The advisory and monitoring functions of independent directors on audit quality in firms without audit committee

This paper studies independent directors’ advisory and monitoring functions on audit quality by employing a unique institutional setting in Taiwan where the firms begin to appoint independent directors but have not set up an audit committee. Using the staggered difference-in-differences approach, we find that after a firm appoints independent directors, the firm is more likely to hire industry-expertise auditors (advisory function) and decrease the firm’s related party transactions (monitoring function), which further causes an improvement in audit quality. Our further analyses show that the improvement of audit quality is more pronounced in an environment with weaker regulation or exists in unlisted firms, suggesting that independent directors are useful in substituting external governance and mitigating information asymmetry. Last, we also find that the audit quality will further improve after a firm sets up an audit committee, and this improvement is additional to the existing effect of independent directors.