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The dark side of 'good' corporate governance: compliance-fuelled book-cooking activities

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  • Kirchmaier, Thomas
  • Selvaggi, Mariano

Abstract

We argue on theoretical grounds that obligatory compliance with stricter financial reporting rules (e.g. the US Sabanes-Oxley Act) may entail important unintended consequences. Paradoxically, the amount of misreporting may increase because corporate boards spend more valuable resources fulfilling statutory mandates rather than involving themselves in forward-looking strategy setting, As these surveillance devices are substitute methods of gauging management quality, when boards focus on the firm's internal control and accounting system they become semi-detached from strategy - their business acumen falters. Top executives are then judged primarily on the basis of financial metrics as opposed to long-term fit. Since the balance sheet review carries more weight in the board's decision-making process, the return to managerial book-cooking (a purely influence activity) and the risk of endorsing flawed business plans swell. This confirms a burgeoning sentiment among business leaders and scholars that boards should perhaps pay less rather than more heed to codified, verifiable 'good ' governance principles.

Suggested Citation

  • Kirchmaier, Thomas & Selvaggi, Mariano, 2006. "The dark side of 'good' corporate governance: compliance-fuelled book-cooking activities," LSE Research Online Documents on Economics 24513, London School of Economics and Political Science, LSE Library.
    • Handle: RePEc:ehl:lserod:24513
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    File URL: http://eprints.lse.ac.uk/24513/
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    References listed on IDEAS

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    More about this item

    Keywords

    corporate governance; earnings manipulation; auditing; misreporting; Sarbanes-oxley act; combined code on corporate governance;
    All these keywords.

    JEL classification:

    • M21 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Business Economics - - - Business Economics
    • K20 - Law and Economics - - Regulation and Business Law - - - General
    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • M40 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - General
    • D23 - Microeconomics - - Production and Organizations - - - Organizational Behavior; Transaction Costs; Property Rights

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