Corporate General Counsel and Financial Reporting Quality

Abstract:     
We examine the influence of general counsel on firms’ accounting quality and earnings management practices. We consider two views of the role of general counsel and how they relate to financial reporting. The first is the “gatekeeper” role in which the general counsel acts as a voice of caution by encouraging regulatory compliance and reporting corporate misconduct. The second is the view that general counsel acts as a facilitator, i.e., a member of the management team with unique skills, but with essentially the same objectives as the rest of top management. We measure the influence that the general counsel wields within the firm using his/her presence in the top five officers of the firm by compensation, as well as the size of his/her legal department at corporate headquarters. In contrast to the gatekeeping view, we find that firms with powerful general counsel have lower accounting quality and engage in more earnings management than do firms with less powerful general counsel, even after controlling for endogeneity. Moreover, we find the compensation packages and equity incentives of general counsel are aligned with those of the CEO and CFO. These results do not support the gatekeeping view of the general counsel, at least with respect to reporting decisions, but are consistent with the view of the general counsel as a facilitator.

Number of Pages in PDF File: 42

Keywords: Corporate counsel, financial reporting, accounting quality, earnings management, compensation

JEL Classification: M40, M41

working papers series