THE ROLE OF THE AUDIT COMMITTEE IN ACCOUNTING AND FINANCE EXPERTISE ON EARNINGS QUALITY

How to cite this paper: Nugroho, Y. P., Setiawan, D., & Wedari, L. K. (2022). The role of the audit committee in accounting and finance expertise on earnings quality. Corporate Governance and Organizational Behavior Review, 6(2), 41–51. https://doi.org/10.22495/cgobrv6i2p4 Copyright © 2022 The Authors This work is licensed under a Creative Commons Attribution 4.0 International License (CC BY 4.0). https://creativecommons.org/licenses/by/


INTRODUCTION
The role of audit committees in ensuring the quality of corporate financial reporting has come under considerable scrutiny due to recent high-profile accounting scandals or "earnings management" cases (e.g., waste management and WorldCom) and the collapse of Enron. Several fraud cases have brought attention, such as scandals in Garuda Indonesia, Jiwasraya, etc. One of the important aspects for shareholders in making investment decisions is the quality of the information in the capital market. Capital Market Supervisory Agency has the interest to encourage listed companies to provide better information to the shareholder. Investors are likely to give attention to earnings information to make investment decisions (Lee, 2013), so earnings quality will play a very important role in the reliability of the information received by investors. One major determinant of improving earnings quality is the quality of corporate governance.
One of the important mechanisms in corporate governance is the audit committee. Effective audit committees have a positive effect on achieving better firm performance (Al Farooque, Buachoom, & Sun, 2020; ElBahar, El-Bannany, & El Baradie, 2021) and provide more disclosure to the stakeholder (Agyei-Mensah, 2019; Raimo, Vitolla, Marrone, & Rubino, 2021). Pathak, Samba, and Li (2021) also provide evidence that diversity in audit committees helps to reduce the likelihood of financial restatement. The audit committee helps the board of commissioners to provide a supervisory function in preparing and reporting financial statements (Nelson & Devi, 2013). This means that the committee is relevant in improving the earnings quality (Baxter & Cotter, 2009;Bilal, Chen, & Komal, 2018). Moreover, it helps to enhance the effectiveness and efficiency of the internal and external audit processes (Siagian & Tresnaningsih, 2011).
The characteristics and the qualifications of audit committee members determine their effectiveness in fulfilling the supervisory function of the company. For instance, their expertise plays an important role in providing quality advice and detecting errors in the financial statements to improve earnings quality (Nelson & Devi, 2013 The SOX Section 407 categorizes audit committee expertise into accounting financial and non-accounting financial. The accounting financial aspect focuses on reporting and preparing financial statements, whereas non-accounting involves management processes and the company's operational activities (Dwiharyadi, 2017). The question is whether a combination of these two simultaneously can improve the effectiveness of the audit committee. Previous studies did not fully examine the differences between accounting and nonaccounting financial expertise in an audit committee. Nevertheless, most empirical studies perceive these two aspects as the same thing (Prasetyo, 2014 Previous studies reported inconsistent results that examined the effectiveness of an audit committee in conducting supervisory functions in examining the accuracy of financial reporting. Dwiharyadi (2017) and Siagian and Siregar (2018) showed that audit committees with financial expertise are not fully efficient in reducing earnings management. This result is in line with the study of Hermawan (2011), which showed that audit committees were not effective in improving the quality of earnings. Furthermore, Hermawan and Adinda (2012) did not show the role of the committee in improving earnings quality in state-owned companies. Conflicting results come from Prasetyo (2014) that audit committees with financial expertise reduced the possibility of fraud engineered in the financial reporting and improved the earnings quality. Similarly, Amin et al. (2018) showed that the expertise of the audit committee enhances earnings quality.
This study aims at examining the effect of accounting and finance expertise at audit committee on earnings quality. First, the current study investigates the effect of accounting expertise on earnings quality. Second, investigates the effect of finance expertise at audit committee on earnings quality. Third, the current study investigates the effect of both accounting and finance expertise simultaneously at the audit committee on earnings quality.
The remainder of the paper proceeds as follows. Section 2 provides a discussion on the literature review and hypothesis development. Section 3 provides a discussion on the research methodology aspect. Section 4 provides the result of the hypothesis testing and discussion. Finally, the last section is a conclusion.

LITERATURE REVIEW AND HYPOTHESES DEVELOPMENT
This study uses agency theory (Jensen & Meckling, 1976) to explain the relationship between audit committee expertise and earnings quality. Agency theory argues that there is a conflict between agent and principal. Each party assumes others make a decision based on their interest. There is an information asymmetry between agent and principal. The principal (shareholders) gives discretion to the agent (management) to manage a company. Managers have more information regarding the firm condition and prospects compared to the shareholders. Therefore, it needs monitoring activity regarding the management work and performance. Indonesia uses two-tier board systems, which are comprised of a board of commissioners and a board of directors. The board of commissioners has a supervisory function to the board of directors, while the board of directors manages firms' operation and management. Both board of commissioners and board of directors appointed by the Annual General Meeting of Shareholders. Further, the board of commissioners forms an audit committee to help them to supervise and monitor the financial statement. In this case, the audit committee, as part of the board of commissioners, monitors the management work, especially at the financial aspect. Financial Authority Service issued Regulation No. 55/POJK.04/2015 that states one of the roles of this committee is to supervise financial statements, projections, and other reports related to the company's financial information. Thus, the audit committee's supervision greatly affects the quality and credibility of financial statements (Nelson & Devi, 2013).
The audit committee ensures that the management does not take actions or practices detrimental to the company through earnings management. Supervision helps to limit earnings management with personal interests that conflict with the company (Setiawan, Phua, Chee, & Trinugroho, 2020). Earnings management decreases the quality of its earnings (Bilal et al., 2018). Earnings are one of the important indicators for companies' performance and achievement that investors are concerned by in making investment decisions. Hence, maintaining the earnings quality level helps to protect investors' or shareholders' interest and relates to the company's financial reporting (Dwiharyadi, 2017;Wu, Hsu, & Haslam, 2016). This motivates the study in examining the characteristics of the audit committee's expertise, specifically accounting and finance expertise and its impact on earnings quality.
Audit committee expertise and earnings quality The audit committee expertise determines the quality of the company's earnings due to its financial reporting supervisory function. Their understanding of financial statements and information enhances effectiveness in detecting any potential fraud. The previous studies provide evidence that financial expertise provides a positive effect on the cash holding, leverage, and dividend payment to the shareholder (Al Lawati & Hussainey, 2021). Thus, financial expertise has a positive effect on the firm outcome. Nelson 2014), which found that this aspect reduced the potential of earnings management practices. Agyei-Mensah and Yeboah (2019) also find that the financial expertise in the audit committee has negatively affected discretionary accrual. Thus, financial expertise has a positive effect on earnings quality. On the other hand, Siagian and Siregar (2018) do not find a significant relationship between financial expertise and earnings management. However, accounting expertise in audit committees has reduced the level of earnings management in family firms in Indonesia (Suprianto, Rahmawati, Setiawan, & Aryani, 2019).
There is still debate in the academic literature regarding the type of audit committee financial expertise that is more effective between accounting and finance. Thus, the following hypotheses are formulated: H1: The existence of audit committee members with accounting expertise positively affects earnings quality.
H2: Audit committee members with finance expertise positively affect earnings quality.
H3: Audit committee members with accounting expertise and finance expertise positively affect earning quality.

Population and data sample
The population includes companies listed on the IDX, specifically, listed companies from the manufacturing sector during the 2015-2017 period. The total observations collected 331 yearcompany. Secondary data were obtained from the annual reports of listed companies, on the IDX website and the companies' websites.

Variables and measurements
The dependent variable is earnings quality, with discretionary accruals is used as a proxy. This study uses three measurements of discretionary accruals, the Jones, the modified Jones, and the Kasznik models. These three measurements were used in the analysis to ensure the consistency of the results.
The Jones (1991) discretionary accruals with equality model are as follows in equation (1).
The Kasznik (1999) discretionary accruals with equality model are as follows in equation (3).
where, is total accruals; −1 is total asset at the beginning of the year; ∆ is the change in revenues; ∆ is the change in receivable; isgross property, plant, and equipment; ∆ is the change in cash from operations.
The independent variable is the expertise of the audit committee, grouped into accounting and finance expertise. The ACCT_FINN_DUMMY was applied because it accommodates these two aspects. It is required by the regulator that listed companies have at least one committee member with both expertise, represented in ACCT_FINN_DUMMY variable.
This study use Badolato et al. (2014) as a reference to categorize audit committee expertise on the basis of their work experience. The annual report provided the work experience of the committee. SOX Section 407 requires listed companies to submit information and details of audit committee members with financial expertise, a position adopted in Regulation No. 55/POJK.04/2015. These regulations require companies to prepare an audit committee charter that contains the composition, structure, and membership requirements.
The study includes several control variables, including audit committee meeting (MEET), audit committee size (MEMB), profitability (ROA), leverage (DAR), company size (SIZE), profit/loss (LOSS), company growth (GROWTH), and audit quality (BIG4), as shown in Table 1.  The panel data regression analysis method was used to test the hypotheses of this study. There are three main regression equation models used in this study as follows:  Table 2 shows the results of the descriptive statistical test of the 331 observations sample. Table 2 shows that the discretionary accrual Jones model has a minimum value of 0.001, a maximum value of 0.585, a mean value of 0.061, and a standard deviation of 0.073. The modified Jones model has a minimum value of 0.000, a maximum value of 0.516, a mean value of 0.049, and a standard deviation of 0.054. The discretionary accrual modified Kasznik model has a minimum value of 0.000, a maximum value of 0.590, a mean value of 0.061, and a standard deviation of 0.073. The results from the descriptive statistics for the three models are absolute values, which are used on the basis of Sánchez-Ballesta and García-Meca (2007).    Table 4 shows the accounting expertise in the audit committee has no significant effect on discretionary accrual. This result shows the accounting expertise might not have minimized the level of earnings management. This result does not confirm the expectation that accounting experts will have a positive effect on earnings quality. However, the current result is in line with Siagian and Siregar (2018) who find no significant effect of expertise in finance on earnings management. Further, Table 4 also shows that finance expertise has no significant effect on discretionary accruals. There is no difference between an audit committee with finance expertise and an audit committee without finance expertise. The result does not confirm the expectation that predicts the significant effect of finance expertise on discretionary accrual. This result is not in line with the hypotheses.  Table 4, hypotheses H1 and H2 were rejected. On the other hand, Table 4 shows the result of both accounting and finance expertise simultaneously to the discretionary accruals. The result is negatively significant. There is a significant difference regarding the level of discretionary accrual between audit committees with both finance and accounting expertise and audit committees without both finance and accounting expertise.

DISCUSSION
This result can be interpreted to mean that audit committee members with both finance and accounting expertise help to improve a company's earnings quality. The existence of both finance and accounting expertise provides positive value to the company. These both expertise complement each other to provide better supervisory function regarding the quality of financial statements. There is better earnings quality with audit committees that have both accounting and finance expertise compared to without both finance and accounting expertise. Therefore, the current study confirms the expectation that both accounting and finance expertise have a positive effect on earnings quality. The third hypothesis (H3) is accepted. Table 4 also showed the result of statistical testing for three measurements of discretionary accruals: Jones (1991) model, modified Jones model (Dechow et al., 1995), and Kasznik (1999) model. The result of statistical testing provides a consistent result. Nevertheless, the test results also showed that ACCT_DUMMY and FINN_DUMMY variables do not affect discretionary accruals with the same results for each model.
These results are in line with those of Dhaliwal et al. (2010), who showed that companies with audit committee members that have both expertise at once have lower discretionary accruals and better earnings quality. Thus, the application of Financial Authority Service Regulation No. 55/POJK.04/2015 enhances the effectiveness of the audit committee's supervisory function.
Robustness test A robustness test was conducted to determine whether a higher proportion of committee members with accounting and finance expertise affects their supervisory function and earnings quality. The first test involved replacing the measurement of the audit committee's expertise variable with the proportions suggested by Badolato et al. (2014) and Dwiharyadi (2017) to determine the consistency of the results listed in Table 4. The results are shown in Table 5.   Table 5 shows the results are consistent with those in Table 4. The ACCT_FINN_PROP variable negatively affects the discretionary accrual variable, whereas the ACCT_PROP and FINN_PROP have no impact. This is in line with each discretionary accrual measurement model, including the Jones, modified Jones, and Kasznik models. The proportion of audit committees with two expertise negatively affects discretionary accruals. This means that a higher proportion of audit committees with both accounting and finance expertise positively affects earnings quality (Dwiharyadi, 2017).
This study used discretionary accruals to proxy earnings quality. The smaller discretionary accruals value signified better earnings quality. Discretionary accruals often have a positive and negative value to increase profits and minimize losses, respectively. A second robust test was conducted to increase confidence from the results by dividing the sample into positive and negative discretionary accruals. This test was in accordance with He and Yang (2014), and Tables 6 and 7 list the results. Table 6 shows that having at least one member with accounting and non-accounting expertise reduces the chances of discretionary accruals, as shown in the Jones and modified Jones models with positive and negative values. In the Kasznik model, only negative discretionary accruals are affected by the presence of an audit committee with accounting and non-accounting expertise. Table 7 shows the proportion of the audit committee members with accounting and nonaccounting backgrounds affects discretionary accrual values on the Jones, modified Jones, and Kasznik models. The results showed that the proportion of audit committees only affects Jones's discretionary accruals. Moreover, it positively and negatively affects the Jones model's discretionary accruals but negatively affects the Kasznik model's discretionary accruals.
In other studies, the audit committees with accounting and non-accounting expertise do not affect the discretionary accruals for the Jones, modified Jones, and Kasznik models. The robust tests established that the audit committee with two expertise in accounting and finance have an increased influence in minimizing discretionary accruals for better earnings quality.

CONCLUSION
This paper contributes to the literature by providing insights into the specific aspects of the effectiveness of the audit committees by focusing on the audit committee's oversight of financial earnings quality. This study is aimed to investigate audit committees with accounting expertise, financial expertise, or a combination of both affect a company's earnings quality, proxied by discretionary accruals. The results showed that audit committees with accounting and financial expertise had a better impact on the company's earnings quality. According to Nelson and Devi (2013), an audit committee with this expertise would promote better financial reporting quality and an efficient supervisory system, which results in improved earnings quality. For the audit committees to efficiently perform their responsibilities, they must have the capability that would provide them with a greater degree of expertise in performing the functions entrusted to them. Those who are exercising control over the auditor should have adequate knowledge, experience, and skills in the fields of accounting, financial auditing, and finance. It is also important that the auditor respects the expertise of the audit committee members.
This study focused on the manufacturing companies, therefore, the results cannot be generalized to other sectors, such as mining, property, and non-financial sectors. This can be taken as a future research opportunity to provide a detailed perspective of the audit committee's effect on the quality of corporate earnings. Data from other countries that may have different audit committee regulations can be compared. Moreover, to determine how these samples affect the quality of earnings in Indonesian companies, they can be taken before and after implementing regulations that are related to audit committees. Results of this research provide useful information for the accounting profession, the regulators, and corporations on the effective practice of audit committees.