Does the disclosure of corporate governance structures affect firms' earnings quality?

PurposeThe Sarbanes‐Oxley Act (SOX) mandated a variety of corporate governance mechanisms to improve the transparency of financial reporting quality. This paper's aim is to investigate whether SOX's recently mandated disclosure of corporate governance structures affects the market's perception of earnings informativeness and firms' earnings management.Design/methodology/approachSince the first compliant disclosure of the Act would be found in firms' 2002‐2003 financial reports, the authors retrieve the post‐SOX data (pre‐SOX data) from the 2002 to 2003 (2001‐2002) period. Further, the study adopts Anderson et al.'s model to test the relations between earnings informativeness, audit committee independence, and other corporate governance variables. A similar mode is used by Chang and Sun in their study of cross‐listed foreign firms. To measure the discretionary accruals, the authors adopt Kothari et al.'s model and use the two‐digit SIC code in the cross‐sectional regression.FindingsIt is found that the market valuation of earnings surprises is significantly higher for firms which disclose stronger corporate governance functions. It is also found that the effectiveness of corporate governance in monitoring earnings management is improved after the mandated disclosure.Originality/valueThe empirical evidence shows that the quality of accounting earnings is increased after the SOX's mandated disclosure, which strengthens the link between financial reporting and corporate governance functions.