Audit Committee Effectiveness and Real Earnings Management: The Moderating Role of Financial Leverage on Non-financial Companies Listed on the Nairobi Securities Exchange

The rise in corporate corruption and the prevalence of fraudulent financial practices among non-financial firms listed on the Nairobi Securities Exchange (NSE) have led to the collapse of several reputable companies in Kenya. In light of these concerns, this study investigates how financial leverage moderates the relationship between audit committee effectiveness (ACE) and real earnings management (REM). Specifically, the study aims: (i) to examine the effect of audit committee effectiveness on real earnings management, and (ii) to assess the moderating role of financial leverage in this relationship. The study is grounded in agency theory and supported by the pecking order theory. It adopts a positivist research philosophy, a quantitative approach, and an explanatory research design. A panel data methodology was employed to analyse non-financial firms listed on the NSE that met specific inclusion and exclusion criteria. From a population of 40 listed non-financial firms, the study focused on 26 firms that operated consistently between 2008 and 2023, yielding a balanced panel of 416 firm-year observations. Data was collected from audited financial statements and analyzed using both descriptive and inferential statistics. The results reveal that audit committee effectiveness has a statistically significant negative effect on real earnings management (β = -1.003, p < 0.05). Furthermore, financial leverage significantly moderates this relationship (interaction effect: β = 0.075, p < 0.05). These findings indicate that while strong audit committees play a critical role in reducing earnings manipulation, their effectiveness is weakened under high financial leverage. Practical Implications: Non-financial firms should be cautious in managing debt levels, as high financial leverage undermines the audit committee's capacity to oversee financial reporting and control earnings management. Strengthening audit practices and maintaining prudent leverage policies are essential for sound corporate governance and investor confidence. Originality: This study contributes to the literature by examining how audit committee effectiveness curbs earnings manipulation and how this relationship is influenced by financial leverage. The findings offer valuable insights for investors, regulators, and corporate boards seeking to enhance financial transparency and accountability in emerging markets like Kenya.