The Association between the Quality of Audit Committee & Board of Directors and Firm’s Financial Performance: Evidence from S&P 500 Companies

Since the Blue Ribbon Committee(BRC)’s 1999 report and the Sarbanes-Oxley Act (SOX) of 2002, the role of the audit committee has been more crucial to regulator, accounting profession, and business world. This study examines how the quality of audit committee and board of directors is associated with firm’s future financial performance. Focusing on the sample of firms listed on the Standard & Poor’s 500, this study empirically investigates the association between the quality of audit committee & board and firm’s future financial performance. Following prior studies, I use audit committee independence, size, and expertise as proxies for audit committee quality, and use board independence, size, and meeting frequency as proxies for board quality. For dependent variables, I utilize four financial ratios as proxies for firm’s financial performance, earning per share (EPS), price per share (PPS), net income over stock price (NI/Price), and return on assets (ROA). From the first test using EPS as proxy for firm performance, I find that audit committee size and board independence are positively associated with firm’s future financial performance as expected; however, board meeting frequency is negatively associated with firm performance, inconsistent with the expectation. From the second test using PPS, I find that board independence has positive association with firm performance while board meeting frequency has negative relationship with firm performance. From the test with NI over Price, I find that the number of audit committee member with financial expertise is positively related with firm performance. In the test using ROA as dependent variable, I find that board size is negatively related to firm performance. In general, this study shows that the quality of audit committee is positively associated with firm’s future financial performance. This study also shows the positive association between the quality of board of directors and firm’s performance. The findings from this study implies that the quality of the audit committee and the board of directors can influence firm’s future financial performance.