Audit Committee as a Mechanism of Corporate Governance: A Review on Qualitative

Literature
Esmeña, Jessica

I. Introduction
Corporate governance plays a vital role in the success of any organization. With the increasing
worldwide economic crises, financial breakdown, and accounting frauds (Yasin, F.M, Muhamad,
R., & Sulaiman, N.A., 2014; Brown & Caylor, 2006), organizations around the world have
recognize that corporate governance should be given more focus for them to succeed. Corporate
governance pertains to a system that is utilized in directing and controlling the organization’s
activities (Cadbury, 1992). It reflects and identifies the powers and accountabilities of, as well as
relationships between, the various stakeholders of an organization. It also includes laws, policies
and practices, ethical standards and principles that the organization uses to facilitate decision
making and other activities to ensure the long-term success of the company.
Over the past decades, the world had faced worldwide economic meltdowns and huge accounting
scandals relating to the failure of corporate governance. The Asian Financial Crisis in 1997, which
caused by the government of Thailand’s decision to no longer peg the Thailand bhat to U.S. Dollar
resulting to the decline in stock market and fall of various East Asian currencies
(Investopedia.com, 2018) for example, has exposed weaknesses in corporate governance practices
of Asian countries pertaining to its capital markets (Yasin, F.M, et. al, 2014; Mitton, 2002). In
addition, the 2008 financial crisis has shown the importance of risk management in corporate
governance as one of the major focus of the company. Moreover, several large organizations went
awry, and later on declared bankruptcy, because of the failure in implementation of effective
corporate governance. Among the most popular and worst corporate tragedies in the Unites States
of America were the WorldCom, Enron, Tyco International, Lehman Brothers, etc. Corporate
failures have not only been observed in the USA, but also in Europe (Barings Bank, Polly Peck
International, Shell, etc.) and Asia (Satyam Limited and Malaysian International Shipping Corp.).
Following these corporate failures and economic meltdowns, the importance of effective corporate
governance had never been higher. To address this, countries in different continents have issued
codes of corporate governance and best practices. Among which are the following: Cadbury
Report 1992 (UK); Greenbury Report 1995 (UK); the Combined Code 1998 (UK); Code of
Corporate Governance 2002 (Pakistan); and Sarbanes-Oxley Act 2002 (USA). There was also an
emergence of corporate governance models such as the Anglo-American Model, the Japanese
Model, and German Model. These reports are all issued with the aim of strengthening the system
of corporate governance in their respective countries (Yasin, F.M, et. al, 2014).
Researchers has also published a growing number of publication in academic and practical
researches relating to corporate governance (Yasin, F.M, et. al, 2014). Published materials and
articles on corporate governance showcased different themes established by researchers to address
the growing concerns on emerging corporate governance issues. Though there are quite extensive
and diverse quantitative literatures in this topic, qualitative researches are lacking (Yasin, F.M, et.
al, 2014; McNulty et al., 2013; Carcello et al., 2011; Beasley et al., 2009). Quantitative researches
used measurable data in formulating facts and patterns in research. On the other hand, qualitative
research delves into problems to understand underlying reasons, opinions and ideas (DeFranzo,
S.E., 2011). This study was inspired by, and patterned on, the research of Yasin, Mohamad, and
Sulaiman in 2014 about the review of qualitative literature on corporate governance research. In
this paper, I have reviewed five (5) qualitative literatures which focuses in audit committee as a
key mechanism in a successful corporate governance policy.
There are four (4) main actors that play important roles in achieving good corporate governance:
the board of directors; the management; the internal audit function, and the external audit function
(Cohan, et. Al, 2004). The effectivity of these mechanisms is vital for successful corporate
governance framework. The objective of this paper is to investigate the role of audit committee in
the effectivity of the adopted corporate governance by various organizations through the analysis
of few qualitative researches on the topic. Thus, the discussions in this paper is focused more on
the audit committee, its effectiveness, and its role to the success of the corporate governance
mechanism. The audit committee, a committee that is composed, and is a part, of the board of
directors, is responsible for the protection and perseverance of the organization’s shareholders
interest through the oversight of its management (particularly in financial reporting), internal
auditor and external auditor (Al-Baidhani, A., 2014).
With the onslaught of accounting frauds and controversies, researches on corporate governance
had been growing in numbers (Yasin, et. al., 2014). The relationship of audit committee with
internal and external auditors, and how this affect the success of corporate governance is a popular
topic for which various researchers are interested in. Aside from this, there are also other areas
being studied upon by various researchers relating to the audit committee and corporate
governance. With these various literatures, interesting findings were generated and are now
incorporated to the corporate governance structures of different organizations.

II. Methodology
The paper discussed 5 qualitative literature relating to audit committee and corporate governance
published between 2007-2015. The qualitative literatures used in the study were retrieved from
searches in different research-based websites and databases like google scholar, SSRN websites
and RESEARCHGATE.com. Gathering of the literature was conducted using the keywords “audit
committee”, “effectiveness”, “corporate governance”, and “key mechanism”. Some literatures
were lifted from the mother research of this study, which is the “Corporate Governance Research:
A Review of Qualitative Literature.” by Yasin, et. al in 2014. I have gathered more than 15
literatures, however only 5 of which were analyzed in this paper.

III. Significant Insights

The significant insights in the analysis of five (5) literatures relating to the role of audit committee
to corporate governance are presented below in Table 1. The authors of the of the papers analyzed
are: Turley and Zaman (2007); Tušek (2015); Beasley, et. al. (2009); Salleh & Stewart (2012); and
Al-baidhani (2014). Though the primary focus of this study is to review the role of audit committee
in corporate governance, part of the selected qualitative literatures also shows the relationship of
audit committee to other integral part of an organization, such as internal and external audit, and
financial reporting.
Turley and Zaman (2007) studies how the effectiveness of audit committee is being influenced by
various conditions and processes. They paid special attention on the interaction between the audit
committee and other functions such as internal audit function, financial reporting function and
external audit function. Turley and Zaman (2007) employ case analysis approach to examine the
target objective. The findings of their study showed that most formal conditions and processes, as
written in the governance code, does not necessarily affect the operation and potential
effectiveness of the audit committee. The informal but voluntary interaction between the audit
committee and management and auditors has impact on audit committee’s effectivity. Also, the
study noted that the composition of the audit committee, the credibility of the committee chair and
its members, has significant impact on the success in the implementation of formal and informal
processes.
Beasley, et. al (2009), on the other hand, used an extensive interview with 42 U.S. public
companies to determine the impact of Sarbanes-Oxley Act (SOX) on audit committee processes.
The results of their interview were analyzed using two of the most popular theories in corporate
governance researches: agency theory and institutional theory. The findings from the study was
that effective monitoring financial reporting of the company was one of the greatest struggles of a
large number of members in the audit committee. This result is further supported by the responses
of the audit committee members on their accounting expertise and years of experience audit
committee. The study has also found that notable differences on the effectiveness of the audit
committee members vary with personal and company characteristics.
In addition, Salleh and Stewart (2012) studied the role of the audit committee in addressing
disagreements between clients and auditors. In this study, the researchers utilize an exploratory
case study through interviews with audit committee chairs/members, finance managers/CFOs, and
the external auditors. This method was used in 7 publicly listed companies in Malaysia. Salleh and
Stewart (2012) found thatthe audit committee normally plays the role of mediating third‐party in
resolving an argument whenever the issue is significant. The mediating authority of the audit
committee was not only from the oversight responsibilities given to it but also to its understanding
and awareness of possible issues and the members' accounting and business expertise. With two
exceptions, the interviews indicate that the audit committee does not take sides when helping to
resolve a dispute and the outcome from the mediation process is generally a compromise solution
(Salleh and Stewart,2012).
On the other hand, Al-baidhani (2014) uses descriptive analysis to discuss the role of the audit
committee in corporate governance. In his stuffy, Al-baidhani (2014) focuses on the audit
committee’s powers, functions, responsibilities, and relationships within the framework of
corporate governance. He has concluded, as other researchers have, that the importance of audit
committee in corporate governance is increasing, especially with the financial breakdown of
Enron, WorldCom, BCCI, and many others. Since the audit committee is being relied upon by the
Board of Directors in checking if the management has faithfully managed the organization, it is
also important that they perform self-evaluation at least annually to determine the areas to which
the committee should be improve/addressed.
And lastly, Tusek (2015) conducted an empirical study through issuing questionnaires to analyze
the influence of the audit committee on the internal audit operations in the sense of achieving the
numerous roles and tasks of modern internal auditing in the system of corporate governance. Tusek
(2015) found out that in this study that internal auditors and audit committee members believed
that there is a high influence on the increase of the quality of the internal audit operations caused
by the cooperation between the internal audit function and the audit committee.
Table 1. Summary of Selected Qualitative Literature
Design /
Title (Author(s),
Objective Methodology / Findings
Year)
Approach

Audit committee To investigate the A case study approach - Informal networks

effectiveness: conditions and is employed, based on between AC
informal processes processes affecting the direct engagement participants
and behavioural operation and with participants in condition the impact
effects potential effectiveness AC activities, of the AC
of audit committees including the AC
(Stuart Turley and (ACs), with focus on chair, external - The most
Mahbub Zaman, the interaction auditors, internal significant effects of
2007) between the AC, auditors, and senior the AC on
individuals from management. governance
financial reporting and outcomes occur
internal audit outside the formal
functions and the structures and
external auditors. processes.

The influence of the To analyze the Empirical research, Communication and

audit committee on influence of the audit using a questionnaire dialogue of the
the internal audit committee in internal audit
operations in the improving internal function with the
system of corporate audit activities or audit committee
governance – increasing the regarding adequacy
evidence from efficiency of the and sufficiency of
Croatia internal audit function auditing resources,
in the company. does not have
(Boris Tušek, 2015) significant influence
on the quality of the
internal auditor’s
work

The Audit To examine the Audit Extensive interviews - Audit committee

Committee Committee oversight with 42 U.S. public members strive to
Oversight Process process, which company audit provide effective
includes the activities committee members monitoring of
(Mark S. Beasley, that links the inputs of financial reporting
Joseph V. Carcello, audit committee to and seek to avoid
serving on
 Dana R. financial reporting ceremonial audit
Hermanson, outcomes committees
& Terry L. Neal, - The responses vary
2009) with personal and
company
characteristics

The Role of audit To report the findings An exploratory case When faced with
committee in of semi‐structured study method through important issues, the
resolving auditor- interviews with company interviews audit committee
client management, external plays the role of a
disagreements: A auditors and audit mediating third‐party
Malaysian Study committee members intermediary, who
in Malaysia aids in resolving
(Zalailah Salleh and concerning the role of disputes.
Jenny Stewart, the audit committee in
2012) resolving auditor‐
client disagreements.

The Role of Audit To ascertain the role Descriptive analysis Audit committee
Committee in audit committee plays plays a major role in
Corporate in corporate corporate
Governance: governance. governance
Descriptive Study regarding the
organization’s
(Ahmed Mohsen Al- direction, control,
Baidhani, 2014) and accountability

IV. Conclusion
As one of the key mechanism of good governance, the role of audit committee is very essential. It
acts as an overseer of the management performance and mediator in case of disputes. Audit
committees are trusted by the Board of Directors in controlling and managing the financial
performance of the organization. That is why, it is also very important that the members of the
audit committee are qualified, creditable and has sufficient know-how to perform the tasks of an
audit committee member effectively. As discussed in the literature review, without proper
knowledge and experience, an audit committee member will not be able to effectively implement
processed and conditions that are beneficial to the organization.
The importance of corporate governance has grown quickly in the past decade. This rapid growth
is in response with the evolving of business models of the current times. The more complicated
the business model becomes, the higher the need for an effective corporate governance structure.
Thus, calls for more empirical qualitative researches are conducted to address the growing need
for an effective corporate governance.
 V. References
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