Collusion, Incentives and Reputation: The role of Experts in Corporate Governance

We demonstrate that CEOs with higher agency costs and experts (audit firms etc.) with imprecise signals have strong tendencies to manipulate information jointly. To deter their collusion, firms must design both incentive contracting and elicit the expert’s reputation for honesty using optimal and probabilistic contract renewals. These two mechanisms work only with abler experts and CEOs with lower agency costs. The expert’s skills to obtain precise information and her reputation are positively correlated. Reputable experts enjoy larger life-time earnings, have longer- term relationships with clients, contribute to corporate governance by facilitating their information disclosures truthfully and transparently at lower costs.