Abstract

Economic theory suggests that firms going public (IPO) are expected to benefit from designing and maintaining effective controls, which leads to more reliable and timely financial reporting. Consistent with our expectations, we find that IPO firms exhibit fewer material weaknesses in internal controls (SOX 404) than matched non-IPOs for the five years after the IPO. When we partition our sample firms by audit firm size, interestingly, we find that the difference in internal control quality between IPOs and comparable non-IPOs is the most (least) pronounced for the sample with smaller (larger) audit firms. More directly, we show that the benefits of stronger controls include fewer material misstatements and fewer non-timely filings, and these results are directly attributable to the higher internal control quality. Added results indicate that external monitoring from sophisticated investors is a likely explanation for our results.