Audit committees and earnings management: the mediating effect of audit quality

Purpose This study aims to examine the mediating effect of audit quality (AQ) represented by audit fees on the association between audit committees (ACs) and earnings management (EM). Design/methodology/approach The sample consists of 27 non-financial firms listed on the Palestine Exchange (PEX) between the years of 2014 and 2022. The authors used OLS regression with robust standard error and Newey West estimator to test the study models. In addition, an alternative EM model and the sample were also divided based on signed accruals. Finally, 2SLS and the lag value of independent variables were used to fix potential endogeneity issues. Findings The findings revealed that the traits of ACs do not play a significant role in reducing EM, except for the accounting experience, which is positively associated with EM. On the other hand, the traits of ACs do not play a significant role in demanding higher AQ through audit fees, except for the number of meetings that showed a positive relationship with fees. Finally, the results showed that AQ through audit fees does not affect the reduction of EM. Thus, according to Baron and Kenny’s mediation test (1986), the AQ fails to achieve the role of mediator in the association between ACs and EM. Originality/value The main contribution of the present paper is to examine the AQ as a potential mediating variable between ACs and EM. The results help regulators and policymakers in Palestine and other developing countries to review and update their governance mechanisms, which contributes to strengthening the regulatory environment and ensuring and controlling best practices.