Management Ownership and Internal Control Deficiency

• In Event: Financial Accounting and Reporting 1

Abstract

If a firm discloses material weakness in their internal control reporting, it means that the firm has the high likelihood of financial restatement in near future leading to negative impacts on firm value or stock price. As finance literature finds two agency effects, incentives and entrenchment effects, by aligning management’s interests with owners’ ones, this paper examines the empirical relationship between management ownership and the probability of material weakness in internal control. With 363 material weakness firms compared to control firms, I find that as management ownership increases, a firm has dominating incentive effects (decreasing the probability of material weakness) over entrenchment effects (increasing the probability of material weakness) in small and large ownership areas while it has offsetting incentive and entrenchment effects in medium ownership area. But, by separating the whole sample into accelerated and non-accelerated filers, I have only entrenchment effects in medium ownership area for non-accelerated filers with a limitation of small number of sample.

Author

• Shin Hyoung Kwon, Penn State University - Erie