Tournament incentives and audit report lag: Further evidence

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Abstract

Organizations design their executive compensation such that there is a significant variance between the remuneration of the chief executive officer (CEO) and senior executives directly below them. This introduces a tournament among the top executives to determine who among them is best suited to succeed the current CEO. The tournament incentivizes the top executives to engage in behaviors that will enhance their chances of being champions in the tournament and consequently succeeding the current CEO of the organization. We research the impact of tournament incentives on financial information accuracy and timeliness. Specifically, we analyze the disparity between the remunerations of CEOs and other top five senior executives. We use the audit report lag as a proxy for financial information timeliness. After analyzing a total of 2,213 firm-year observations spanning from 2010 to 2018, we conclude that auditors’ perception plays a significant role in how tournament incentives relate to the timeliness of audit reports. We show that auditors may inadvertently discount the behaviors of senior executives involved in tournaments. We also show that senior executives involved in tournaments may engage in misbehavior through accruals earnings management. They may also engage in collaboration and positive effort. We find that audit report lag relates negatively to both tournament incentives and financial analyst following. Financial analysts following mediate the association between audit report lag and tournament incentives. Yet, audit report lag relates positively to accrual earnings management. Our results indicate that executive behavior, conditional on tournament incentives, significantly influences audit report lag. They further suggest that the financial analysts’ monitoring effect continues to work even in tournament situations. For the robustness test and to allay endogeneity concerns in our model, we perform a 2SLS test.

Keywords: Tournament Incentives, Accrual Earnings Management, Analyst Following, Managerial Behavior, Audit Report Lag, Audit Risk

Authors’ individual contribution: Conceptualization — E.K.L. and A.T.; Methodology — E.K.L. and H.K.M.; Formal Analysis — H.K.M. Investigation — E.K.L. and A.T.; Validation — A.T.; Software — E.K.L.; Writing — Original Draft — E.K.L. and H.K.M.

Declaration of conflicting interests: The Authors declare that there is no conflict of interest.

JEL Classification: G34, M4

Received: 27.02.2023
Accepted: 24.07.2023
Published online: 26.07.2023

How to cite this paper: Lamptey, E. K., Tang, A., & Mburu, H. K. (2023). Tournament incentives and audit report lag: Further evidence [Special issue]. Corporate Ownership & Control, 20(3), 328–342. https://doi.org/10.22495/cocv20i3siart8