Codetermination and Aggressive Reporting : Audit Committee Employee Representation, Tax Aggressiveness, and Earnings Management

This study examines whether board-level codetermination (inclusion of employee representatives on the board) reduces aggressive financial reporting, i.e. tax aggressiveness and earnings management. Consistent with prior research, we expect employees to prefer lower tax aggressiveness and less earnings management. To the extent codetermination allows for effective employee monitoring of management, we expect it to be associated with reductions in aggressive reporting. We use a unique dataset from listed German companies to identify a granular measure of board-level codetermination that allows us to better identify the mechanisms through which employees can monitor and influence firms' decisions and outcomes. Although prior research points to the importance of audit committee member financial expertise, we find that employee representation on audit committees is the most influential codetermination mechanism associated with reduced tax aggressiveness and earnings management. We contribute to prior and current discussions of stronger employee rights and influences on management decisions from a board-level perspective