Top management team incentive dispersion and audit fees

• Published date: 01 January 2024
• Author: Rachana Kalelkar,Yuan Shi,Hongkang Xu
• Date: 01 January 2024
• DOI: http://doi.org/10.1002/jcaf.22657

Received:  July   Accepted:  September 

DOI: ./jcaf.

RESEARCH ARTICLE

Top management team incentive dispersion and audit fees

Rachana Kalelkar1Yuan Shi2Hongkang Xu3

Department of Accounting, College of

Business, University of Houston –

Victoria, Victoria, Texas,USA

Management Division, Penn State Great

Valley, Malvern, Pennsylvania,USA

Accounting and Finance Department,

Charlton College of Business, The

University of Massachusetts Dartmouth,

North Dartmouth, Massachusetts, USA

Correspondence

Yuan Shi, Management Division, Penn

State Great Valley, East Swedesford Rd,

Malvern, PA, USA.

Email: yps@psu.edu

Abstract

We study whether heterogeneity in pay-performance sensitivities (PPS) across

top management team (TMT) members influences audit fees. Evidence from cur-

rent literature reveals that the heterogeneity in PPS among TMT affects TMT

managers’ motivation to coordinate their activities to manipulate earnings. Since

the quality of earnings lowers auditors’ financial reporting risk, we posit that

audit fees will be lower when dispersion in the PPS among TMT is high. We

demonstrate that audit fees are negatively linked with dispersion in PPS among

TMT members. This finding is robust to numerous sensitivity testing. Overall,

our findings suggest that firms benefit from the heterogeneity in PPS among TMT

members in the form of lower audit fees.

KEYWORDS

audit fees, financial reporting quality,incentive compensation, top management team incentive

dispersion

1 INTRODUCTION

Over the years, equity and options have become a key por-

tion of an executive’s total remunaration. A recent report

on the CEO pay trend reveals that, compared with ,

the median value of stock awards for Equilar  CEOs

grew by .% in .While these performance-based

components of compensation reduce the misalignment of

interest between shareholders and executives (Jensen &

Murphy, ), they are also known to have a negative

consequence on reporting quality (Bergstresser & Philip-

pon, ; Burns & Kedia, ;Efendietal.,;Feng

et al., ; Jiang et al., ). Recently,a few scholars have

analyzed the inherit risk in equity compensation from an

auditor’s perspective and documented a positive associa-

tion between an executive’s performance-based compen-

sation and audit fees (Billings et al., ). In this paper,

we deepen our understanding of executive compensation

by focusing on the performance-based compensation of

This is an open access article under the terms of the Creative Commons Attribution-NonCommercial-NoDerivs License, which permits use and distribution in any medium,

provided the original work is properly cited, the use is non-commercial and no modifications or adaptations are made.

©  The Authors. Journal of CorporateAccounting & Finance published by Wiley Periodicals LLC.

top management team (TMT) managers and its effect on

the financial reporting process. Specifically, we investigate

whether the dispersion of pay-performance sensitivities

(PPS) among TMT managers has any influence on audit

pricing.

TMT consists of chief executive officers (CEOs), chief

financial officers (CFOs), chief operating officers (COOs),

VPs of marketing, and general counsels (GCs). While the

CEO and CFO are primarily responsible for the quality

of financial reporting, academic evidence indicates that

other TMT managers have a direct or indirect influence

over the reporting process (Dichev et al., ;Zhang,

). For instance, Dichev et al. () document that

the educational background of various TMT managers

influences the quality of financial reporting, thus high-

lighting the importance of TMT managers in the financial

reporting process. Recently, T. Kim et al. () provided

additional support to the role of TMT managers in the

financial reporting process by arguing that the extent of

178 wileyonlinelibrary.com/journal/jcaf JCorp Account Finance. ;:–.