The Incentive Factors for the (Non-) Disclosure of Material Weakness in ICFR : Evidence from J-SOX Mandated Audits

This study uses data on Japanese listed companies for the period 2009 to 2012 to examine the incentive factors for the (non-)disclosure of material weakness (MW) in internal control over financial reporting. The propensity score-matching results of matched and potential MW companies from the research sample reveal that companies that do not disclose MW have longer management tenure, Big 3 auditors, lower audit fees, larger boards of directors, fewer outside directors, and greater main bank involvement than those companies that disclose MW. In addition, the non-disclosure of MW at the company level is associated with longer management tenure, larger management shareholdings, and greater main bank involvement, whereas the non-disclosure of MW at the account-specific level is associated with longer management tenure, Big 3 auditors, lower audit fees, significant non-audit services, and greater main bank involvement. These results suggest that the assessment and audit process of internal control systems in Japan is sensitive to management- and audit-related (non-)disclosure incentives. The findings could provide useful academic insights as well as practical guidance for companies in Japan, the United States, and other countries