Conclusions
Our study examines the relationship between ICE quality and internal control quality, and the effect of monitoring on this relationship. Based on the input-process-output theory and agency theory, we argue that high quality ICEs increase the human capital investments in the design and implementation of internal control process, thus increasing internal control quality. Furthermore, effective monitoring can alleviate the agency problem between top managers and employees and further improve the positive effect of ICE quality on internal control quality. Using special survey data from Chinese listed firms, we find that ICE quality has a significant positive influence on internal control quality, and this positive effect is more pronounced for firms in a strict monitoring environment. In particular, we find that the positive effect is more significant when firms implement CSOX, have higher institutional ownership, or attach great importance to internal control. Our results are robust to the misreporting problem of internal control weaknesses, endogeneity bias and chairman turnover. Our research not only complements the literature on internal control and employee agency problem in theory, but also has important implications for practical corporate decisions on ICE allocation and monitoring. A fruitful extension of our research would be to investigate the paths and mechanisms through which ICEs influence internal control quality. Such analyses would help to develop a clearer picture of the functions of ICEs.
