Choice of Board Governance and Auditing in U.S. Family Firms

Abstract:     
We show using a sample of U.S. listed firms that larger and older family firms and those that plan to access the capital market differentiate themselves from other family firms by choosing independent and effective corporate boards and by taking demonstrably independent board actions that are costly for exploitative insiders to mimic, such as choosing specialist auditors and exposing the firm to intensive scrutiny by the auditors. We show that the current evidence on higher earnings quality in family firms is driven by firms that choose strong boards. Although family firms generally pay lower audit fees than nonfamily firms because of lower risk, this result does not hold in family firms with strong governance. Such good-governance firms are more likely to choose specialist auditors than weak-governance firms and pay audit fees that are as high as those for nonfamily firms. We interpret these choices as suggesting that a subset of family firms signal their transparency to the market and separate themselves from other family firms. In a confirmatory test, we find that this subset of family firms enjoys better credit ratings.

Number of Pages in PDF File: 47

Keywords: US Family firms, Corporate Governance, Earnings Quality, Auditor choice, Audit Fees

JEL Classification: M41

working papers series