Director Busyness and Internal Control Weaknesses: Evidence from a Natural Experiment

Abstract

In this paper, I investigate the effects of multiple directorships on internal control quality. By exploiting an exogenous change in board seats held by directors in interlocked firms that arises from the termination of target firm board due to merger and acquisitions, I find reductions in directorships help mitigate internal control weaknesses in interlocked firms. Cross-sectional analyses show that the main effects of multiple directorships on internal control quality channel through shocked directors’ marginal time value, independent status, as well as board memberships. As a direct manifestation of internal control quality, I also document significant improvements in financial reporting quality as evidenced by a lower probability of accounting restatements. Overall, the findings are consistent with the director busyness hypothesis that multiple directorships adversely impair board governance effectiveness in internal control over financial reporting.