The Dark Side of 'Good' Corporate Governance: Compliance-Fuelled Book-Cooking Activities

FMG Discussion Paper No. 559

26 Pages Posted: 12 Apr 2006

See all articles by Tom Kirchmaier

Tom Kirchmaier

London School of Economics - Centre for Economic Performance; Copenhagen Business School

Mariano Selvaggi

London School of Economics & Political Science (LSE)

Date Written: April 2006

Abstract

We argue that obligatory compliance with stricter financial reporting rules (e.g., the US Sarbanes-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. As 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.

Keywords: Corporate Governance, Earnings Manipulation, Auditing, Misreporting

JEL Classification: D23, G34, G38, K20, M21, M41, M43

Suggested Citation

Kirchmaier, Tom and Selvaggi, Mariano, The Dark Side of 'Good' Corporate Governance: Compliance-Fuelled Book-Cooking Activities (April 2006). FMG Discussion Paper No. 559. Available at SSRN: https://ssrn.com/abstract=895362 or http://dx.doi.org/10.2139/ssrn.895362

Tom Kirchmaier (Contact Author)

London School of Economics - Centre for Economic Performance ( email )

Houghton Street
London, WC2A 2AE
United Kingdom
+44 207 955 6854 (Phone)

HOME PAGE: http://https://sites.google.com/site/tomkirchmaier/home

Copenhagen Business School ( email )

Porcelænshaven 24A, 3rd floor
Copenhagen
Denmark

Mariano Selvaggi

London School of Economics & Political Science (LSE) ( email )

Houghton Street
London, WC2A 2AE
United Kingdom
4402079557544 (Phone)

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