Board Structure

Board structure stance refers to the characteristics of the governance board of an organisation (Finegold et al. 2007; Galbreath 2010; Harford et al. 2012). Prior studies have explored governance from either a “policy” standpoint or a board structure perspective (Galbreath 2010, p.337). The policy stance relate to development of specific policies and strategies of an organisation; where the strategies can be long-term and/or unique to specific matters (Galbreath 2010). To develop hypotheses which address the research question of this study, the current chapter takes the board structure stance of governance. This is because the policy stance is outside the scope of this study.

Governance refers to the processes by which the activities of an organisation are managed, controlled and directed (Ott and Shafritz 1986; UK Cadbury Report 1992; AS-8000 2003; Cornforth 2004; Petrovic 2008; Renz 2010; Cornforth 2012). The governance of an organisation is potentially influenced by its external audit firm, some external governance factors and also, its internal governance mechanism (Gao and Kling 2012). The influence of an external audit firm, on the extent of accounting disclosures made by an organisation, is later addressed in section 5.5, where the control variables of this study are discussed. The external governance factors are associated with legal frameworks, that is, legislations and regulations (Gao and Kling 2012). The disclosure requirements of Australian NFPs are considered as part

of the discussions of the external factors of Australian NFPs, in section 5.3 of this chapter. The internal governance mechanism denotes factors which are related to the internal governance of an organisation, including the characteristics of its governance board (Gao and King 2012). The governance board of an organisation represents an internal control mechanism which supervises and controls the activities of the organisation (Fama 1980; Pound 1995; Rosentein and Wyatt 1990). The governance of an organisation is influenced by its governance board (Baysinger and Butler 1985; John and Senbet 1998; Bettington et al. 2014; Tricker and Tricker 2015).

The governance board of an organisation is assigned the responsibility of monitoring the activities of the organisation (John and Senbet 1998; Cornforth 2004; Letza et al. 2008; de Andrés-Alonso et al. 2009; Atan et al. 2013) and taking decisions which determine the activities adopted by the organisation (Board Source 2010), including the accountability (Comforth 2002; Atan et al. 2013) and transparency practices of the entity (Arjoon 2005; Brink 2011; Anderson 2013). Before the financial statements of an organisation are published, its governance board has the responsibility of approving these accounting reports (Verbruggen et al. 2011) and ensuring that these statements fairly represent the financial situation of the organisation (Anderson et al. 2004; Abraham and Cox 2007; Abdullah et al. 2015). Thus, the governance board of an organisation is responsible for the extent to which the organisation makes accounting disclosures (Jensen 1993); and hence, is fundamental to the discharge of accountability by the organisation (Ostrower 2014).

In the NFP sector, governance board members often take up the position on a voluntary basis (Herman and Renz, 2000, 2004; Iecovich 2004) as part of their philanthropic service (Brower and Shrader 2000; Viader and Espina 2014) and, unlike FP sector, NFP board members, in general, do not receive remuneration for their NFP board appointments (Viader and Espina 2014). Given NFPs are characterised with a non-distribution constraint, a NFP does not have clearly identifiable principals (Cornforth and Brown 2014). As a result, the governance board of a NFP has the duty to act in the interest of multiple stakeholder groups (Wellen and Jegers 2014), such as members, donors, employees and society at large (Miller 2002; Anheier 2005; O’Regan and Oster 2005; BoardSource 2010, p.20;

Jegers 2011; Considine et al. 2014a; Viader and Espina 2014); rather than primarily in the interests of just one stakeholder group, that is the principals of the organisation, as in the FP sector. In addition, whilst the FP governance boards are primarily accountable to the principals of their organisation, NFP board members are accountable to a range of stakeholder groups (van Puyvelde 2012), including resource providers (donors as well as volunteers), employees, regulators, and society at large (O’Regan and Oster 2005; Ostrower 2014; Viader and Espina 2014). NFP boards are different from FP boards, in terms of the activities they engage into and also, in terms of the extent to which they are involved in the operations of the organisation (Coombes et al. 2011).

Despite their differences, NFP and FP boards share some common characteristics : they both have the function of overseeing that the resources of their respective organisation are allocated such that the organisational mission is maximised (Viader and Espina 2014); and in both, the NFP and FP contexts, ownership and control of the organisation are separate (van Puyvelde et al. 2012); even though the owners (or principals) of NFPs are not clearly identifiable (Ostrower and Stone 2006; Jegers 2008). Taking into account the differences, as described in the previous paragraph, and the similarities between NFP and FP boards; it is noted that even though NFP boards follow the same structure and primary functions as FP boards, the motivation of the members for joining the board, the stakeholders in whose interest the board acts, and the stakeholders to whom the board owes accountability differ between the two types of boards, namely, FP and NFP boards.

The extent to which a governance board is able to influence the activities undertaken by an organisation, depends on the characteristics of the board (Dechow et al. 1996; Beasley et al. 2000; Carcello et al. 2002; Luo 2005; Adawi and Rwegasira 2011; Mitra and Hossain 2011; Cassell et al. 2012), such as its size (Abeysekera 2010; Amran et al. 2010; Freedman and Jaggi 2011; Saxton et al. 2011; Saxton and Guo 2011; Saxton et al. 2012; Zainon et al. 2012; Fifka 2013), its independence (Tengamnuay and Stapleton 2009; Arshad et al. 2010; Garcia-Meka and Sanchez- Ballesta 2010; Samaha and Dahawy 2010; Khan et al. 2013; Zainon et al. 2014; Jitaree 2015), its financial competence (Hashim and Rahman 2011) and the extent of

multiple directorships shared by its board members (Courtois et al. 2011; Razek 2014).

This sub-section develops hypotheses which measure the impact of the governance of a NFP on the extent of accounting disclosures made by the organisation, by considering the four above-mentioned governance characteristics, namely board size, board independence, financial competence of the board, and multiple directorships of board members.

5.2.3.1 Board Size

Board size refers to the number of members on a governance board (Rodriguez et al. 2012). A large board is usually composed of members with different skills, knowledge, educational background and experience (Amran et al. 2010). This is because when the size of a governance board increases, the number of members with different backgrounds, professional qualifications (Pfeffer 1973; Singh et al. 2004), expertise and experience increases as well (Forbes and Milliken 1999; Olson 2000; Di Pietra et al. 2008; Abeysekera 2010; Al-Shammari 2014). Large governance boards have a large number of members with expertise and experience, adding to the ability of the board to take decisions (Larmou and Vafeas 2010), to carry its monitoring duties (Klein 2002; Anderson et al. 2004; Coles et al. 2008; Chen 2009; Sanchez et al. 2011; Zainon et al. 2014), and to ensure the activities of the organisation are communicated to different stakeholders (Abeysekera 2010). The RDT literature argues that uncertainties pertaining to the external environment of an organisation are likely to impact its board size (Pfeffer 1973; Pfeffer and Salancik 1978). When an organisation has uncertainties about its resource inflows, the organisation is likely to manage its resource dependence by recruiting more members who have a “link to important resources in the external environment” to potentially increase its access to resource inflows (Arshad et al. 2013, p.287).

However, there is also the risk that as the board size of an organisation increases, problems associated with "communication, coordination and decision making" among the different members amplify (Saxton et al. 2011, p. 8); making it harder for the board to monitor the activities of the organisation and to take decisions (Gordon et al. 2002; Coles et al. 2008; Di Pietra et al. 2008; Lynck et al. 2008; Larmou and

Vafeas 2010). These drawbacks of increased board size, in turn, create incentives for large boards to make disclosures and eventually shift monitoring of the activities of an organisation from the board to external stakeholders (John and Senbet 1998; Tinkelman 1999; Parsons 2003; Buchheit and Parsons 2006), such as resource providers (Saxton et al. 2012).

The literature has drawn mixed conclusions around the influence of board size on extent of disclosures: some studies concluded a positive relationship between the board size of an organisation and its extent of disclosures (Brown 1999; Abeysekera 2010; Amran et al. 2010; Cormier et al. 2011Fifka 2013;Garcia-Torea et al. 2016); whilst other some studies did not find a significant relationship between the board size of an organisation and its level of disclosures (Gordon et al. 2002; Cheng and Courtenay 2006; Samaha et al. 2012; Uyar et al. 2015).

Similarly, in the NFP literature, some studies (Gallego et al. 2009; Saxton et al. 2011; Saxton et al. 2012; Arshad et al. 2013) have observed a positive influence of the board size on the extent of disclosures made by the organisation; and others have devised an insignificant relationship between board size and extent of disclosures (Zainon et al. 2012; Atan et al. 2013).

Some studies which have observed a positive relationship between the board size of a NFP and the extent of disclosures made by the organisation have considered disclosures in one specific NFP sub-sector, such as universities (Gallego et al. 2009) and medical NFPs (Saxton et al. 2012); whilst others (Arshad et al. 2013) have conducted a content analysis of mandatory and voluntary disclosures made in the annual reports of a range of NFPs, across different sub-sectors (234 NFPs). Conversely, NFP studies which have identified an insignificant relationship between the board size and the extent of disclosures of NFPs, have focused solely on charities (Zainon et al. 2012; Atan et al. 2013). These extant studies are associated with the Spanish (Gallego et al, 2009), Taiwanese (Saxton et al. 2012) and the Malaysian (Arshad et al. 2013) contexts. The Australian NFP literature on the relationship between board size and disclosures, however, remains unexplored.

Since Arshad et al. (2013) has examined the mandatory and voluntary disclosures which NFPs make as part of their annual report disclosures and this study pursues its research question by considering both mandatory and voluntary financial statement disclosures made by Australian NFPs in their published annual reports (as per Chapters One and Four), the next hypothesis has been developed following Arshad et al. (2013) as:

H6: The larger the board size of a NFP, the higher its extent of accounting disclosures.

5.2.3.2 Board Independence

A governance board is composed of executive and non-executive directors (Amran et al. 2010); and, in general, the board independence of an organisation refers to the proportion of the number of non-executive directors to the total number of directors present on its governance board (Haniffa and Cooke 2002; Abeysekera 2010). Executive directors refer to those members who are involved in the daily operations of an organisation (Baysinger and Hoskinsson 1990); whilst those directors who are engaged in the operating activities of the organisation, are known as non-executive (Tricker 1994; Haniffa and Cooke 2002; Siladi 2006; Gao and Kling 2012; Romano 2013), independent or outside directors (Jitaree 2015).

A review of the literature shows that there is no board independence definition which is specific to the NFP context. Hence, for the purpose of this study, the FP definition of board independence is adopted. This definition describes board independence as the proportion of the number of non-executive directors to the total number of directors on the governance board of a NFP.

The independence of a governance board has a major influence on the ability of the board to manage, monitor and direct the activities of an organisation (Pearce and Zahra 1991; Beasley 1996). Compared to executive members, the independent directors of an organisation are likely to have limited knowledge about the operations of the organisation (Keasey et al. 2002). Yet, when the proportion of non- executive directors on a governance board increases, the independence of the board to monitor and control the activities of the organisation goes up as well (Fama and

Jensen 1983; Brickley and James 1987; Haleblian and Finkelstein, 1993), for three reasons. First, non-executive board members represent members who add to the professional experience (Barros et al. 2013), expertise and competence of a governance board (Siladi 2006; Elzahar and Husainey 2012). Second, independent directors have high "reputation costs" which encourage them to monitor and control the activities of the organisation (Barros et al. 2013, p. 564). Third, outside directors may be in a better position, than executive directors, to monitor and control the activities of an organisation (Fama and Jensen 1983; Rosentein and Wyatt 1990; Forker 1992; Haniffa and Cooke 1992); and to take decisions which are in the best interests of the organisation (Scherrer 2003). This is because outside directors are not directly affiliated with the organisation, in the form of employees, (Pincus et al. 1989; Beasly 1996; Samaha et al. 2012); which in turn implies that they are not concerned about their career advancement and employability within the organisation (Scherrer 2003).

Independent board members, in addition to controlling and scrutinising the activities of an organisation, also monitor the disclosure practices of the organisation (Beasley 1996; Jameel and Weerathunga 2013). These directors do so, in order to ensure that different disclosure requirements are observed (Williamson 1985; Baysinger and Hoskisson 1990; Forker 1992); thus positively affecting the extent of disclosures made by an organisation (Lim et al. 2007; Patelli and Prencipe 2007).

Prior studies have drawn conflicting conclusions on how the independence of the governance board of an organisation influences the extent of disclosures made by the organisation: some have noted that the higher the number of independent members on the governance board of an organisation, the higher its extent of disclosures (Fama 1980; Fama and Jensen 1983; Adams and Hossain 1998; Chen and Jaggi 2000; Eng and Mak 2003; Leung and Horwitz 2004; Chau and Leung 2006; Cheng and Coutenay 2006; Abdelsalam and Street 2007; Abraham and Cox 2007; Lim et al. 2007; Patelli and Prencipe 2007; Donnolly and Mulcahy 2008; Ezat and El-Masry 2008; Arshad et al. 2010; Samaha 2010; Samaha and Dahawy 2011; Samaha et al. 2012; Jitaree 2015), some have observed that the independence of a governance board of an organisation has no significant influence on the extent of disclosures made by the organisation (Ho and Wong 2001; Hanniffa and Cooke 2002;

Vandemele et al. 2009; Amran et al. 2010); whilst others have noted a negative relationship between the board independence of an organisation and its extent of disclosures (Eng and Mak 2003; Gul and Leung 2004).

Similar to the definition of NFP board independence, a review of the literature shows there has been no study which has explored the influence of board independence on the extent of disclosures made by NFPs. This absence of disclosure studies, which have addressed NFP board independence, is potentially explained by measurement issues that are associated with NFP board independence, as further discussed in Chapter Seven.

Considering the earlier discussions made on board independence and the conclusions drawn by most prior studies, it is expected that the board independence of a NFP has a positive influence on its extent of accounting disclosures. It is hence hypothesised that:

H7: The greater the board independence of a NFP, the higher its extent of accounting disclosures.

5.2.3.3 Financial competence of governance board

In general, the competence of a governance board is measured by the educational backgrounds and extent of industry experience of its members (Luo 2005; Adawi and Rwegasira 2011). The competence or expertise of the members of a governance board impacts on the perspectives and abilities of the members; eventually influencing the extent to which the organisation is able to carry out its advising and monitoring functions (Gray and Nowland 2015). For a governance board, to carry out its duties effectively, it must have the right mix of members, in terms of knowledge, experience and skills; and the minimum skills required include financial literacy or expertise (AICD 2013). This is because financial accounting forms an important part of the governance mechanism of an organisation (Dionne and Triki 2005). The financial competence of board members of an organisation, adds to their understanding of accounting principles, standards and disclosure requirements of the organisation (ASIC 2016c). Board members who are equipped with financial expertise, in terms of accounting related qualifications and work experiences, are

able to understand, analyse and interpret the financial statements produced by the organisation (Minton et al. 2012; Bettington et al. 2014). These members, thus, add value to the decisions taken and strategies adopted by the organisation (Lawson et al. 2014).

To develop hypotheses which measure the impact of the competence of the governance board of a NFP on its extent of accounting disclosures, the study considers the financial competence of these members, for two reasons. First, the financial competence of board members is a prerequisite for the proper functioning of the organisation, as discussed in the previous paragraph. Second, this study focuses on financial accountability and financial statement disclosures. Given this focus of the study, the financial competence of the board members of NFPs is explored. This study assesses the financial competence of a governance board, by considering the accounting-related educational level, professional experience and professional association memberships of board members, as explained next.

The educational level of board members is considered as part of the competence of a governance board, given the educational backgrounds of members determines the behaviours and practices adopted by an organisation (Finkelstein et al. 2009). Board members, who have high educational level, demonstrate greater skills in taking decisions which are in the best interest of an organisation; than board members who have hardly any formal qualification (Grimm and Smith 1991; Geletkanycz and Black 2001; Graham and Harvey 2001). Board members, who have some formal qualification, are more aware of the consequences of not complying with reporting requirements; and of not publishing information which do not harmonise with the expectations of key stakeholder groups (Krishnan and Yetman 2011; Verbruggen 2011); than those members who do not have formal qualifications. Given the focus of the study on financial accountability, the level of accounting education of board members forms the financial competence of the board.

The financial competence of a governance board is also influenced by the professional experiences of its board members. Directors' experiences contribute to their understanding of the mechanism of the organisation and of the industry in which the organisation operates (Siladi 2006); eventually adding to these members'

ability to monitor the activities of the organisation (Carpenter and Westphal 2001). Also, the professional accounting experiences of board members add to the financial expertise of the board (DeFond et al. 2005; Jeanjean and Stolowy 2009). Board members, who have expertise in accounting are able to identify potential “red flags” which are likely to be present in the financial statements produced by the organisation (Abbott et al. 2004; Bedard et al. 2004; Davidson et al. 2004; Agrawal and Chadha 2005; DeFond et al. 2005; Chan and Li 2008; Felo 2010, p.6). The financial expertise of board members adds to the monitoring ability of the governance board (Jensen 1986) and influences the effectiveness of the board to take decisions which are in the best interest of the organisation (McNulty et al. 2003). The professional experiences of board members of an organisation have a direct impact on the financial disclosures made by the organisation (Hashim and Rahman 2011).

In considering the financial competence of a governance board, the study also takes into account the professional accounting membership of the board directors. This is because professional certifications in accounting determine the accounting expertise of the members (Blue Ribbon Committee 1999); and accounting professionals play a key role in the governance of an organisation (Crittenden II and Crittenden 2014).

Organisations use disclosures to signal the expertise with which they have been managed (Elzahar and Husainey 2012). For instance, when the board members of an organisation are equipped with accounting qualifications, the organisation uses its financial disclosures to signal, both, the credibility of its board (Haniffa and Cooke 2002) and also, the legitimacy of the operations of the organisation; to eventually attract stakeholders' support (Patten 1992; Hart 1995; Bansal and Clelland 2004; Slater and Dixon-Fowler 2010).

NFP literature on the influence of board competencies on the extent of disclosures