Audit Committee Characteristics and the Free Cash Flow: Testing the Agency and the Transactions Cost Theories

Abstract

According to the agency theory, the existence of effective corporate governance mechanisms (audit committee) can solve the problems associated with agency issues and, as a result, reduces the free cash flow of companies. However, according to the transaction costs theory, the existence of quality corporate governance mechanisms not only does not reduce the level of these types of flows, but even leads to the increase in free cash flow due to the lower cost of these types of internal financing in comparison with other financing methods. Therefore, the purpose of this study is to investigate the relationship between the audit committee's characteristics (size, independence, financial expertise, and gender of the members of the audit committee) and the free cash flow in companies admitted to Tehran Stock Exchange during the period from 2014 to 2018. The research hypotheses were tested using regression analysis and unbalanced combination data approach. The research findings indicate that there is a positive and significant relationship between the characteristics of size, independence, financial expertise, and gender of the members of the audit committee and free cash flow. These findings are in line with the transaction costs theory. The research findings also lead to the development of theoretical and experimental literature on the effectiveness of the role of audit committees in the field of company risk management with an emphasis on liquidity management and free cash flows.

Keywords

• independence
• size
• financial expertise
• free cash flow