e-sRC

CHAPTER ONE
INTRODUCTION
1.1
Background to the Study
Corporate financial report provides fundamental information to a wide range of groups; its main
purpose is to provide information which is supposed to give a true and fair view of the
management’s stewardship, company’s performance and financial position for the various users
of the information to make informed economic decisions (America Accounting Association,
1961). Financial reporting is the process by which corporate entities provide interested parties
(users) with information on their transactions during an accounting period (Mbobo & Ekpo,
2016). Among the interested parties are shareholders, creditors, tax authorities, customers,
financial analysts, and lenders. The parties need quality financial reports for economic decision
making.
Financial report is one of the major means that corporate management uses in communicating
financial information for a given period. In this regard, the International Accounting Standard
(IAS 1) states that the purpose of financial reporting is to provide information about the financial
position, financial performance and cash flows of an entity that is useful to a wide range of users
in making economic decisions. Such information is communicated through financial statements.
Ibadin and Dabor (2015) stated that financial statements show the results of the management’s
stewardship of the resources entrusted to it by revealing economic information on assets,
liabilities, equity, income and expenses, including gains and losses; contributions by and
distributions to owners in their capacity as owners; and cash flows. Such information, along with

other information in the notes, assists users of financial statements in predicting the entity’s
future cash flows and, in particular, their timing.
Moreover, accounting information contained in the financial statements is one of the very
essential information needed by various stakeholders especially investors for making informed
economic decisions. Investors in search of investment avenues use the accounting information
contained in the financial statements of the intended investing company in pricing of shares.
Market participants seek high-quality financial reporting or information to mitigate information
asymmetry as such quality information should be a pre-requisite for a well-functioning capital
market. Thus, companies that provide high-quality information have an added advantage in their
rating in the capital market (Ibadin & Dabor, 2015).
The increasing demand for quality financial reporting creates the need for effective and efficient
monitoring mechanisms. This is necessitated by the conflict of interest between managers, who
serve as agents and resource holders, who serve as principals, wherein, managers carry out
activities that are counter-productive in the realization of the interests of resource holders.
Therefore, board of directors is instituted to monitor the activities of managers. The board sets
several monitoring measures that will ensure the integrity of management’s decision. One of
committees is the audit committee. The quality of the monitoring process depends on
effectiveness of the audit committee. The effectiveness of audit committee in exercising its
monitoring role is defined as the extent to which they perform their duties which is associated
with their characteristics (Dechow, Sloan & Sweeney, 1996; Beasley, 1996; Carcello & Neal,
2000; Klein, 2002). An effective audit committee ensures the provision of credible accounting
information to financial statement users by constraining earnings management by managers

(Dandago & Rufai, 2014).
It is in line with increasing loss of credibility of financial reports that the banking industry,
through the Central Bank of Nigeria also developed its code, the recent of which is the CBN
Code of Corporate Governance of 2006 (Ibadin & Dabor, 2015). Specifically, the code requires
that companies should establish audit committees consisting of directors and shareholders. Under
the code, audit committee is saddled with the responsibility of reviewing the scope and result of
audit, the independence and objectivity of the auditor, among others. In spite of this, the quality
of financial reports of banks has continued to be an issue of concern.
Consequently, the effect of audit committee characteristics on financial reporting quality has
been under scrutiny. Audit committee independence is one of such characteristics (Klein, 2002).
This is measured by presence of non-executive audit committee members who do not engage in
the day to day running of firms. Presence of such members provides a necessary condition for
the audit committee to carry out its oversight functions objectively. However, a contrary
argument to this is that non-executive audit committee members might not have requisite
knowledge of the internal financial reporting practices of an organization and therefore might not
be able to ascertain possible areas of financial misstatements. Nonetheless, lack of audit
committee independence in Nigerian may have influence in the increasing spate of financial
scandals and bank failures.
Frequency of audit committee meeting is also considered relevant for the oversight functions of
the audit committee (Jenkins, 2000). Menon and Williams (1994) contend that the more often an

audit committee meets the more active it is being perceived, which leads to fewer financial
reporting problems. In practice, more frequent audit committee meeting gives the committee
opportunity to critically examine financial statements and carry out follow-up actions. Similarly,
Audit committee that meets frequently can reduce the incidence of financial reporting problems.
Therefore, the more frequent the audit committee members meet, the more thorough they are
prone to be in terms of assessing the quality of financial report. Contrary to this analogy, it can
be argued that frequent audit meetings add cost to the organization. Payment of meeting
allowances constitute cost which often times can be avoided. Managers even use such avenues
expropriate organizational resources. In the deposit money banks in Nigeria, the issue of
frequency of audit committee meeting is worthy of emphasis especially in the light of increasing
loss of credibility in the financial reports presented by management of banks whose financial
reports are not well reviewed by the audit committees that meet rarely (Dabor & Dabor, 2015).
The existence of female board members could serve as a mitigating factor against manipulative
accounting as there is bound to be less collusion. Relatedly, audit committee members with
requisite financial expertise are prone to be more active in assessing the quality of financial
reports. However, a contrary argument is that such members might rather aid management in
manipulating accounts especially if their independence is compromised (Illaboya, 2012).
Therefore, the role of the audit committee in monitoring the financial misstatements to ensure
financial reporting quality cannot be overemphasized. It is against this backdrop that this
investigation is carried out to examine the effect of audit committee characteristics on financial
reporting with emphasis on Deposit Money Banks in Nigeria.

1.2
Statement of the Research Problem
Poor corporate governance practices have become a global phenomenon (Ahmad & Hassan,
2011). Nigeria has also experienced cases of corporate failure due to poor corporate governance
practices (Dabor & Tijjani, 2011). Some of the cases include that of Lever Brothers plc and
Cadbury Nigeria plc. Evidence from empirical studies (Mbobo & Ekpo, 2016) have shown th
audit committee ineffectiveness is one of the major causes of global financial crisis not only in
developing economies but also in developed ones. In most cases, audit committee was accused of
not performing their responsibility effectively. For example, the investigation on Worldcom
shows that the audit committee failed to effectively oversee the managers’ duties. This action
subjected the audit committee’s role of overseeing financial reporting process into severe
criticism thus, making the quality of accounting questionable.
A critical review of the Nigeria banking system over the years also shows that among the
problems confronting the sector is the issue of weak corporate governance (Sanusi, 2010). The
weakness in the corporate governance among others include, audit committee squabbles,
fraudulent and self-serving peachiest among members of the audit committee. The Central Bank
of Nigeria post consolidation Code of Corporate Governance (2006) also reviews that poor
governance is one of the key variables that lead to corporate distress (Sanusi, 2010). In the
Nigerian banking sector, poor governance and unethical practices haves become issues of worry
as they have been proven to be linked to bank distress in Nigeria (Sanusi, 2010). Consequently,
in 2005, one hundred and ten (110) cases of fraud and forgeries valued at N1.5billion were
reported while in 2010, the Central Bank of Nigeria injected 620 billion as liquidity into the
banking sector due to threats of banking sector collapse. The above statistics reveal evidence of

poor display of oversight roles of corporate governance in the Nigerian banking sector.
Furthermore, it has been documented in the accounting literature (Anderson & Gillan, 2003;
Bradbury, Mak and Tan, 2004 and Hermawan, 2011) that ineffectiveness of audit committee
monitoring and oversight functions result in accounting irregularities; as such information
contained in the financial statements may not display true and fair view of the earnings and
financial position of the business. In such cases, the information becomes misleading and affects
the quality of financial reports.
Most studies that examine the effect of audit committee characteristics on financial reporting
quality in Nigeria, such as Oyejide and Soyibo (2001), Temple (2016) and Hassan (2012), have
tended to focus on few variables of audit committee. In addition, a key observation which can be
gleaned from the literature is that the effect of audit committee characteristics on financial
reporting quality has not been adequately carried out in the Deposit Money Banks in Nigeri
This is in spite of the central roles that they play to national development (Hassan, 2012).
This study assesses the effect of audit committee characteristics on financial reporting quality
with focus on Deposit Money Banks in Nigeria. The concentration of the study on DMBs in very
timely as they have a wide range of investors who on daily basis need quality financial reports to
make their informed economic decision. The absence of quality financial reports will not only
mislead investors but negatively affecting quality investment decision in the whole country
which will affect national development.

1.3
Research Questions
In view of the above statement of the research problem, the following questions are posed to
serve as a guide:
Does audit committee independence significantly affect financial reporting quality of
listed Nigerian DMBs?
Does frequency of audit committee meeting significantly affect financial reporting
quality of listed Nigerian DMBs?
Does accounting expertise of audit committee members affect financial reporting
quality of listed Nigerian DMBs?
To what extent does female membership in audit committee affect financial reporting
quality of listed Nigerian DMBs?