Additionally, limited research has examined how board functions, specifically their monitoring and advisory roles, moderate the relationship between diversity and financial reporting outcomes. This study addresses these gaps by integrating insights from agency theory, human capital theory, and resource dependence theory to evaluate how diversity influences board effectiveness. The research examines publicly listed companies with single-tier board structures across six developed economies: Australia, Singapore, Hong Kong, Canada, the United Kingdom, and the United States. The analysis excludes financial and utility sectors and covers the period from 2016 to 2020. Using a composite diversity index based on surface-and deep-level attributes, the study tests three hypotheses regarding the impact of board diversity and the moderating role of board functions. Statistical analyses employ panel regression models with firm, industry, country, and year fixed effects, alongside two-stage least squares estimation to address endogeneity. The results show that board diversity is associated with reduced accrual-based earnings manipulation but increased real activity-based earnings management, indicating a substitution effect. However, boards with strong monitoring and advisory roles can counteract both forms of manipulation. The most effective governance configuration includes three monitoring committees and one advisory committee, with monitoring roles exerting a greater influence. These findings highlight the importance of integrating structural diversity with functional board design to enhance earnings quality. The study advocates for governance frameworks that go beyond symbolic diversity, emphasizing the need for strategic role alignment and robust non-financial disclosures to improve transparency and corporate accountability.