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The beneficial effect of shareholder participation in general meetings: Evidence in the context of audit quality

Abstract

Purpose:

This paper aims to investigate how shareholder participation in general meetings (SPGM) affects audit quality.

Design/methodology/approach:

We measure SPGM as the percentage of the ownership represented by the shareholders who attend the general meeting. We measure audit quality by auditor industry specialization, audit firm size, and auditor fees. In order to investigate the relationship between SPGM and audit quality, we use a sample of 576 firm-years from Iran’s capital market between 2012 and 2018 and employ multivariate regression analysis.

Findings:

The findings show that, in general, there is an insignificant relationship between SPGM and audit quality. However, we reveal that there is a positive and significant association between the presence of institutional shareholders in general meetings and audit quality. Furthermore, for the companies with a high presence of institutional shareholders in their general meetings, there is a significant and positive relationship between the participation of other shareholders in the general meetings and audit quality. Our findings are robust in regards to a variety of additional tests.

Originality/value:

Collectively, the findings reveal that the impact of SPGM on audit quality is conditional to the presence of institutional shareholders in general meetings. The findings provide further insights among the mixed evidence on the beneficial effects of SPGM.

Keywords:
general meetings; audit quality; corporate governance; regulators; institutional shareholders

Resumo

Objetivo:

Este trabalho tem como objetivo de investigar como a participação dos acionistas nas assembleias gerais (PAAG) afeta a qualidade da auditoria.

Metodologia:

Medimos a PAAG como uma porcentagem das ações representadas pelos acionistas que participam da assembleia geral. Medimos a qualidade da auditoria por meio da especialização do auditor no setor, tamanho da firma de auditoria e honorários do auditor. Para investigar a relação entre a PAAG e a qualidade da auditoria, utilizamos uma amostra de 576 empresa-anos do mercado de capitais do Irã, entre 2012 e 2018, e empregamos a análise de regressão multivariada.

Resultados:

Os resultados mostram que, em geral, há uma relação insignificante entre a PAAG e a qualidade da auditoria. Entretanto, revelamos que há uma associação positiva e significativa entre a presença de acionistas institucionais nas assembleias gerais e a qualidade da auditoria. Além disso, para as empresas com uma grande presença de acionistas institucionais em suas assembleias gerais, há uma relação significativa e positiva entre a participação dos outros acionistas nas assembleias gerais e a qualidade da auditoria. Nossos resultados são robustos quanto à variedade de testes adicionais.

Contribuições:

Coletivamente, os resultados revelam que o impacto da PAAG na qualidade da auditoria está condicionado à presença de acionistas institucionais nas assembleias gerais. Os resultados fornecem outras percepções no conjunto de evidências sobre os efeitos benéficos da PAAG.

Palavras-chave:
Assembleias gerais; qualidade da auditoria; governança corporativa; reguladores; acionistas institucionais

1. Introduction

Shareholder participation in general meetings (SPGM) is an important part of corporate governance in publicly-traded companies (e.g., Apostolides, 2010Apostolides, N. (2010). Exercising corporate governance at the annual general meeting. Corporate Governance. The International Journal of Business in Society, 10(2), 140-149. DOI 10.1108/14720701011035666
https://doi.org/10.1108/1472070101103566...
; Bebchuk, 2005Bebchuk, L. A., & Cohen, A. (2005). The costs of entrenched boards. Journal of Financial Economics, 78(2), 409-433. https://doi.org/10.1016/j.jfineco.2004.12.006
https://doi.org/10.1016/j.jfineco.2004.1...
; Krishnan & Ye, 2005Krishnan, J., & Ye, Z. (2005). Why some companies seek shareholder ratification on auditor selection. Accounting Horizons, 19, 237-254.). Theoretically, higher SPGM is desirable, as it serves the interests of shareholders by giving them a stronger voice regarding important governance issues (Holland et al., 2021Holland, K. V., Lim, C., & Yi, I. (2021). Shareholder Meetings Uncertainty: Evidence from the Options Market. SSRN Electronic Journal. doi:10.2139/ssrn.3765575
https://doi.org/10.2139/ssrn.3765575...
; Institutional Shareholder Services (ISS), 2016; SEC, 2018a; SEC, 2018b) and leads to a broader reflection of shareholders’ interests in the corporate governance processes (e.g., ISS, 2016; Stratling, 2003Stratling, R. (2003). General Meetings: a dispensable tool for corporate governance of listed companies? Corporate Governance: An International Review, 11(1),74-82.). Furthermore, higher SPGM provides shareholders with a better opportunity to hold management accountable and may prevent managers from engaging in opportunistic behaviors (e.g., Mayhew & Pike, 2004Mayhew, B. W., & Pike, J. E. (2004). Does investor selection of auditors enhance auditor independence? The Accounting Review, 79(3), 797-822. https://doi.org/10.2308/accr.2004.79.3.797
https://doi.org/10.2308/accr.2004.79.3.7...
). For these reasons, regulators and securities commissions usually encourage higher SPGM (European Union, 2020; Institutional Shareholder Services, 2012; Krishnan & Ye, 2005; U.S. Department of the Treasury, 2008). Nevertheless, several theoretical studies question the value of this higher SPGM (e.g., Jong, Mertens & Roosenboom, 2006Jong, A., Mertens, G., & Roosenboom, P. (2006). Shareholders’ voting at general meetings: Evidence from the Netherlands. Journal of Management and Governance, 10, 353-380.; Sjostrom, 2006Sjostrom, W. K., (2006). The case against mandatory annual director elections and shareholders’ meetings. Tennessee Law Review, 74,199-239.). Moreover, the empirical research does not provide a lot of evidence on the beneficial effect of higher SPGM.

In this research, we focus on one of the potential consequences of higher SPGM: audit quality. Specifically, we examine how SPGM affects audit quality, defined as higher assurance that corporate reports reliably reflect the company’s underlying economics (Defond & Zhang, 2014). Theoretically, SPGM may reduce the influence of managers in the auditor selection and auditing processes (e.g., Advisory Committee on the Auditing Profession, 2008; ISS, 2016) and may therefore change the potential focus of the auditors from the managers’ reporting preferences to the investors’ reporting preferences (e.g., DoT, 2008; Hermanson, Krishnan, & Ye, 2009Hermanson, D. R., Krishnan, J., & Ye, Z. (2009). Adverse Section 404 opinions and shareholder dissatisfaction toward auditors. Accounting Horizons, 23(4), 391-409. https://doi.org/10.2308/acch.2009.23.4.391
https://doi.org/10.2308/acch.2009.23.4.3...
; Lev, 2002Lev, B. (2002). Too gray for its own good. Wall Street Journal, 22, A20.; Tanyi & Roland, 2017Tanyi, P. N., & K. C. Roland. (2017). Market reaction to auditor ratification vote tally. Accounting Horizons, 31(1), 141-157.), resulting in higher audit quality. Moreover, SPGM serves as a monitoring device that influences auditors and their work (ISS, 2016; Krishnan & Ye, 2005; Tanyi & Roland, 2017) and may ensure that the choice of auditor meets the company’s specific needs (e.g., ACAP, 2008; DoT, 2008; Federal Trade Commission - FRC, 2003), resulting in higher audit quality.

The motivation for this focus is based on the following facts. First, audit quality plays an important role in reducing agency conflicts between shareholders and managers and has substantial effects on a significant portion of subsequent discussions, decisions, and shareholder interests (e.g., Dao, Raghunandan, & Rama, 2012Dao, M., Raghunandan, K., & Rama, D.V. (2012). Shareholder voting on auditor selection, audit fees, and audit quality. The Accounting Review, 87(1), 149-171. https://doi.org/10.2308/accr-10159
https://doi.org/10.2308/accr-10159...
; Defond & Zhang, 2014). Hence, the concept is fundamental in itself.

Second, regulators are considering issuing recommendations to require all public companies to have a shareholder vote on auditor selection (e.g., Cunningham, 2017Cunningham, L. M. (2017). Auditor ratification: Can’t get no (dis)satisfaction. Accounting Horizons, 31(1), 159-175. https://doi.org/10.2308/acch-51652
https://doi.org/10.2308/acch-51652...
; Institutional Shareholder Services, 2015). To clarify, some professional bodies such as the UK Financial Reporting Council and the US Advisory Committee on the Auditing Profession argue that to ensure the auditors are suitable for the companies and corporate reporting needs, shareholder engagement in the selection and ratification of auditors through the general meeting should be considered (e.g., DoT, 2008; FRC, 2007). In this regard, the need for related empirical evidence is highlighted by calls for further research (e.g., Mayhew, 2017Mayhew, B. W. (2017). Introduction and commentary on ratification research forum. Accounting Horizons, 31(1) 125-128. https://doi.org/10.2308/acch-10519
https://doi.org/10.2308/acch-10519...
).

Third, there are international debates on the beneficial effect of shareholder engagement in auditor appointments and re-appointments (e.g., Cunningham, 2017Cunningham, L. M. (2017). Auditor ratification: Can’t get no (dis)satisfaction. Accounting Horizons, 31(1), 159-175. https://doi.org/10.2308/acch-51652
https://doi.org/10.2308/acch-51652...
; Dao et al., 2012Dao, M., Raghunandan, K., & Rama, D.V. (2012). Shareholder voting on auditor selection, audit fees, and audit quality. The Accounting Review, 87(1), 149-171. https://doi.org/10.2308/accr-10159
https://doi.org/10.2308/accr-10159...
). To clarify, on the one hand, shareholder engagement may lead to a broader reflection of shareholders’ interests in audit quality and play an important role in reducing agency conflicts between investors and managers (e.g., Cohen, Krishnamoorthy, & Write, 2010Cohen, J., Krishnamoorthy, G., & Wright, A. (2010). Corporate governance in the post-Sarbanes-Oxley era: Auditors’ experiences. Contemporary Accounting Research, 27(3), 751-786. https://doi.org/10.1111/j.1911-3846.2010.01026.x
https://doi.org/10.1111/j.1911-3846.2010...
; Dao et al. 2012; Krishnan & Ye, 2005Krishnan, J., & Ye, Z. (2005). Why some companies seek shareholder ratification on auditor selection. Accounting Horizons, 19, 237-254.). This is because in many companies the boards of directors (and audit committees) are dominated by management (e.g., Mayhew & Pike, 2004Mayhew, B. W., & Pike, J. E. (2004). Does investor selection of auditors enhance auditor independence? The Accounting Review, 79(3), 797-822. https://doi.org/10.2308/accr.2004.79.3.797
https://doi.org/10.2308/accr.2004.79.3.7...
) and, therefore, auditors’ natural response is to be more likely to go along with managements’ preferred accounting choices (Cohen et al., 2010; KPMG, 2004). On the other hand, the majority of voters may not have sufficient knowledge about the quality of the auditors and therefore the majority of votes may be reflective of factors (such as stock returns achieved in the period leading up to the vote) that are outside the auditor’s scope (e.g., Cunningham, 2017; Liu, Raghunandan, & Rama, 2009Liu, L., Raghunandan, K., & Rama, D. (2009). Financial restatements and shareholder ratifications of the auditor. Auditing: A Journal of Practice and Theory, 28(1), 225-240.). This is particularly relevant when many audit characteristics are only partially observable (Fontaine, Leteifa, & Herda, 2013Fontaine, R., S. B. Letaifa, & D. Herda. (2013). An interview study to understand the reasons clients change audit firms and the client’s perceived value of the audit service. Current Issues in Auditing, 7(1), A1-A14. DOI: 10.2308/ciia-5047
https://doi.org/10.2308/ciia-5047...
).

Fourth, while there is theoretical and experimental evidence indicating that SPGM may influence audit quality (e.g., Dao et al. 2012Dao, M., Raghunandan, K., & Rama, D.V. (2012). Shareholder voting on auditor selection, audit fees, and audit quality. The Accounting Review, 87(1), 149-171. https://doi.org/10.2308/accr-10159
https://doi.org/10.2308/accr-10159...
; Lev, 2002Lev, B. (2002). Too gray for its own good. Wall Street Journal, 22, A20.; Stewart & Munro, 2007Stewart, J., & Munro, L. (2007). The Impact of Audit Committee Existence and Audit Committee Meeting Frequency on the External Audit: Perceptions of Australian Auditors. International Journal of Auditing, 11(1), 51-69.), empirical evidence on the association between SPGM and audit quality is rare, especially in emerging capital markets. For example, while prior experimental research indicates that SPGM may influence auditor selection and therefore SPGM may lead to higher audit quality, such research significantly simplifies the research setting (Mayhew & Pike, 2004Mayhew, B. W., & Pike, J. E. (2004). Does investor selection of auditors enhance auditor independence? The Accounting Review, 79(3), 797-822. https://doi.org/10.2308/accr.2004.79.3.797
https://doi.org/10.2308/accr.2004.79.3.7...
), and thus the experimental methodology may deviate from realism (e.g., Swieringa & Weick, 1982Swieringa, R. J., & Weick, K. E. (1982). An assessment of laboratory experiments in accounting. Journal of Accounting Research, 20, 56-101.). Moreover, the studies usually focus on developed capital markets, where, on the one hand, there are various information channels that may provide more extensive information besides audited reports (Su, Peng, Tan, & Cheung, 2014Su, W., Peng, M. W., Tan, W., & Cheung, Y. L. (2014). The signaling effect of corporate social responsibility in Emerging Economies. Journal of Business Ethics, 92(4), 1-25.), and therefore the importance of auditing is lower. On the other hand, there are various institutional settings that help shareholders to prevent manager influence in the auditing process and to monitor and control the audit quality. This is particularly relevant, as managerial discretion in emerging markets is relatively higher than in developed capital markets (e.g., Hesarzadeh, 2019Hesarzadeh, R., & Bazrafshan, A. (2019). CEO ability and regulatory review risk. Managerial Auditing Journal, 34(5), 571-601.; 2020). For these reasons, the related literature (e.g., Krishnan & Ye, 2005Krishnan, J., & Ye, Z. (2005). Why some companies seek shareholder ratification on auditor selection. Accounting Horizons, 19, 237-254.) mentions the need for research outside developed countries.

Our sample includes listed companies in Iran’s capital market. As we will discuss in the “Sample and data” section, this is an appropriate research setting, particularly because in Iran, consistently with the research question, all listed companies must conduct an annual selection of the external auditor through the annual meeting and proxy process (e.g., Sajadi, Farazmand, & Gorbani, 2012). To clarify, consistently with Iran’s Commercial Law and Regulations Governing the Trusted Auditing Firms of the Securities and Exchange Organization (Islamic Consultative Assembly, 1979; Securities and Exchange Organization, 2007a), in general meetings, shareholders elect and appoint the auditors through a voting process.

Our findings show that, in general, there is an insignificant association between SPGM and audit quality. However, we find that (a) there is a positive and significant association between the presence of institutional shareholders in general meetings and audit quality, and (b) for the companies with a high presence of institutional shareholders in their general meetings, there is a significant and positive relationship between the participation of other shareholders in the general meetings and audit quality. Thus, collectively, the findings propose that the impact of SPGM on audit quality is conditional to the presence of institutional shareholders in general meetings.

The findings contribute to the literature on both SPGM and audit quality in several ways. To clarify, first, this study reveals evidence on the beneficial effect of higher SPGM in an emerging capital market. Second, the study introduces SPGM as a positive determinant of audit quality, when the presence of institutional shareholders in general meetings is high. More broadly, the study adds to the international debate over whether SPGM enhances corporate governance (e.g., Cunningham, 2017Cunningham, L. M. (2017). Auditor ratification: Can’t get no (dis)satisfaction. Accounting Horizons, 31(1), 159-175. https://doi.org/10.2308/acch-51652
https://doi.org/10.2308/acch-51652...
; Sjostrom, 2006Sjostrom, W. K., (2006). The case against mandatory annual director elections and shareholders’ meetings. Tennessee Law Review, 74,199-239.; Strand, 2013Strand, T. (2013). The Owners and the Power: Insights from annual general meetings. PhD Series 25.2012. The PhD School of Economics and Management).

The next section presents the background and develops the research hypotheses. This is followed by the presentation of the research method, the empirical results, and, finally, the conclusions.

2 Background and hypotheses development

2.1 Shareholder participation in general meetings

Modern companies are characterized by the separation of ownership from management. This separation leads to a further need for the practical mechanisms of corporate governance to ensure that resources are efficiently and effectively used (Velury, Reisch, & O’Reilly, 2003Velury, U., Reisch, T. J., & O’Reilly, M. D. (2003). Institutional ownership and the selection of industry specialist auditors. Review of Quantitative Finance and Accounting, 21(1), 35- 48.). In this regard, SPGM is a basic and an essential part of corporate governance (Bebchuk, 2005Bebchuk, L. A., & Cohen, A. (2005). The costs of entrenched boards. Journal of Financial Economics, 78(2), 409-433. https://doi.org/10.1016/j.jfineco.2004.12.006
https://doi.org/10.1016/j.jfineco.2004.1...
; Proctor & Miles, 2003Proctor, G., Miles, L. (2003). Corporate governance. London: Cavendish Publishing Limited).

To clarify, annual general meetings are an appropriate platform that enables shareholders to hold managers accountable and, thus, annual general meetings constrain the possibility of shareholder expropriation by managers (Stratling, 2003Stratling, R. (2003). General Meetings: a dispensable tool for corporate governance of listed companies? Corporate Governance: An International Review, 11(1),74-82.). Apostolides and Boden (2005Apostolides, N., & Boden, R. (2005). Cedric the Pig: Annual general meetings and corporate governance in the UK. Social Responsibility Journal, 1(1), 53-62. https://doi.org/10.1108/eb045795
https://doi.org/10.1108/eb045795...
) stress the importance of general meetings as a corporate governance mechanism. This is because, first, general meetings are forums where shareholders are informed about substantial company matters and they consequently have an opportunity to exercise their control over managers and to participate in the diverse decision-making processes. Second, general meetings provide rare occasions in which diverse stakeholders in a company come together in one place to have their discussions about firm governance and other important matters (Apostolides, 2010). Third, the meetings also provide an instrument of checks and balances, where managers have to explain themselves to shareholders and where the latter may take corrective actions by exercising their ownership rights (Beuthel, 2006Beuthel, B. (2006). Electronic corporate governance: Online and virtual shareholder meetings and shareholder participation in Switzerland and Germany. University of St. Gallen, Zürich, Switzerland. Retrieved from https://www.e-helvetica.nb.admin.ch/api/download/urn%3Anbn%3Ach%3Abel-105265%3Adis3195.pdf/dis3195.pdf
https://www.e-helvetica.nb.admin.ch/api/...
; Daniel, 2010Daniel, A. (2010). Balance of power between shareholders and the board in corporate governance. Retrieved from https://ssrn.com/abstract=1612962
https://ssrn.com/abstract=1612962...
; Stratling, 2003).

Related empirical research, while relatively rare, generally reveals that general meetings provide effective means for shareholders to communicate with managers, and managers usually take corrective actions in response to shareholder votes (Yermack, 2010Yermack, D. (2010). Shareholder voting and corporate governance. Annual Review of Financial Economics, 2(1), 103-125.). For instance, Bebchuk and Cohen (2005Bebchuk, L. A., & Cohen, A. (2005). The costs of entrenched boards. Journal of Financial Economics, 78(2), 409-433. https://doi.org/10.1016/j.jfineco.2004.12.006
https://doi.org/10.1016/j.jfineco.2004.1...
), Faleye (2007Faleye, O. (2007). Classified boards, firm value, and managerial entrenchment. Journal of Financial Economics, 83(2), 501-529. https://doi.org/10.1016/j.jfineco.2006.01.005
https://doi.org/10.1016/j.jfineco.2006.0...
), and Gompers, Ishii, and Metrick (2009Gompers, P. A., Ishii, J., & Metrick, A. (2009). Extreme governance: An analysis of dual-class firms in the United States. Review of Financial Studies, 23(3), 1051-1088. https://doi.org/10.1093/rfs/hhp024
https://doi.org/10.1093/rfs/hhp024...
) highlight the effects of voting restrictions on firm performance and firm value, and suggest that firms perform worse when the shareholder franchise is curtailed due to structures such as a classified board. Cai, Garner, and Waking (2009Cai, J., Garbner, J. L., & Walking, R. A. (2009). Electing directors. The Journal of Finance, 64(5), 2389-2421. Retrieved from https://onlinelibrary.wiley.com/doi/pdf/10.1111/j.1540-6261.2009.01504.x
https://onlinelibrary.wiley.com/doi/pdf/...
) and Fischer, Gramlic, Mille, and White (2009Fischer, P. E., Gramlich, J. D., Miller, B. P., & White, H. D. (2009). Investor perceptions of board performance: Evidence from uncontested director elections. doi:10.2139/ssrn.928843
https://doi.org/10.2139/ssrn.928843...
) document that meaningful votes against the election of certain directors are followed by changes in the management or corporate actions within the next year. Particularly, Cai et al. (2009) find that votes against the reelection of independent directors increase the probability of CEO turnover in the next year, holding constant the effects of corporate performance and other variables.

General meetings are probably more important in emerging capital markets. This is because, on the one hand, there is considerable information asymmetry between shareholders and managers (Bhattacharya, Desai, & Venkataraman, 2013Bhattacharya, N., Desai, H., & Venkataraman, K. (2013). Does earnings quality affect information asymmetry? Evidence from trading costs. Contemporary Accounting Research, 30(2), 482-516. https://doi.org/10.1111/j.1911-3846.2012.01161.x
https://doi.org/10.1111/j.1911-3846.2012...
; Hesarzadeh, 2019Hesarzadeh, R., & Bazrafshan, A. (2019). CEO ability and regulatory review risk. Managerial Auditing Journal, 34(5), 571-601.). On the other hand, the diversity of information channels/resources are not comparable to developed capital markets (Su et al., 2014Su, W., Peng, M. W., Tan, W., & Cheung, Y. L. (2014). The signaling effect of corporate social responsibility in Emerging Economies. Journal of Business Ethics, 92(4), 1-25.); and as a result of relatively weak supervisory mechanisms, the managerial discretion in emerging markets is relatively higher than in developed capital markets (Hesarzadeh, 2019). In this regard, Sjostrom (2006Sjostrom, W. K., (2006). The case against mandatory annual director elections and shareholders’ meetings. Tennessee Law Review, 74,199-239.) states that executive managers may be less inclined to engage in opportunistic behavior or shirk responsibilities if they know that they have to explain themselves to shareholders face-to-face and suffer the resulting embarrassment.

Theoretically, higher SPGM is desirable for stakeholders, especially shareholders (e.g., Krishnan & Ye, 2005Krishnan, J., & Ye, Z. (2005). Why some companies seek shareholder ratification on auditor selection. Accounting Horizons, 19, 237-254.). This is because higher SPGM leads to a broader reflection of shareholders’ interests in the corporate governance processes. To clarify, higher SPGM is equivalent to the situation in political democracies, as a higher rate of voter participation leads to a better reflection of citizens’ views in the governance of the country (Seeger, 2002Seeger, A. M. (2002) Die Online Hauptversammlung, Wiesbaden, Germany, Deutscher Universitätsverlag.). Furthermore, a higher rate prevents a specific interest group - that only constitutes a small portion of the population - from hijacking the democratic process to its advantage (Latham, 2003Latham, M. (2003). Democracy and infomediaries. Corporate Governance: An International Review, 11(2), p. 91-101.). Similar reasoning may be applied to the process of decision-making at general meetings (Beuthel, 2006Beuthel, B. (2006). Electronic corporate governance: Online and virtual shareholder meetings and shareholder participation in Switzerland and Germany. University of St. Gallen, Zürich, Switzerland. Retrieved from https://www.e-helvetica.nb.admin.ch/api/download/urn%3Anbn%3Ach%3Abel-105265%3Adis3195.pdf/dis3195.pdf
https://www.e-helvetica.nb.admin.ch/api/...
). If only a small portion of shareholders participates in a general meeting, then a group that only holds a small portion of ownerships will have significant influence in the governance of the company, resulting in the possibility of expropriation of the company and major shareholders by a small group of shareholders.

For the reasons mentioned above, regulators and securities commissions are now looking for ways to encourage more shareholders to participate in their general meetings (Institutional Shareholder Services, 2012; Krishnan & Ye, 2005Krishnan, J., & Ye, Z. (2005). Why some companies seek shareholder ratification on auditor selection. Accounting Horizons, 19, 237-254.; U.S. Department of the Treasury, 2008).

In contrast with the discussions above, several studies question the importance and value of general meetings (e.g., Jong et al., 2006Jong, A., Mertens, G., & Roosenboom, P. (2006). Shareholders’ voting at general meetings: Evidence from the Netherlands. Journal of Management and Governance, 10, 353-380.; Sjostrom, 2006Sjostrom, W. K., (2006). The case against mandatory annual director elections and shareholders’ meetings. Tennessee Law Review, 74,199-239.; Stratling, 2003Stratling, R. (2003). General Meetings: a dispensable tool for corporate governance of listed companies? Corporate Governance: An International Review, 11(1),74-82.). Moreover, they call for the requirements for general meetings to be phased out (Stratling, 2003; Sjostrom, 2006). For example, based on a study of annual general meetings in the Netherlands, Jong et al. (2006) conclude that general meetings do not provide shareholders with a significant beneficial effect. Furthermore, Sjostrom (2006) suggests that general meetings are both worthless and costly and should therefore not be mandated annually. In this regard, the literature (e.g., Jong et al., 2006; Sjostrom, 2006; Strand, 2013Strand, T. (2013). The Owners and the Power: Insights from annual general meetings. PhD Series 25.2012. The PhD School of Economics and Management; Stratling, 2003) argues that annual general meetings are an outdated practice, which made more sense when ownership was less dispersed, shareholders were more concentrated in a local geographic area, the practice of proxy voting had not yet been developed, and communication technology was primitive. Under those circumstances, attendance was likely to be higher, providing shareholders with the opportunity to nominate competing proposals - an opportunity that is non-existent today as no shareholder body exists due to low attendance rates (Stratling, 2003). Sjostrom (2006) also criticizes general meetings for being overly controlled by executive managers. Furthermore, Strand (2013) argues that general meetings are altogether redundant in the effective exercise of agency relationships, and that the meetings often fail to achieve their legitimate purposes due to minority shareholders turning the meetings into a chaotic shambles (Saxon, 1966Saxon, G. O. (1966). Annual Headache: The Stockholders Meeting. Harvard Business Review, 44, 132-137.). In addition, the existence of issues such as staggered boards, or plurality voting/the difficulty of proxy fights, not paying attention to the concerns of small shareholders, the absence of directors, and also low shareholder participation in general meetings, may serve to decrease the importance and value of such meetings (e.g., Banko, Frye, Wang & Whyte, 2013Banko, J., Frye, M., Wang, W., & Whyte, A. M. (2013). Earnings management and annual general meetings: The role of managerial entrenchment. The Financial Review, 48, 259-282. https://doi.org/10.1111/fire.12003
https://doi.org/10.1111/fire.12003...
; González, Guzmán, Prada, & Trujillo, 2013González, G. P., Guzman, A., Prada, F. J., & Trujillo, M.-A. (2013). A waste of time or effective corporate governance bodies? doi:10.2139/ssrn.2395053
https://doi.org/10.2139/ssrn.2395053...
; Strand, 2013). Particularly, votes cast by uninformed shareholders probably constrain the ability of proxy voting to work as an effective governance tool. In this regard, Lund (2019Lund, D. S. (2019). Nonvoting shares and efficient corporate governance. Stanford Law Review, 71 (Forthcoming).) advocates for the issuance of non-voting shares as a mechanism to encourage voters who do not wish to incur the costs of becoming informed to opt out of the voting process.

The competing perspectives indicated above highlight the need to provide further empirical evidence on the beneficial effect of higher SPGM.

2.2 Audit quality

Auditing provides independent assurance of the reliability of corporate information, which enhances both the allocation of corporate resources and the efficiency of corporate contracts (Chen, He, Ma, & Stice, 2012Chen, P. F., He, S., Ma, Z., & Stice, D. E. (2012). Qualified audit opinions and debt contracting. Working Paper, HKUST. Retrieved from http://www.kaa-edu.or.kr/online3/2013_1/1.%20Derrald%20Stice.pdf
http://www.kaa-edu.or.kr/online3/2013_1/...
). The increasing complexity of business and reporting standards extends the potential of auditing to add value. That is why audit quality is crucial in the business context (Defond & Zhang, 2014).

While some studies define audit quality as some variation of “the market-assessed joint probability that a given auditor will both detect a breach in the client’s accounting system, and report the breach” (DeAngelo, 1981DeAngelo, L. (1981). Auditor independence, “low-balling” and disclosure regulation. Journal of Accounting and Economics, 3, 113-127. https://doi.org/10.1016/0165-4101(81)90009-4
https://doi.org/10.1016/0165-4101(81)900...
, p. 115), Defond and Zhang (2014) argue that this definition understates the benefits of high audit quality, which extend well beyond the simple detection and reporting of GAAP violations. Thus, they define audit quality as the higher assurance that the corporate reports reliably reflect the company’s underlying economics (Defond & Zhang, 2014). The notion that the auditor’s responsibility extends to assuring financial reporting quality is consistent with generally accepted auditing standards, which require auditors to evaluate financial reporting quality (PCAOB, 2010). Furthermore, the aforementioned assurance reduces information risk, which ultimately improves resource allocation and contracting efficiency (e.g., Liu, Cullinan, & Zhang, 2018Liu, H., Cullinan, C. P., & Zhang, J. (2018). Modified audit opinions and debt contracting: Evidence from China. Asia-Pacific Journal of Accounting & Economics, 27(2), 218-241.).

Nevertheless, regarding auditors’ responsibilities and audit quality, prior literature (e.g., European Commission, 2010; Porter, Ó hÓgartaigh, & Baskerville, 2012Porter, B., O ´ hO´ gartaigh, C., & Baskerville, R. (2012). Audit expectation-performance gap revisited: evidence from New Zealand and the United Kingdom part 1: the gap in New Zealand and the United Kingdom in 2008. International Journal of Auditing, 16 (2), 101-129.; Ruhnke & Schmidt, 2014Ruhnke, K., & Schmidt, M. (2014). The audit expectation gap: existence, causes, and the impact of changes. Accounting and Business Research, 44(5), 572-601. doi:10.1080/00014788.2014.929519
https://doi.org/10.1080/00014788.2014.92...
; Vanstraelen, Schelleman, Meuwissen, & Hofmann, 2012Vanstraelen, A., Schelleman, C., Meuwissen, R., & Hofmann, I. (2012). The audit reporting debate: seemingly intractable problems and feasible solutions. European Accounting Review, 21(2), 193-215.) argues that there is a big expectation gap among different stakeholders, especially between shareholders and management. For example, Ruhnke and Schmidt (2014) suggest that, in contrast to shareholders, supervisory board members and executive managers disagree that evaluating the propriety of the management’s adoption of the going concern assumption is auditors’ current responsibility. More importantly, they state that, in contrast to shareholders, supervisory board members and executive managers disagree that audit reports should have stronger information content. Relatedly, Vanstraelen et al. (2012) find that shareholders are interested in providing more information about audit findings, including those relating to critical accounting estimates and management judgments.

In addition to these expectation gaps between shareholders and management, managers may have strong incentives to influence the audit process (e.g., O’Connor, 2002O’Connor, Sean M. (2002). The Inevitability of Enron and the impossibility of ‘auditor independence’ under the current audit system. Retrieved from https://ssrn.com/abstract=303181 or http://dx.doi.org/10.2139/ssrn.303181
https://ssrn.com/abstract=303181...
; Stewart & Munro, 2007Stewart, J., & Munro, L. (2007). The Impact of Audit Committee Existence and Audit Committee Meeting Frequency on the External Audit: Perceptions of Australian Auditors. International Journal of Auditing, 11(1), 51-69.), especially if they seek personal benefits (Beck & Mauldin, 2014Beck, M. J. & Mauldin, E. G. (2014). Who’s really in charge? Audit committee versus CFO power and audit fees. The Accounting Review, 89(6), 2057-2085. DOI: 10.2308/accr-50834
https://doi.org/10.2308/accr-50834...
).

For these reasons, in recent decades, regulators have made audit committees formally responsible for the selection and compensation of external auditors (e.g., Mayhew & Pike, 2004Mayhew, B. W., & Pike, J. E. (2004). Does investor selection of auditors enhance auditor independence? The Accounting Review, 79(3), 797-822. https://doi.org/10.2308/accr.2004.79.3.797
https://doi.org/10.2308/accr.2004.79.3.7...
; Turley & Zaman, 2004Turley, S. & Zaman, M. (2004). The corporate governance effects of audit committees. Journal of Management & Governance, 8(3), 305-32.). However, evidence (e.g., Mayhew & Pike, 2004; Stewart & Munro, 2007Stewart, J., & Munro, L. (2007). The Impact of Audit Committee Existence and Audit Committee Meeting Frequency on the External Audit: Perceptions of Australian Auditors. International Journal of Auditing, 11(1), 51-69.) indicates that even in the presence of audit committees, managers continue to exert significant control over the hiring and firing of auditors. Particularly, prior studies using surveys and interviews (e.g., Beattie, Fearnley, & Brandt, 2000Beattie, V., Fearnley, S., & Brandt, R. (2000). Behind the audit report: A descriptive study of discussions and negotiations between auditors and directors. International Journal of Auditing, 4(2), 177-202. https://doi.org/10.1111/1099-1123.00312
https://doi.org/10.1111/1099-1123.00312...
; Cohen, Krishnamoorthy, & Wright, 2002Cohen, J., Krishnamoorthy, G., & Wright, A.M. (2002). Corporate governance and the audit process. Contemporary Accounting Research, 19(4), 573-594. https://doi.org/10.1506/983M-EPXG-4Y0R-J9YK
https://doi.org/10.1506/983M-EPXG-4Y0R-J...
; Gibbins, McCracken, & Salterio, 2005Gibbins, M., McCracken, S. A. & Salterio, S. E. (2005). Negotiations over accounting issues: The congruency of audit partner and chief financial officer recalls. Auditing: A Journal of Practice & Theory, 24(s-1), 171-93. DOI: 10.2308/aud.2005.24.s-1.171
https://doi.org/10.2308/aud.2005.24.s-1....
) all suggest that the audit committee is not being used to its full potential in auditor-management negotiations and, hence, there is a need for a new system where shareholders have further power over the hiring and firing of auditors.

2.3 SPGM and audit quality

Professional bodies such as the UK Financial Reporting Council and the US Advisory Committee on the Auditing Profession strongly suggest that SPGM enhances audit quality (e.g., DoT, 2008; FRC, 2007). This is because, generally, the traditional view of professional bodies is that SPGM reduces the influence of managers in the auditor selection and auditing processes, and therefore SPGM leads to higher audit quality (Advisory Committee on the Auditing Profession, 2008; European Union, 2006; Federal Trade Commission, 2003; ISS 2016). For example, the Advisory Committee on the Auditing Profession states that if executive managers have major influences on auditors, the auditors will more probably follow the preferences of the executive managers (DoT, 2008). Moreover, the Reputation Institute (2015) reports that higher SPGM indicates that the active eyes of public monitors evaluate audit performance to a greater extent. In fact, higher SPGM leads to a broader reflection of shareholders’ interests in the auditor selection processes (Krishnan & Ye, 2005Krishnan, J., & Ye, Z. (2005). Why some companies seek shareholder ratification on auditor selection. Accounting Horizons, 19, 237-254.). This is probably because, by exerting voting rights, on the one hand shareholders have the power to influence the characteristics of the audit, and on the other hand auditors receive significant feedback concerning the shareholders’ views on the auditor and the service provided (Tanyi & Roland, 2017Tanyi, P. N., & K. C. Roland. (2017). Market reaction to auditor ratification vote tally. Accounting Horizons, 31(1), 141-157.). In this respect, Hermanson, Krishnan, and Ye (2009Hermanson, D. R., Krishnan, J., & Ye, Z. (2009). Adverse Section 404 opinions and shareholder dissatisfaction toward auditors. Accounting Horizons, 23(4), 391-409. https://doi.org/10.2308/acch.2009.23.4.391
https://doi.org/10.2308/acch.2009.23.4.3...
) argue that votes are an appropriate way for shareholders to signal their views on the audit quality provided by the incumbent auditors.

In the academic literature, there is little archival empirical evidence on the association between SPGM and audit quality. However, theoretical, survey, and experimental research provides some insights into this issue. For example, Kahneman and Tversky (1979Kahneman, D., & Tversky, A. (1979). Prospect theory: An analysis of decision under risk. Econometrica, 47(2), 263-292.) theoretically discuss the idea that SPGM changes the focus of auditors from the managers’ reporting preferences to the investors’ reporting preferences. To clarify, in the client (firm)-supplier (auditors) relationship, on the one hand, auditors are obligated to serve their clients’ needs - possibly allowing aggressive reporting practices. In this regard, Cohen et al. (2010Cohen, J., Krishnamoorthy, G., & Wright, A. (2010). Corporate governance in the post-Sarbanes-Oxley era: Auditors’ experiences. Contemporary Accounting Research, 27(3), 751-786. https://doi.org/10.1111/j.1911-3846.2010.01026.x
https://doi.org/10.1111/j.1911-3846.2010...
) find that auditors perceive executive managers as the “key driver” of auditor selection. Furthermore, recent archival empirical literature (e.g., Dhaliwal, Lamoreaux, Lennox, & Mauler, 2015; Park, 2018Park, B. (2018). Audit committees and managerial influence on audit quality: “Voluntary” versus “Mandatory” approach to corporate governance. Australian Accounting Review, 29(1), 266-280. https://doi.org/10.1111/auar.12263
https://doi.org/10.1111/auar.12263...
; Tanyi & Cathey, 2020Tanyi, P., & Cathey, J. (2020). Why do firms seek shareholders ratification of the independent audit function? The case of foreign cross‐listed companies in the United States. International Journal of Auditing, 24(1), 24-36.) concludes that management has continued to have a significant impact on auditor selection during the post-SOX period. For example, Dhaliwal et al. (2015) suggest that management affiliation (defined as a prior working relationship between a management member and a Big4 auditing firm) significantly affects auditor selection. For example, they show that Ernst & Young (EY) is appointed 29 percent of the time when there is no affiliation between the company’s management and EY. In contrast, EY is appointed 61 percent of the time when there is a management affiliation with EY. Furthermore, Tanyi and Cathey (2020) highlight that the CEO’s myriad of personal connections and influence with members of the audit committee circumvent the independence of auditors. In a pessimistic view, auditors “tend to kowtow instead to the managers who choose them and dole out their pay” (Hilzenrath, 2001Hilzenrath, D. S. (2001). After Enron, new doubts about auditors. The Washington Post. December 5. A01., p. 2). On the other hand, audit committees, who have responsibilities for the selection and oversight of external auditors, have incentives to support management’s preferences that outweigh liability-related incentives (Abbott & Parker, 2000Abbott, L.J., & Parker, S., (2000). Auditor selection and audit committee characteristics. Auditing: A Journal of Practice and Theory 19 (2), 47-66. https://doi.org/10.2308/aud.2000.19.2.47
https://doi.org/10.2308/aud.2000.19.2.47...
). The popular press can provide examples of auditors being fired for disagreeing with clients or issuing modified opinions (Mayhew & Pike, 2004Mayhew, B. W., & Pike, J. E. (2004). Does investor selection of auditors enhance auditor independence? The Accounting Review, 79(3), 797-822. https://doi.org/10.2308/accr.2004.79.3.797
https://doi.org/10.2308/accr.2004.79.3.7...
). That is why nearly every independence debate has centered on the concern that auditors may evolve into client advocates (Mayhew & Pike, 2004). Others have cited the relationship between auditors and their clients as a core independence problem, calling for a change from client management choosing auditors to a system where investors make the decision (e.g., Lev, 2002Lev, B. (2002). Too gray for its own good. Wall Street Journal, 22, A20.).

Relatedly, survey literature (e.g., Cohen et al., 2002Cohen, J., Krishnamoorthy, G., & Wright, A.M. (2002). Corporate governance and the audit process. Contemporary Accounting Research, 19(4), 573-594. https://doi.org/10.1506/983M-EPXG-4Y0R-J9YK
https://doi.org/10.1506/983M-EPXG-4Y0R-J...
; Gibbins, Salterio, & Webb, 2001Gibbins, M., Salterio, S., & Webb, A. (2001). Evidence about auditor-client management negotiation concerning client’s financial reporting. Journal of Accounting Research, 39(3), 535-63. https://doi.org/10.1111/1475-679X.00027
https://doi.org/10.1111/1475-679X.00027...
; Stewart & Munro, 2007Stewart, J., & Munro, L. (2007). The Impact of Audit Committee Existence and Audit Committee Meeting Frequency on the External Audit: Perceptions of Australian Auditors. International Journal of Auditing, 11(1), 51-69.) argues that audit committees play a less important role in the audit process than senior management. Particularly, the literature suggests that audit committees are largely ceremonial (Beasley, Carcello, Hermanson, & Neal, 2009Hermanson, D. R., Krishnan, J., & Ye, Z. (2009). Adverse Section 404 opinions and shareholder dissatisfaction toward auditors. Accounting Horizons, 23(4), 391-409. https://doi.org/10.2308/acch.2009.23.4.391
https://doi.org/10.2308/acch.2009.23.4.3...
; Cohen et al., 2002; Cohen et al., 2010). For example, based on structured interviews with auditors, Cohen et al. (2002) find that audit committees have no significant role in the audit process. Particularly, audit committees are ineffective and lack sufficient power to withstand pressure from management. Similarly, both Gibbins et al. (2001) and Gibbins et al. (2005) find that audit committees only occasionally play an important role in the auditor-client negotiation process; while, after conducting in-depth interviews with auditors, Beattie et al. (2000Beattie, V., Fearnley, S., & Brandt, R. (2000). Behind the audit report: A descriptive study of discussions and negotiations between auditors and directors. International Journal of Auditing, 4(2), 177-202. https://doi.org/10.1111/1099-1123.00312
https://doi.org/10.1111/1099-1123.00312...
) report that auditors do not experience significant support from audit committees.

In line with the concerns above, Mayhew and Pike (2004Mayhew, B. W., & Pike, J. E. (2004). Does investor selection of auditors enhance auditor independence? The Accounting Review, 79(3), 797-822. https://doi.org/10.2308/accr.2004.79.3.797
https://doi.org/10.2308/accr.2004.79.3.7...
) state that higher shareholder involvement in auditor selection strengthens the power of the auditor in any negotiations with management and increases the “pressure to perform” on the auditor. Furthermore, if auditors are likely to be more careful to avoid the possibility of any criticism by shareholders who are involved in the auditor selection and ratification process, then it is likely that auditors would make extra effort and be more cautious in negotiations with the client, both of which would likely lead to higher audit quality (Dao et al., 2012Dao, M., Raghunandan, K., & Rama, D.V. (2012). Shareholder voting on auditor selection, audit fees, and audit quality. The Accounting Review, 87(1), 149-171. https://doi.org/10.2308/accr-10159
https://doi.org/10.2308/accr-10159...
).

The positive effects of shareholder involvement in auditor selection are also supported by some experimental studies. For example, Barua, Raghunandan, and Rama (2017Barua, A., Raghunandan, K., & Rama, D. V. (2017). Shareholder votes on auditor ratification and subsequent auditor dismissals. Accounting Horizons, 31(1), 129-139. https://doi.org/10.2308/acch-51512
https://doi.org/10.2308/acch-51512...
) show that more votes on the auditor reduce the probability of subsequent auditor dismissals. Furthermore, in an experimental setting, Mayhew and Pike (2004Mayhew, B. W., & Pike, J. E. (2004). Does investor selection of auditors enhance auditor independence? The Accounting Review, 79(3), 797-822. https://doi.org/10.2308/accr.2004.79.3.797
https://doi.org/10.2308/accr.2004.79.3.7...
) show that investor involvement in auditor selection may lead to higher audit fees and audit quality. Relatedly, Dao et al. (2012Dao, M., Raghunandan, K., & Rama, D.V. (2012). Shareholder voting on auditor selection, audit fees, and audit quality. The Accounting Review, 87(1), 149-171. https://doi.org/10.2308/accr-10159
https://doi.org/10.2308/accr-10159...
) highlight that higher shareholder involvement in the selection of auditors may improve the accountability and governance dynamics between shareholders, auditors, and mangers, and thus the higher involvement may lead to higher audit quality. Furthermore, Liu et al. (2009Liu, L., Raghunandan, K., & Rama, D. (2009). Financial restatements and shareholder ratifications of the auditor. Auditing: A Journal of Practice and Theory, 28(1), 225-240.) reveal that higher SPGM is more probably associated with auditor dismissal following poor corporate reporting.

Thus, based on the discussions above, our first research hypothesis is as follows:

H1a: There is a positive relationship between SPGM and audit quality.

In contrast to our discussions above, if shareholders cannot understand audit quality, then we expect to observe an insignificant (or even negative) association between SPGM and audit quality. Specifically, the majority of voters may not have sufficient knowledge about the quality of the auditors (e.g., Kaniel, Saar, & Titman, 2008Kaniel, R., Saar, G., & Titman, S. (2008). Individual investor trading and stock returns. The Journal of Finance, 63(1), 273-310.), and therefore the majority of votes may be reflective of factors (such as stock returns achieved in the period leading up to the vote) that are outside the auditor’s scope (e.g., Cunningham, 2017Cunningham, L. M. (2017). Auditor ratification: Can’t get no (dis)satisfaction. Accounting Horizons, 31(1), 159-175. https://doi.org/10.2308/acch-51652
https://doi.org/10.2308/acch-51652...
; Liu, Raghunandan, & Rama, 2009Liu, L., Raghunandan, K., & Rama, D. (2009). Financial restatements and shareholder ratifications of the auditor. Auditing: A Journal of Practice and Theory, 28(1), 225-240.). Several past studies (Brown & Cliff, 2004Brown, G. W., & Cliff, M. T. (2004). Investor sentiment and the near-term stock market. Journal of Empirical Finance 11 (1), 1-27. https://doi.org/10.1016/j.jempfin.2002.12.001
https://doi.org/10.1016/j.jempfin.2002.1...
; Cunningham, 2017; Kaniel et al. 2008) provide support for investors having such a myopic focus. Hence, in contrast to H1a, our research hypothesis H1b is as follows:

H1b: There is no relationship between SPGM and audit quality.

Consistent with the concern above, past literature (e.g., Aggarwal, Saffi, & Sturgess, 2015Aggarwal, R., Saffi, P. A. C., & Sturgess, J. (2015). The role of institutional investors in voting: Evidence from the securities lending market. The Journal of Finance 70 (5), 2309-2346. https://doi.org/10.1111/jofi.12284
https://doi.org/10.1111/jofi.12284...
; Cassell et al., 2019Cassell, C. A., Kleppe, T., & Shipman, J. E. (2019). Should uninformed shareholders vote? Evidence from auditor ratification. doi:10.2139/ssrn.3113807
https://doi.org/10.2139/ssrn.3113807...
) indicates that institutional shareholders strongly consider, understand, and therefore demand higher audit quality. This is because institutional shareholders tend to facilitate their monitoring activities (Velury et al., 2003Velury, U., Reisch, T. J., & O’Reilly, M. D. (2003). Institutional ownership and the selection of industry specialist auditors. Review of Quantitative Finance and Accounting, 21(1), 35- 48.). Particularly, auditing literature suggests that audit quality is different across audit firms (e.g., Schauer, 2001Schauer, P. C. (2001). The effects of industry specialization on audit Quality: An examination using bid-ask spreads. Working Paper, Bowling Green State University.), and the demand for a high quality audit is a function of the company’s ownership base, in the sense that firms with sophisticated investors will probably hire audit firms that are providers of higher audit quality. Particularly, Velury et al. (2003) suggest that companies with higher active institutional ownership more probably employ industry specialist audit firms. Therefore, in companies with a higher presence of institutional shareholders in general meetings (PISGM), the quality of the auditor selection process in general meetings is higher.

Nonetheless, the increasing role of institutional shareholders has raised concerns about their investment strategies. This is because institutional shareholders have strategic alliances and strategic connections with management, meaning high-quality audits are not considered a priority. In this regard, Adeyemi and Fagbemi (2010Adeyemi, S., & Fagbemi, T. (2010). Audit quality, corporate governance and firm characteristics in Nigeria. International Journal of Business and Management, 5 (5), 169-179. Retrieved from http://ir.unilag.edu.ng:8080/xmlui/handle/123456789/2311
http://ir.unilag.edu.ng:8080/xmlui/handl...
) find that there may be a negative relationship between institutional ownership and audit quality.

Considering the discussion above, we state our second hypothesis as follows:

H2: There is a significant relationship between PISGM and audit quality.

Based on prior literature (e.g., Attig, Ghoul, & Guedhami, 2009Attig, N., El Ghoul, S., & Guedhami, O. (2009). Do multiple large shareholders play a corporate governance role? Evidence from East Asia. Journal of Financial Research, 32(4), 395-422. Retrieved from http://ssrn.com/abstract=2352677
http://ssrn.com/abstract=2352677...
; Attig, Ghoul, Guedhami, & Rizeanu, 2013; Attig, Guedhami, & Mishra, 2008; Bennedsen & Wolfenzon, 2000Bennedsen, M., & Wolfenzon, D. (2000). The balance of power in closely held corporations. Journal of Financial Economics, 58(1-2), 113-139. https://doi.org/10.1016/S0304-405X(00)00068-4
https://doi.org/10.1016/S0304-405X(00)00...
; Boubaker, Nguyen, & Rouatbi, 2016Boubaker, S., Nguyen, P., & Rouatbi, W. (2016). Multiple large shareholders and corporate risk-taking: Evidence from French family firms. European Financial Management, 22(4), 697-745. https://doi.org/10.1111/eufm.12086
https://doi.org/10.1111/eufm.12086...
), large management shareholders could influence general meetings to extract private benefits of control at the expense of other shareholders. This is particularly relevant for emerging markets in which there is a large ownership concentration (e.g., Barontini & Caprio, 2006Barontini, R., & Caprio, L. (2006). The effect of family control on firm value and performance: Evidence from Continental Europe. European Financial Management, 12(5), 689-723. https://doi.org/10.1111/j.1468-036X.2006.00273.x
https://doi.org/10.1111/j.1468-036X.2006...
; Hu & Izumida, 2008Hu, Y., & Izumida, S. (2008). Ownership concentration and corporate performance: A Causal Analysis with Japanese Panel Data. Corporate Governance: An International Review, 16(4), 342-358.; Villalonga, Amit, Trujillo, & Guzmán, 2015Villalonga, B., Amit, R., Trujillo, M.-A., & Guzmán, A. (2015). Governance of family firms. Annual Review of Financial Economics, 7(1), 635-654.) and agency conflicts between the largest shareholders and others are high (e.g., Chrisman, Chua, & Liz, 2004). For example, the controlling shareholder and management in such an environment are likely to expropriate the minority shareholders and inflate earnings to gain private benefits (Bae et al. 2002Bae, K-H., Kang, J-K. & Kim, J-M. (2002). Tunneling or value added? Evidence from Merger by Korean Business Group. Journal of Finance, 57(6), 2695-740. https://doi.org/10.1111/1540-6261.00510
https://doi.org/10.1111/1540-6261.00510...
).

In this regard, corporate governance literature (e.g., Rossi, Barth, & Cebula, 2018Rossi, F., J. R. Barth, & R. J. Cebula. (2018). Do shareholder coalitions affect agency costs? Evidence from Italian-listed companies, Research in International Business and Finance, 46, 181-200.; Cassell et al., 2019Cassell, C. A., Kleppe, T., & Shipman, J. E. (2019). Should uninformed shareholders vote? Evidence from auditor ratification. doi:10.2139/ssrn.3113807
https://doi.org/10.2139/ssrn.3113807...
) reveals that PISGM may heavily reduce agency costs. This is because PISGM causes shareholder activism when non-controlling shareholders are not very satisfied with some features of governance (Shleifer & Vishny, 1986Shleifer, A. & R.W. Vishny. (1986). Large shareholders and corporate control. Journal of Political Economy, 94(31), 461-488.). To clarify, institutional shareholders may reduce the dispersion of control from minority shareholders by forming coalitions among non-controlling shareholders (e.g., Basu, Paeglis, & Rahnamaei, 2016Basu, N., Paeglis, I., & Rahnamaei, M. (2016). Multiple blockholders, power, and firm value. Journal of Banking & Finance, 66, 66-78. doi:10.1016/j.jbankfin.2016.01.001
https://doi.org/10.1016/j.jbankfin.2016....
). Bloch and Hege (2003Bloch, F., & Hege, U. (2003). Multiple shareholders and control contests. Retrieved from http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2273211
http://papers.ssrn.com/sol3/papers.cfm?a...
) formulate a theoretical model to argue that the coalitions decrease agency costs. Furthermore, Rossi et al. (2018) empirically show that coalitions among shareholders significantly contribute to a reduction of agency costs as the coalitions probably give shareholders a stronger voice regarding important governance issues and could lead to a broader reflection of their interests in corporate governance processes. In these conditions, the influence of managers in auditor selection is reduced and therefore audit quality is improved (Gotti, Han, Higgs, & Kang, 2012Gotti, G., Han, S., Higgs, J.L. & Kang, T. (2012). Managerial stock ownership, analyst coverage, and audit fee. Journal of Accounting, Auditing & Finance, 27(3), 412-37. https://doi.org/10.1177/0148558X11409158
https://doi.org/10.1177/0148558X11409158...
). For this reason, we expect PISGM to strengthen the impact of the participation of other shareholders in general meetings (hereafter, POSGM) on audit quality.

Based on the discussion above, we state our third hypothesis as follows:

H3: PISGM moderates the relationship between POSGM and audit quality.

3 Method

3.1 Empirical models

Consistently with the first hypotheses, our main independent variable is SPGM. This study measures SPGM as the percentage of shareholder attendance at annual general meetings. Specifically, SPGM is the percentage of the ownership represented by the shareholders who attend the general meeting. Furthermore, consistently with the second and third hypotheses, our main independent variables are PISGM and POSGM. Similarly to SPGM, we measure PISGM as the percentage of the ownership represented by the institutional shareholders who attend the general meeting. We define POSGM as SPGM minus PISGM.

Moreover, in all hypotheses, our dependent variable is audit quality. The most common approach to measuring audit quality is to focus on the inputs of the audit processes, including auditor industry specialization, size, and fees (e.g., Defond & Zhang, 2014). These inputs are very appealing, especially in our research. This is because shareholders usually choose audit quality according to the observable inputs. Furthermore, in the financial literature, the research studying the effects of demand-side variables usually employs input-based measures of audit quality (e.g., Defond & Zhang, 2014). Thus, we measure audit quality by auditor industry specialization, audit firm size, and audit fees.

To test the first hypothesis (including H1a and H1b), we follow past research (i.e., Bebchuk, 2005Bebchuk, L. A., & Cohen, A. (2005). The costs of entrenched boards. Journal of Financial Economics, 78(2), 409-433. https://doi.org/10.1016/j.jfineco.2004.12.006
https://doi.org/10.1016/j.jfineco.2004.1...
; Chen et al., 2012Chen, P. F., He, S., Ma, Z., & Stice, D. E. (2012). Qualified audit opinions and debt contracting. Working Paper, HKUST. Retrieved from http://www.kaa-edu.or.kr/online3/2013_1/1.%20Derrald%20Stice.pdf
http://www.kaa-edu.or.kr/online3/2013_1/...
; Defond & Zhang, 2014) and use multivariate regression analyses. Specifically, to test the first research hypothesis, i.e., the relationship between SPGM (SPGM) and audit quality, we rely on the multivariate estimations of equations (1) to (3), where we use as a proxy for audit quality auditor industry specialization (AudIndSpc), audit firm size (AFSize), and audit fees (AFees).

A u d I n d S p c = β 0 + β 1 P S G M + β 2 A c h + β 3 S i z e + β 4 L e v + β 5 L o s s + β 6 I n s t + β 7 G o v + β 8 M a n + β 9 I N B + β 10 R O A + β 11 B T M + β 12 A l t + I n d u s t r y + Y e a r (1)

A F S i z e = β 0 + β 1 P S G M + β 2 A c h + β 3 S i z e + β 4 L e v + β 5 L o s s + β 6 I n s t + β 7 G o v + β 8 M a n + β 9 I N B + β 10 R O A + β 11 G r o + β 12 E D R + I n d u s t r y + Y e a r (2)

A F e e s = β 0 + β 1 P S G M + β 2 A c h + β 3 S i z e + β 4 L e v + β 5 L o s s + β 6 I n s t + β 7 G o v + β 8 M a n + β 9 I N B + β 10 R O A + β 11 F S + β 12 S e g + I n d u s t r y + Y e a r (3)

In the equations above, AudIndSpc is the auditor’s expertise in the industry and is measured by the market share of the audit firms. Specifically, if the market share of the audit firm is higher (lower) than 1.2 × (1 ÷ the number of companies in the industry-year), we coded the variable as one (zero). The market share is the total assets of all clients of each audit firm in an industry-year divided by the total assets of all companies in the same industry-year. AFSize is a dichotomous variable coded as one if the company is audited by a big audit firm, and zero otherwise. Finally, AFees is the natural logarithm of audit fees.

Based on past literature (e.g., Amir, Guan, & Livne, 2018Amir, E., Guan, Y., & Livne, G. (2018). Abnormal fees and timely loss recognition: A long-term perspective. Auditing: A Journal of Practice & Theory. https://doi.org/10.2308/ajpt-52348
https://doi.org/10.2308/ajpt-52348...
; Bae et al., 2019Bae, G. S., Choi, S. U., & Lee, J. E. (2019). Auditor industry specialization and audit pricing and effort. Auditing: A Journal of Practice & Theory, 38(1), 51-75. https://doi.org/10.2308/ajpt-52039
https://doi.org/10.2308/ajpt-52039...
; Bebchuk, 2005Bebchuk, L. A., & Cohen, A. (2005). The costs of entrenched boards. Journal of Financial Economics, 78(2), 409-433. https://doi.org/10.1016/j.jfineco.2004.12.006
https://doi.org/10.1016/j.jfineco.2004.1...
; Chen et al., 2012Chen, P. F., He, S., Ma, Z., & Stice, D. E. (2012). Qualified audit opinions and debt contracting. Working Paper, HKUST. Retrieved from http://www.kaa-edu.or.kr/online3/2013_1/1.%20Derrald%20Stice.pdf
http://www.kaa-edu.or.kr/online3/2013_1/...
; Defond & Zhang, 2014; Engel, Hayes, & Wang, 2010Engel, E., Hayes, R. M., & Wang, X. (2010). Audit committee compensation and the demand for monitoring of the financial reporting process. Journal of Accounting and Economics, 49 (1-2), 136-154. https://doi.org/10.1016/j.jacceco.2009.08.001
https://doi.org/10.1016/j.jacceco.2009.0...
; Minutti-Meza, 2013; Patterson et al., 2019Patterson, E. R., Smith, R. J., & Tiras, S. L. (2019). The effects of auditor tenure on fraud and its detection. The Accounting Review, 94(5), 297-318. https://doi.org/10.2308/accr-52370
https://doi.org/10.2308/accr-52370...
), the equations above also include diverse control variables which affect the dependent variables. These control variables are defined as follows. Ach is a dichotomous variable coded as one if the auditor is changed, and zero otherwise. Size is the size of the company and is equal to the logarithm of total assets. Lev is the total liabilities divided by total assets. Inst is the percentage of institutional ownership (i.e., the percentage of shares held by banks, insurance companies, pension funds, and investment companies). Gov is the percentage of shares held by the government. Man is the percentage of shares held by the managers. Loss is a dichotomous variable coded as one if net income is negative, and zero otherwise. INB is the independence of the board of directors, calculated as the number of non-executive directors divided by the total number of directors. ROA is the net income divided by total assets. BTM is the book value of equity divided by the market value of equity. Alt is the Altman (1983Altman, E. (1983). Corporate financial distress: A complete guide to predicting, avoiding, and dealing with bankruptcy. New York: Wiley.) financial distress score. The score is coded as one if it is greater than the median and zero otherwise. Gro is the percentage of sales growth. FIN is a dichotomous variable coded as one if there is equity/debt issuance. FS is the foreign sales divided by total assets. Seg is the natural logarithm of the number of segments. ∑Industry reflects industry fixed effects. ∑Year reflects year fixed effects (Appendix A Appendix A Research instruments In this study, the variables are defined (empirically measured) as follows: Audit quality includes AudIndSpc, AFSize, and AFees. These measures are calculated as follows. AudIndSpc is the auditor’s expertise in the industry and measured by the market share of the audit firms. Specifically, if the market share of the audit firm is higher (lower) than 1.2 × (1 ÷ the number of companies in the industry-year), we coded the variable as one (zero). The market share is the total assets of all clients of each audit firm in an industry-year divided by the total assets of all companies in the same industry-year (Source: Rahavard-e-Novin). AFSize is a dichotomous variable coded as one if the company is audited by a big audit firm, and zero otherwise (Source: Rahavard-e-Novin). AFees is the natural logarithm of audit fees (Source: Rahavard-e-Novin). SPGM is the percentage of the ownership represented by the shareholders who attend the general meeting (Source: CODAL, Report on Summary of General Meetings Decisions). PISGM is the percentage of the ownership represented by the institutional shareholders who attend the general meeting (Source: CODAL, Report on Summary of General Meetings Decisions). POSGM is the percentage of the ownership represented by the non-institutional shareholders who attend the general meeting Ach (as a control variable) is a dichotomous variable coded as one if the auditor is changed and zero otherwise (Source: Rahavard-e-Novin). Size (as a control variable) is the size of the company and is equal to the logarithm of the total assets (Source: Rahavard-e-Novin). Lev (as a control variable) is the total liabilities divided by total assets (Source: Rahavard-e-Novin). Inst (as a control variable) is the percentage of institutional ownership (i.e., the percentage of shares held by banks, insurance companies, pension funds, and investment companies) (Source: Rahavard-e-Novin). Gov (as a control variable) is the percentage of shares held by the government (Source: Rahavard-e-Novin). Man (as a control variable) is the percentage of shares held by the managers (Source: Rahavard-e-Novin). Loss (as a control variable) is a dichotomous variable coded as one if net income is negative, and zero otherwise (Source: Rahavard-e-Novin). INB (as a control variable) is the independence of the board of directors, calculated as the number of non-executive directors divided by the total number of directors (Source: Rahavard-e-Novin). ROA (as a control variable) is the net income divided by total assets (Source: Rahavard-e-Novin). BTM (as a control variable) is the book value of equity divided by the market value of equity (Source: Rahavard-e-Novin). Alt (as a control variable) is the Altman (1983) financial distress score. The score is coded as one if it is greater than the median and zero otherwise (Source: Rahavard-e-Novin). Gro (as a control variable) is the percentage of sales growth (Source: Rahavard-e-Novin). FIN (as a control variable) is a dichotomous variable coded as one if there is an equity/debt issuance (Source: Rahavard-e-Novin). FS (as a control variable) is the foreign sales divided by total assets (Source: Rahavard-e-Novin). Seg (as a control variable) is the natural logarithm of the number of segments (Source: Rahavard-e-Novin). ∑Industry reflects industry fixed effects (Source: Rahavard-e-Novin). ∑Year reflects year fixed effects (Source: Rahavard-e-Novin). presets the definitions of all variables).

Furthermore, to test the second research hypothesis, i.e., there is a significant relationship between PISGM and audit quality, we use equations 1 to 3 above, after replacing SPGM with PISGM.

Finally, to test the third research hypothesis, i.e., PISGM moderates the relationship between POSGM and audit quality measures, we divided our sample into two sub-samples: (a) firm-years with high PISGM and (b) firm-years with low PISGM. To clarify, for example, we classify a firm-year into sub-sample (a) when the PISGM in each year is greater than the median. Then, we re-estimate equations 1 to 3 in both sub-samples (a) and (b), after replacing SPGM with POSGM (measured as SPGM minus PISGM). In the “Additional analyses” section, we rerun this analysis using regressions with an interaction term.

3.2 Sample and data

Our sample consists of all firms in Iran’s capital market, namely, the Tehran Stock Exchange (TSE), from 2012 to 2018. The TSE is an appropriate research setting, because, first, and consistently with the research question, all companies listed on the TSE must carry out an annual selection of the external auditor through the annual meeting and proxy process (e.g., Sajadi et al., 2012). In this respect, consistently with Iran’s Commercial Law and Regulations Governing the Trusted Auditing Firms of the Securities and Exchange Organization (Islamic Consultative Assembly, 1979; Securities and Exchange Organization, 2007a), shareholders elect, appoint, and dismiss the auditors through a voting process. It is worth stating that shareholders can vote on a variety of different auditors, including an auditor that was proposed by the audit committee or other auditors that were not previously proposed by the audit committee. Furthermore, listed companies are required to publish content and decisions of general meetings (including decisions on auditor selection) online following their annual general meetings (Securities and Exchange Organization, 2007b).

Second, consistently with the research motivation, the TSE is an emerging market. In this regard, the TSE is comparable to most large developing capital markets in terms of basic market infrastructure (Hesarzadeh & Bazrafshan, 2019Hesarzadeh, R., & Bazrafshan, A. (2019). CEO ability and regulatory review risk. Managerial Auditing Journal, 34(5), 571-601.; Hesarzadeh & Rajabalizadeh, 2020). For example, in recent decades, Iran has used international accounting/auditing standards as a foundation for setting its national standards (Mashayekhi & Mashayekh, 2008Mashayekhi, B, & Mashayekh, S. (2008). Development of accounting in Iran. The International Journal of Accounting, 43(1), 66-86.). Furthermore, past research (e.g., Paytakhti Oskooe, 2011Paytakhti Oskooe, S. A. (2011). The Iran stock market: Efficiency, volatility and links to the international oil market. (Thesis). Kingston University. Retrieved from http://eprints.kingston.ac.uk/id/eprint/22360
http://eprints.kingston.ac.uk/id/eprint/...
) shows that the TSE is efficient in a weak form.

This paper obtains the SPGM and PISGM data from CODAL, the Comprehensive Database of All Listed Companies in Iran. The paper obtains other data from Rahavard-e-Novin, the most comprehensive database in Iran’s capital market (Hesarzadeh, 2019Hesarzadeh, R., & Bazrafshan, A. (2019). CEO ability and regulatory review risk. Managerial Auditing Journal, 34(5), 571-601.). We exclude firm-years with insufficient data to measure our variables. Furthermore, for more consistency among companies, particularly consistency in the timing of general meetings, we exclude firm-years with a non-Esfand (April) fiscal year-end. Our final sample consists of 574 firm-year observations, including 82 firms over the seven years.

4. Results

4.1 Descriptive statistics

Descriptive statistics for the variables are presented in Table 1. To minimize the impact of extreme data on the findings, the variables are winsorized at the extreme one percent. In this regard, the mean value for SPGM is about 82%, indicating that, on average, 82% of shareholders attended the annual general meetings. More specifically, the percentage of the ownership represented by the shareholders who attend the general meeting is 82%. Moreover, PISGM is about 23%, indicating that the percentage of the ownership represented by the institutional shareholders who attend the general meeting is 23%. In addition, the mean value for the audit quality measures, including audit industry specialization (AudIndSpc), audit firm size (AFSize), and audit fees (AFees), are 0.660, 0.712, 3.843, and 2.869, which are comparable to prior research (e.g., Louis, 2005Louis, H. (2005). Acquirers’ abnormal returns and the non-Big 4 auditor clientele effect. Journal of Accounting and Economics, 40, 75-99.; Mansi, Maxwell, & Miller, 2004Mansi, S. A., Maxwell, W. F., & Miller, D. P. (2004). Does auditor quality and tenure matter to investors? Evidence from the bond market. Journal of Accounting Research, 42(4) 755-793. https://doi.org/10.1111/j.1475-679X.2004.00156.x
https://doi.org/10.1111/j.1475-679X.2004...
; Mayhew & Pike, 2004Mayhew, B. W., & Pike, J. E. (2004). Does investor selection of auditors enhance auditor independence? The Accounting Review, 79(3), 797-822. https://doi.org/10.2308/accr.2004.79.3.797
https://doi.org/10.2308/accr.2004.79.3.7...
; Venkataraman et al., 2008Venkataraman, R., Weber, J., & Willenborg, M. (2008). Litigation risk, audit quality, and audit fees: Evidence from initial public offerings. The Accounting Review, 83, 1315-1345.). Moreover, the measures indicate that the audit quality in our sample is similar to in large developing capital markets, but relatively lower than in developed capital markets (see for example, Chen, Su, & Wu, 2010Chen, S., Sun, S.Y.J., & Wu, D. (2010). Client importance, institutional improvements, and audit quality in China: An office and individual auditor level analysis. The Accounting Review, 85 (1), 127-158. https://doi.org/10.2308/accr.2010.85.1.127
https://doi.org/10.2308/accr.2010.85.1.1...
; Engel et al., 2010Engel, E., Hayes, R. M., & Wang, X. (2010). Audit committee compensation and the demand for monitoring of the financial reporting process. Journal of Accounting and Economics, 49 (1-2), 136-154. https://doi.org/10.1016/j.jacceco.2009.08.001
https://doi.org/10.1016/j.jacceco.2009.0...
; Chen et al., 2012). In addition, the table shows that the average for institutional ownership (Inst) is approximately 0.316, indicating that about 31% of ownership in our sample belongs to banks, insurance companies, pension funds, and investment companies, which is comparable to large capital markets (e.g., Bebchuk, Cohen, & Hirst, 2017Bebchuk, L. A., Cohen, A., & Hirst, S., (2017). The agency problems of institutional investors. Journal of economic preservatives, 31(3), 89-102. DOI: 10.1257/jep.31.3.89
https://doi.org/10.1257/jep.31.3.89...
). An untabulated analysis indicates that the average variance inflation factor (VIF) for the variables is approximately 1.5, and none of the VIFs are higher than 3.

Table 1
Descriptive statistics

4.2 Inferential Statistics

Table 2 presents the results regarding the statistical test of H1 (including H1a and H1b). H1 generally focuses on the relationship between SPGM (as measured by SPGM) and audit quality (as measured by AudIndSpc, AFSize, AFees). Based on the results, the coefficients of SPGM are not statistically significant at the 0.1 level (p-value = 0.289, 0.376, 0.342). This suggests that, (in)consistently with (H1a) H1b, there is no meaningful relationship between SPGM and audit quality. This is consistent with prior literature (e.g., Cunningham, 2017Cunningham, L. M. (2017). Auditor ratification: Can’t get no (dis)satisfaction. Accounting Horizons, 31(1), 159-175. https://doi.org/10.2308/acch-51652
https://doi.org/10.2308/acch-51652...
; Liu et al., 2009Liu, L., Raghunandan, K., & Rama, D. (2009). Financial restatements and shareholder ratifications of the auditor. Auditing: A Journal of Practice and Theory, 28(1), 225-240.) that indicates that the majority of voters may not have sufficient knowledge about the quality of the auditors, and therefore the majority of votes may be reflective of factors that are outside the auditor’s scope. The coefficients of some of the common control variables, including Ach, Size, and Gov, are statistically significant. In this regard, the results suggest that audit quality is lower when the auditor is changed. Furthermore, the audit quality is lower for companies with a smaller size and higher levels of governmental ownership. In addition, the coefficients of some of the specific control variables, including GRO, FS, and Seg, are statistically significant. Specifically, the results indicate that audit firm size is lower when sales growth is higher. Moreover, the level of audit fees is higher for companies with equity or debt issuances and companies with higher numbers of segments.

Table 2
The association between SPGM and audit quality

Table 3 presents the results regarding the statistical test of H2. H2 predicts that there is a significant association between PISGM (as measured by PISGM) and audit quality (as measured by AudIndSpc, AFSize, AFees). Based on the results, the coefficients (Coef. = 0.058, 0.012, 0.063) of SPGM are positive and statistically significant at the 0.1 level (p-value = 0.289, 0.376, 0.342). This suggests that there is a positive association between PISGM and audit quality. As a result, the second hypothesis is confirmed. This is consistent with prior literature (e.g., Velury et al. 2003Velury, U., Reisch, T. J., & O’Reilly, M. D. (2003). Institutional ownership and the selection of industry specialist auditors. Review of Quantitative Finance and Accounting, 21(1), 35- 48.) that suggests that companies with higher active institutional ownership are more likely to employ high-quality audit firms.

Table 3
The association of PISGM and audit quality

Table 4 shows the results regarding the statistical test of H3. H3 predicts that the PISGM (as operationalized by PISGM) moderates the relationship between POSGM (as measured by SPGM minus PISGM) and audit quality (as measured by AudIndSpc, AFSize, AFees). As shown in the table, the results are presented separately for firm-years with a high PISGM (Panel A) versus firm-years with a low PISGM (Panel B), consistently with the discussions presented in section 3.1 (i.e., “Empirical models”). In both panels, we separately present the results for our three measures of audit quality, including audit industry specialization (AudIndSpc), audit firm size (AFSize), and audit fees (AFees), respectively. According to the results presented in Panel A, interestingly, the coefficients of POSGM (Coef. = 0.451, 0.398, 0.308) are positive and statistically significant at the 0.1 level (p-values = 0.007, 0.049, 0.071). This indicates that, for the firm-years with a high PISGM, the POSGM and audit quality are positively statistically associated. In other words, when there is high PISGM, the POSGM leads to higher audit quality - this is reflected in higher audit industry specialization, higher audit fees, and a larger audit firm. In contrast, in Panel B, the coefficients of POSGM are not statistically significant at the 0.1 level (p-values = 0.341, 0.752, 0.533). This suggests that, for the firm-years with low PISGM, the POSGM and audit quality are not statistically associated. An untabulated F test suggests that the association between POSGM and the audit quality measures in Panels A and B is significantly different at the 0.05 level. Collectively, the results show that, consistently with H3, PISGM moderates the relationship between POSGM and audit quality.

Table 4
The moderating role of PISGM in the association between POSGM and audit quality

4.3 Additional analyses

4.3.1 Endogeneity Analysis

SPGM, PISGM, and POSGM are probably associated with other variables that influence audit quality. To clarify, it could be expected that the size of companies simultaneously affects SPGM/PISGM/POSGM and audit quality. Under this condition, our findings - i.e., the impact of SPGM/PISGM/POSGM on audit quality - may stem from variables other than SPGM/PISGM/POSGM. For this reason, the results may be potentially subject to endogeneity concerns.

To deal with the potential endogeneity, we use the propensity score matching methodology, following Shipman, Swanquist, and Whited (2017Shipman, J. E., Swanquist, Q. T., & Whited, R. L.. (2017). Propensity score matching in accounting research. The Accounting Review, 92, 213-244.). In this regard, we regress the SPGM/PISGM/POSGM against the possible measurable determinants of SPGM/PISGM/POSGM, including size, the percentage of foreign ownership, the percentage of free float, the percentage of controlling shareholder ownership, and managerial ownership (see, for example, Beuthel, 2006Beuthel, B. (2006). Electronic corporate governance: Online and virtual shareholder meetings and shareholder participation in Switzerland and Germany. University of St. Gallen, Zürich, Switzerland. Retrieved from https://www.e-helvetica.nb.admin.ch/api/download/urn%3Anbn%3Ach%3Abel-105265%3Adis3195.pdf/dis3195.pdf
https://www.e-helvetica.nb.admin.ch/api/...
; Schieber, 2002Schieber, D. (2002). Auswirkungen des Interneteinsatzes auf die Präsenz bei Hauptversammlungen. in Zetzsche, D. (ed.) Die Virtuelle Hauptversammlung, Berlin, Germany, Erich Schmidt Verlag.; Van der Elst, 2004Van der Elst, C. (2004). Attendance of shareholders and the impact of regulatory corporate governance reforms: An empirical assessment of the situation in Belgium. European Business Organization Law Review, 5(3), 471-510.). Using the predicted values of the regression, we match each company-year to a company-year with a similar/the closest predicted value in the same year-industry, consistently with past work (Hoi, Wu, & Zhang, 2013Hoi, C., Wu. K., & Zhang. H. (2013). Is corporate social responsibility (CSR) associated with tax avoidance? Evidence from Irresponsible CSR Activities. The Accounting Review, 88, (6), 2025-2059.). Finally, by providing a matched SPGM/PISGM/POSGM index, namely SPGM matched /PISGM matched /POSGM matched , we re-examine the association between SPGM matched / PISGM matched /POSGM matched and audit quality.

Table 5 presents the findings of the endogeneity analysis. Panel A of the table shows the association between SPGM matched /PISGM matched and the three measures of audit quality. Furthermore, Panels B1 and B2 represent the association between POSGM matched and the three measures of audit quality in sub-samples with high versus low PISGM. The results show that, consistently with previous analyses, there is no significant (significant) association between SPGM matched (PISGM matched ) and the audit quality measures. In this regard, the following results reveal that the association between POSGM matched and audit quality is significant only when the presence of PISGM is high. Taken together, the results show that our main findings are robust in relation to endogeneity concerns.

Table 5
Endogeneity analysis: Re-examination of H1 to H3

4.3.2 Regression with interactions analysis

In the main analysis, to analyze how PISGM affects the association between POSGM and audit quality, we regressed the audit quality against POSGM in two sub-samples, one with high and the other with low PISGM. In this section, we rerun the analysis by employing a regression with an interaction term. Specifically, we assess the association between the audit quality measures and the interaction of POSGM and PISGM. For more consistency between this analysis and the previous analysis, we use a dummy version of PISGM (PISGM dummy ). Technically, PISGM dummy is coded as one (zero) for firm-years with PISGM greater than the median.

Table 6 reports the results. As shown in the table, the coefficients of “POSGM × PISGM dummy ” are significant for all of the four audit quality measures. Hence, consistently with the previous analysis, PISGM moderates the relationship between POSGM and audit quality measures.

Table 6
Re-examination of H3: Regressions with interaction term

4.3.3 Untabulated analysis

We also conduct three additional analyses to ascertain the robustness of our main results. First, since SPGM/PISGM/POSGM and audit quality are changing over time (see, for example, Beuthel, 2006Beuthel, B. (2006). Electronic corporate governance: Online and virtual shareholder meetings and shareholder participation in Switzerland and Germany. University of St. Gallen, Zürich, Switzerland. Retrieved from https://www.e-helvetica.nb.admin.ch/api/download/urn%3Anbn%3Ach%3Abel-105265%3Adis3195.pdf/dis3195.pdf
https://www.e-helvetica.nb.admin.ch/api/...
; Defond & Zhang, 2014), our main findings may be driven by a time trend. To control this concern, we use a Fama-MacBeth regression, and re-estimate all of the main regressions. Second, to assure that persistent omitted variables do not affect the relationship between SPGM/PISGM/POSGM and audit quality, we re-run the main regressions, after adding firm fixed effects to the regressions. Third, since each quality measure may contain some measurement errors and may reflect a specific dimension of audit quality, we develop an aggregate audit quality measure through aggregation of dichotomous versions of our three audit quality measures. Then, we re-estimate all of the main regressions using this aggregate audit quality measure. In sum, untabulated findings reveal that our main results are not significantly sensitive to the similar time trend in SPGM/PISGM/POSGM and audit quality, persistent omitted variables, and aggregation of the audit quality measures.

5 Conclusions

Professional bodies generally encourage higher SPGM (e.g., U.S. Department of the Treasury, 2008; Institutional Shareholder Services, 2012). However, several theoretical studies (e.g., Jong, et al., 2006Jong, A., Mertens, G., & Roosenboom, P. (2006). Shareholders’ voting at general meetings: Evidence from the Netherlands. Journal of Management and Governance, 10, 353-380.; Sjostrom, 2006Sjostrom, W. K., (2006). The case against mandatory annual director elections and shareholders’ meetings. Tennessee Law Review, 74,199-239.; Stratling, 2003Stratling, R. (2003). General Meetings: a dispensable tool for corporate governance of listed companies? Corporate Governance: An International Review, 11(1),74-82.) question the value of this higher SPGM. In this research, we aimed to focus on one of the potential consequences of higher SPGM, i.e., higher audit quality. One of the main motivations for this focus comes from this fact that regulators are considering issuing recommendations to increase shareholder involvement in auditor selection and require all public companies to have a shareholder vote on it (e.g., Cunningham, 2017Cunningham, L. M. (2017). Auditor ratification: Can’t get no (dis)satisfaction. Accounting Horizons, 31(1), 159-175. https://doi.org/10.2308/acch-51652
https://doi.org/10.2308/acch-51652...
; Institutional Shareholder Services, 2015), and there is little empirical evidence on the beneficial effect of shareholder engagement on auditor appointments (e.g., Mayhew, 2017Mayhew, B. W. (2017). Introduction and commentary on ratification research forum. Accounting Horizons, 31(1) 125-128. https://doi.org/10.2308/acch-10519
https://doi.org/10.2308/acch-10519...
).

Theoretically, SPGM, as one of the corporate governance mechanisms (ISS 2016; SEC 2018a; SEC 2018b), can lead to better selection and supervision of external auditors (e.g., Tanyi & Roland, 2017Tanyi, P. N., & K. C. Roland. (2017). Market reaction to auditor ratification vote tally. Accounting Horizons, 31(1), 141-157.), and therefore higher audit quality. This is because higher SPGM reduces the influence of executive managers in the auditor selection and auditing processes, and therefore enhances audit quality (e.g., Mayhew & Pike, 2004Mayhew, B. W., & Pike, J. E. (2004). Does investor selection of auditors enhance auditor independence? The Accounting Review, 79(3), 797-822. https://doi.org/10.2308/accr.2004.79.3.797
https://doi.org/10.2308/accr.2004.79.3.7...
; Tanyi & Roland, 2017). Furthermore, higher SPGM leads to a wider reflection of shareholders’ interests in corporate governance processes and audit work (e.g., ISS 2016).

We find that, in general, there is no significant relationship between SPGM and audit quality. However, we reveal that, first, there is a positive significant association between PISGM and audit quality. Second, for companies with high PISGM, there is a significant positive relationship between POSGM and audit quality. This is consistent with the theoretical notion that institutional shareholders form a broad coalition that leads to more effective control of the company (Dressler & Mugerman, 2021Dressler, E., & Mugerman, Y. (2021). Doing the Right Thing? The Voting Power Effect and Institutional Shareholder Voting. SSRN Electronic Journal. doi:10.2139/ssrn.3785420
https://doi.org/10.2139/ssrn.3785420...
; Rossi et al., 2018Rossi, F., J. R. Barth, & R. J. Cebula. (2018). Do shareholder coalitions affect agency costs? Evidence from Italian-listed companies, Research in International Business and Finance, 46, 181-200.). Specifically, multiple blocks of shareholders can coalesce around institutional shareholders to take more effective control, monitor, and evaluate the company - and thus force the company to protect its shareholders (e.g., Bloch & Hege, 2003Bloch, F., & Hege, U. (2003). Multiple shareholders and control contests. Retrieved from http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2273211
http://papers.ssrn.com/sol3/papers.cfm?a...
).

The results have important implications for policymakers and regulators. For example, they may be helpful in developing an understanding of the relevance of higher SPGM for auditor behavior. Particularly, the results recommend that policymakers and regulators increase the beneficial effect of higher SPGM, by encouraging and facilitating the participation of institutional shareholders in general meetings. Furthermore, the findings provide further insights among the mixed evidence on the beneficial effects of SPGM (see for example, Banko et al., 2013Banko, J., Frye, M., Wang, W., & Whyte, A. M. (2013). Earnings management and annual general meetings: The role of managerial entrenchment. The Financial Review, 48, 259-282. https://doi.org/10.1111/fire.12003
https://doi.org/10.1111/fire.12003...
) by revealing that the beneficial effects of SPGM are conditional to the level of institutional shareholder presence in general meetings.

We encourage readers to exercise some caution when using the results of this paper. This is because our results are based on an emerging market, where, on the one hand, the diversity of information channels/resources are not comparable to developed capital markets and information asymmetry between shareholders and managers is high (Hayaeian et al., 2021Hayaeian, S., Hesarzadeh, R., & Abbaszadeh, M. R. (2021). The impact of knowledge management strategies on the relationship between intellectual capital and innovation: evidence from SMEs. Journal of Intellectual Capital, ahead-of-print(ahead-of-print). doi:10.1108/jic-07-2020-0240
https://doi.org/10.1108/jic-07-2020-0240...
; Hesarzadeh, 2020Hesarzadeh, R., & Rajabalizadeh, J. (2020). Does securities commission oversight reduce the complexity of financial reporting? Revista de Contabilidad, 23(1), 1-17. DOI: https://doi.org/10.6018/rcsar.389791
https://doi.org/10.6018/rcsar.389791...
; Su et al., 2014Su, W., Peng, M. W., Tan, W., & Cheung, Y. L. (2014). The signaling effect of corporate social responsibility in Emerging Economies. Journal of Business Ethics, 92(4), 1-25.), and therefore shareholders have a relatively strong motivation for attending annual general meetings. On the other hand, there are not strong institutional settings that help shareholders to prevent the influences of managers in the auditing process and to monitor and control the audit quality; and thus the importance of shareholder engagement in the selection and supervision of auditors is high. Furthermore, the results must be interpreted in light of the following limitation. Our measures of SPGM and PISGM are based on shareholders’ physical attendance, and therefore the measures may not fully reflect active attendance (i.e., engagement). As an interesting research question, we encourage future research to examine to what extent shareholders’ physical attendance may reflect shareholders’ active attendance.

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Appendix A

Research instruments

In this study, the variables are defined (empirically measured) as follows:

  • Audit quality includes AudIndSpc, AFSize, and AFees. These measures are calculated as follows.

  • AudIndSpc is the auditor’s expertise in the industry and measured by the market share of the audit firms. Specifically, if the market share of the audit firm is higher (lower) than 1.2 × (1 ÷ the number of companies in the industry-year), we coded the variable as one (zero). The market share is the total assets of all clients of each audit firm in an industry-year divided by the total assets of all companies in the same industry-year (Source: Rahavard-e-Novin).

  • AFSize is a dichotomous variable coded as one if the company is audited by a big audit firm, and zero otherwise (Source: Rahavard-e-Novin).

  • AFees is the natural logarithm of audit fees (Source: Rahavard-e-Novin).

  • SPGM is the percentage of the ownership represented by the shareholders who attend the general meeting (Source: CODAL, Report on Summary of General Meetings Decisions).

  • PISGM is the percentage of the ownership represented by the institutional shareholders who attend the general meeting (Source: CODAL, Report on Summary of General Meetings Decisions).

  • POSGM is the percentage of the ownership represented by the non-institutional shareholders who attend the general meeting

  • Ach (as a control variable) is a dichotomous variable coded as one if the auditor is changed and zero otherwise (Source: Rahavard-e-Novin).

  • Size (as a control variable) is the size of the company and is equal to the logarithm of the total assets (Source: Rahavard-e-Novin).

  • Lev (as a control variable) is the total liabilities divided by total assets (Source: Rahavard-e-Novin).

  • Inst (as a control variable) is the percentage of institutional ownership (i.e., the percentage of shares held by banks, insurance companies, pension funds, and investment companies) (Source: Rahavard-e-Novin).

  • Gov (as a control variable) is the percentage of shares held by the government (Source: Rahavard-e-Novin).

  • Man (as a control variable) is the percentage of shares held by the managers (Source: Rahavard-e-Novin).

  • Loss (as a control variable) is a dichotomous variable coded as one if net income is negative, and zero otherwise (Source: Rahavard-e-Novin).

  • INB (as a control variable) is the independence of the board of directors, calculated as the number of non-executive directors divided by the total number of directors (Source: Rahavard-e-Novin).

  • ROA (as a control variable) is the net income divided by total assets (Source: Rahavard-e-Novin).

  • BTM (as a control variable) is the book value of equity divided by the market value of equity (Source: Rahavard-e-Novin).

  • Alt (as a control variable) is the Altman (1983Altman, E. (1983). Corporate financial distress: A complete guide to predicting, avoiding, and dealing with bankruptcy. New York: Wiley.) financial distress score. The score is coded as one if it is greater than the median and zero otherwise (Source: Rahavard-e-Novin).

  • Gro (as a control variable) is the percentage of sales growth (Source: Rahavard-e-Novin).

  • FIN (as a control variable) is a dichotomous variable coded as one if there is an equity/debt issuance (Source: Rahavard-e-Novin).

  • FS (as a control variable) is the foreign sales divided by total assets (Source: Rahavard-e-Novin).

  • Seg (as a control variable) is the natural logarithm of the number of segments (Source: Rahavard-e-Novin).

  • ∑Industry reflects industry fixed effects (Source: Rahavard-e-Novin).

  • ∑Year reflects year fixed effects (Source: Rahavard-e-Novin).

Responsible Editor:

Prof. Dr. Javier Montoya Del Corte

Publication Dates

  • Publication in this collection
    26 Apr 2021
  • Date of issue
    Jan-Mar 2021

History

  • Received
    28 Feb 2019
  • Accepted
    04 Sept 2020
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