Risk Management and Corporate Governance: The Importance of Independence and Financial Knowledge for the Board and the Audit Committee

50 Pages Posted: 14 Jan 2012

See all articles by Georges Dionne

Georges Dionne

HEC Montreal - Department of Finance

Thouraya Triki

HEC Montreal

Multiple version iconThere are 2 versions of this paper

Date Written: March 28, 2005

Abstract

In this paper, we assess empirically the effect of two requirements set by the SOX (audit committee entirely composed of independent members and at least one member is financially knowledgeable) and four requirements set by the NYSE (majority of independent directors in the board, audit committee with a minimum of three members, each member of the audit committee has to be financially literate, and at least one member of the audit committee must have accounting knowledge) on the corporate risk management activity. We also investigate the effect of having a majority of financially knowledgeable directors on the board as well as the importance of university education for directors sitting on the board and on the audit committee. We construct a novel hand collected dataset that allows us to explore multiple definitions for a director who is financially knowledgeable: a director who is financially active, a director who is financially educated and finally a director who has an accounting background. We find that the new requirements on the audit committee size and independence are reasonable, although maintaining a majority of unrelated directors in the board and a director with an accounting background in the audit committee may not be necessary. Interestingly, financially educated directors seem to encourage corporate hedging while financially active directors and those with an accounting background play no active role in such policy. This evidence combined with the positive relation we report between the firm's risk management level and its performance suggests that shareholders are better off with financially educated directors on their boards and audit committees. Our empirical evidence also show that university education for the directors sitting on the board, but not those sitting on the audit committee is an important determinant of the hedging level. Indeed, our measure of risk management is found to be a decreasing function of the proportion of directors with only a bachelor degree and an increasing function of the percentage of directors holding a degree superior to a bachelor. This result is the first direct evidence concerning the importance of university education for the board of directors.

Keywords: risk management, corporate governance, financial knowledge

Suggested Citation

Dionne, Georges and Triki, Thouraya, Risk Management and Corporate Governance: The Importance of Independence and Financial Knowledge for the Board and the Audit Committee (March 28, 2005). Available at SSRN: https://ssrn.com/abstract=686470 or http://dx.doi.org/10.2139/ssrn.686470

Georges Dionne

HEC Montreal - Department of Finance ( email )

3000 Chemin de la Cote-Sainte-Catherine
Montreal, Quebec H3T 2A7
Canada
514-340-6596 (Phone)
514-340-5019 (Fax)

HOME PAGE: http://www.hec.ca/gestiondesrisques/

Thouraya Triki (Contact Author)

HEC Montreal ( email )

3000, Chemin de la Côte-Sainte-Catherine
Montreal, Quebec H3T 2A7
Canada

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