Auditors' Reactions to Inconsistencies between Financial and Nonfinancial Measures: The Interactive Effects of Fraud Risk Assessment and a Decision Prompt

2013 ◽  
Vol 26 (1) ◽  
pp. 131-156 ◽  
Author(s):  
Joseph F. Brazel ◽  
Keith L. Jones ◽  
Douglas F. Prawitt
Keyword(s):  
Audit Quality ◽  
Information Source ◽  
Data Availability ◽  
Interactive Effects ◽  
External Auditors ◽  
Fraud Risk ◽  
Nonfinancial Measures ◽  
Production Space ◽  
The Face ◽  
Red Flag

ABSTRACT Nonfinancial measures (NFMs), such as employee headcount and production space, are operational measures that are not included on the face of the financial statements but are often disclosed elsewhere in the annual report or 10-K (e.g., in Management's Discussion and Analysis). Professional standards, auditing texts, and prior research suggest that external auditors can use NFMs to verify their clients' reported financial information and, in turn, improve audit quality. In an initial experiment where auditors develop an expectation for a client's sales balance, they generally fail to identify a seeded inconsistency between the client's sales and related NFMs. In our second experiment, where we introduce an NFM prompt and manipulate fraud risk as high and low, auditors are more likely to react to the inconsistency (i.e., rely more on inconsistent NFMs/develop expectations that reflect the client's current year decline in NFMs) when they are specifically prompted to consider the implications of NFMs and fraud risk is high (versus low). Our results suggest the following: (1) a minority of auditors use NFMs as an information source for testing and do not increase their reliance on NFMs when the NFMs point to a fraud red flag; (2) the presence of high fraud risk alone is insufficient to increase auditor consideration of inconsistent NFMs; (3) auditors are able to react appropriately to an inconsistency if they are effectively prompted; and (4) the influence of a prompt on auditor reliance on NFMs and account balance expectations is stronger when fraud risk is assessed as high. Data Availability: Data are available upon request.

Strategic Audit Inquiry: The Impact of Timing and the Promotion of Statutory Protections on Client Fraud Disclosures

2020 ◽  
Vol 34 (3) ◽  
pp. 153-167
Author(s):  
John R. Lauck ◽  
Stephen J. Perreault ◽  
Joseph R. Rakestraw ◽  
James S. Wainberg
Keyword(s):  
Best Practices ◽  
Audit Quality ◽  
Self Regulation ◽  
Data Availability ◽  
Audit Committees ◽  
External Auditors ◽  
Extant Literature ◽  
Psychological Theories ◽  
Inquiry Process ◽  
The Impact

SYNOPSIS Auditing standards require external auditors to inquire of client-employees regarding their knowledge of actual or suspected fraud (PCAOB 2010b; AICPA 2016). However, the extant literature provides little guidance on practical methods that auditors can employ to increase the likelihood of fraud disclosure and improve audit quality. Drawing upon best practices in the whistleblowing literature and psychological theories on self-regulation, we experimentally test the efficacy of two practical strategies that auditors can employ during the fraud inquiry process: actively promoting statutory whistleblower protections and strategically timing their fraud inquiries. Our results indicate that auditors are more likely to elicit client-employee fraud disclosures by actively promoting statutory whistleblower protections and strategically timing the fraud inquiry to take place in the afternoon, when client-employee self-regulation is more likely to be depleted. These two audit inquiry strategies should be of considerable interest to audit practitioners, audit committees, and those concerned with improving audit quality. Data Availability: From the authors by request.

The Effects of Auditors' Accessibility to “Tone at the Top” Knowledge on Audit Judgments

2014 ◽  
Vol 26 (2) ◽  
pp. 73-96 ◽  
Author(s):  
Regan N. Schmidt
Keyword(s):  
Mental Representation ◽  
Decision Aid ◽  
Audit Quality ◽  
Mental Representations ◽  
Data Availability ◽  
Control Environment ◽  
Audit Process ◽  
Mediation Analyses ◽  
Fraud Risk ◽  
Tone At The Top

ABSTRACT: This study examines how external auditors' accessibility to “tone at the top” knowledge impacts subsequent audit judgments. To examine this relationship, a decision aid is investigated that differentially facilitates the auditors' retrieval of “tone at the top” evidence from memory. Results of an experiment indicate that, holding the client's “tone at the top” constant, the structure of a control environment decision aid influences the auditors' mental representation of the “tone at the top.” Further, favorable “tone at the top” mental representations transfer to induce relatively favorable control environment and fraud risk assessments, and greater reliance on management's explanation for variances detected in analytical procedures. Mediation analyses identify the control environment assessment as a mediator between the influenced mental representation and the subsequent fraud risk and analytical procedure judgments. The results of the paper underscore the importance of how auditors develop their “tone at the top” mental representations, the influence of these mental representations on subsequent audit judgments, and the stage in the audit process where interventions can improve audit quality. Data Availability: Contact the author.

The Effects of Employer and Client Identification on Internal and External Auditors' Evaluations of Internal Control Deficiencies

2012 ◽  
Vol 31 (1) ◽  
pp. 39-56 ◽  
Author(s):  
Chad M. Stefaniak ◽  
Richard W. Houston ◽  
Robert M. Cornell
Keyword(s):  
Internal Control ◽  
Audit Quality ◽  
Data Availability ◽  
Internal Auditor ◽  
Internal Auditors ◽  
External Auditors ◽  
Audit Efficiency ◽  
Public Company ◽  
External Auditor ◽  
Internal Control Deficiencies

SUMMARY The Public Company Accounting Oversight Board's (PCAOB) Auditing Standard No. 5 (AS5) encourages external auditors to rely on internal auditors to increase the efficiency of lower-risk internal control evaluations (PCAOB 2007). We use post-SOX experimental data to compare the levels and effects of employer (client) identification on the control evaluations of internal (external) auditors. First, we find that internal auditors perceive a greater level of identification with the evaluated firm than do external auditors. We also find some evidence that, ceteris paribus, internal auditors are less lenient than external auditors when evaluating internal control deficiencies (i.e., tend to support management's preferred position to a lesser extent). Further, while we support Bamber and Iyer's (2007) results by finding that higher levels of external auditor client identification are associated with more lenient control evaluations, we demonstrate an opposite effect for internal auditors—higher levels of internal auditor employer identification are associated with less lenient control evaluations. Our results are important because we are the first to capture the relative levels of identification between internal and external auditors, as well as the first to compare directly internal and external auditor leniency, both of which are important in light of AS5. That is, we provide initial evidence that external auditors' increased reliance on internal auditors' work, while increasing audit efficiency, also could improve audit quality by resulting in less lenient internal control evaluations, due, at least in part, to the effects of employer and client identification. Data Availability: Contact the first author.

The Effects of Auditor Designation by the Regulator on Auditor Decisions: Evidence from Korea

2019 ◽  
Vol 32 (1) ◽  
pp. 21-36
Author(s):  
Tae Sup Shim ◽  
Su Jin Pae ◽  
Eugene Choi
Keyword(s):  
Audit Quality ◽  
Data Availability ◽  
Research Setting ◽  
External Auditors ◽  
Policy Choices ◽  
External Audits ◽  
Auditor Selection ◽  
Korean Market ◽  
Engagement System ◽  
Quasi Experiment

ABSTRACT The Korean market regulator designates external auditors for certain companies that have strong incentives to manage their earnings or that require strict external audits (the auditor designation system [ADS]). The ADS offers an interesting research setting for examining the effects of transferring the power of auditor selection to the regulator. Based on the results of a quasi-experiment with Korean auditors, we find that the ADS may be effective in reducing aggressive client accounting policy choices and achieve greater consensus in a hypothetical impairment loss recognition case. Although more research is needed on the various types of audit engagement systems, the results imply that the ADS may improve audit quality. Thus, auditor designation by the regulator for certain companies that try to manage their earnings (i.e., the ADS) may be a favorable alternative to the current audit engagement system. Data Availability: Data are available from the authors upon request.

Customer-Base Concentration: Implications for Audit Pricing and Quality

2018 ◽  
Vol 31 (1) ◽  
pp. 129-152 ◽  
Author(s):  
Gopal V. Krishnan ◽  
Panos N. Patatoukas ◽  
Annika Yu Wang
Keyword(s):  
Audit Quality ◽  
Audit Fees ◽  
Customer Relationships ◽  
Data Availability ◽  
Audit Process ◽  
Audit Pricing ◽  
External Auditors ◽  
Customer Base ◽  
Conventional View ◽  
Audit Fee

ABSTRACT What are the implications of major customer dependency, i.e., the degree of a supplier firm's dependency on its major customers, for external auditors? While the conventional view emphasizes the negatives of major customer dependency for client business risk, we find that suppliers with more concentrated customer bases spend less on audit fees. The evidence is consistent with reduced audit effort due to efficiency gains in the audit process, especially when suppliers with more concentrated customer bases share the same auditors with their long-standing major customers. The audit fee discount we identify does not imply that audit quality declines with customer-base concentration. In fact, we find that suppliers with more concentrated customer bases are less likely to experience material restatements of previously audited financial statements. Taking the external auditors' perspective, our study provides new managerial insights on the costs and benefits of major customer relationships for supplier firms. Data Availability: All data are available from sources identified in the text.

scholarly journals LEGAL AUDIT QUALITY AND FRAUD RISK: THE CASE OF TUNISIAN LISTED COMPANIES

2021 ◽  
Vol 6 (2) ◽  
pp. 1-15
Author(s):  
Azhaar Lajmi ◽  
Wided Khiari ◽  
Oumaima Ouertani
Keyword(s):  
Panel Data ◽  
Audit Quality ◽  
Jel Classification ◽  
Panel Regression ◽  
Accounting Fraud ◽  
External Auditors ◽  
Fraud Risk ◽  
Valuable Method ◽  
The Impact

The aim of this study is to examine the impact of legal audit quality on the likelihood of accounting fraud, for a sample of 48 companies listed on the Tunisian stock market over the period between 2014 and 2018. Based on the logit panel regression, we have shown that the audit firm's membership in one of the Big networks and the rotation of external auditors are two major determinants in the reduction of cases of fraud in Tunisian companies. In addition, the results showed that joint audit deteriorates the quality of auditing and thus increases the risk of fraud. This study provides new insights in terms of legal audit and fraud risk in the Tunisian context based on the econometrics of panel data, which is a valuable method to measure the impact of several actions alone or simultaneously. It has allowed us to analyze the behaviors of companies by considering the effect of many proxies of legal audit quality. JEL Classification Codes: G32, M42, C23.

Nonfinancial Measures and Fraud Risk:Evaluating Investors’ Reactions to Greater Transparency

2021 ◽  
Author(s):  
Joseph F. Brazel ◽  
Tina Carpenter ◽  
Keith Jones ◽  
Jane Thayer
Keyword(s):  
Financial Reporting ◽  
Relevant Information ◽  
Fraudulent Financial Reporting ◽  
Financial Measures ◽  
Nonprofessional Investors ◽  
Fraud Risk ◽  
Nonfinancial Measures ◽  
Red Flag ◽  
The Individual ◽  
Reporting Environment

We examine whether increased transparency in the comparison of financial measures and nonfinancial measures (NFMs) influences nonprofessional investors’ reactions to the risk of fraudulent financial reporting. We consider a comparison of key financial measures and NFMs to be transparent when the relevant information is presented in close proximity and formatted to provide an easy comparison of the individual measures. We manipulate the presence of an NFM red flag and the transparency of the comparison of financial measures and NFMs. We find that when the NFM red flag is present (i.e., higher fraud risk) and transparent, investors choose lower investment levels. However, without increased transparency, as is typical in the current reporting environment, we observe that investors are more likely to increase their investment levels in firms with elevated fraud risk. Additionally, we observe that the effect of transparency on investment levels is driven by investors with greater investing experience.

scholarly journals Determinants of Audit Firm Selection Decision: A Qualitative Study of Firms Listed on Pakistani Stock Exchange (PSX)

2020 ◽  
Vol 9 (4) ◽  
pp. 212-222
Author(s):  
MUHAMMAD NAVEED ◽  
ALIA QADIR ◽  
MUHAMMAD UMER
Keyword(s):  
Audit Committee ◽  
Audit Quality ◽  
Stock Exchange ◽  
Information Source ◽  
Audit Committees ◽  
External Audit ◽  
Audit Firm ◽  
External Auditors ◽  
Selection Decision ◽  
Main Determinants

The objective of this study is to offer detailed and updated overview of the factors perceived by the audit committee members to select external auditors. Moreover, the study aims to explore that what are the main determinants perceived by the clients from their external auditors. Qualitative research design is used, and open-ended interviews has been conducted to explore the phenomena under investigation. The contextual setting of the study is provided by financial firms listed on Pakistan stock exchange (PSX-100). The study finds that management continues to provide input into the selection decision of external auditors because the audit committees view management as an important information source. Audit committee seeks input from management to assess the external audit accessibility, reputation, firm’s industry knowledge and technical expertise. The result of the study suggests that more regulations are required to liable the audit committees for selecting external audit firm. The management input raises the audit risk and mitigate the audit independence. The findings remain robust for audit firms and companies looking for an independent and transparent relationship. Also, the study has implications to build transparent financial disclosure practices. Keywords: Audit Quality, Pakistan Stock Exchange, Clients Perceived Value.

Internal Auditors' Fraud Judgments: The Benefits of Brainstorming in Groups

2011 ◽  
Vol 30 (3) ◽  
pp. 211-224 ◽  
Author(s):  
Tina D. Carpenter ◽  
Jane L. Reimers ◽  
Phillip Z. Fretwell
Keyword(s):  
Financial Reporting ◽  
Group Interaction ◽  
Data Availability ◽  
Fraudulent Financial Reporting ◽  
Internal Auditors ◽  
External Auditors ◽  
Fraud Risk ◽  
Nominal Groups ◽  
Psychology Theory ◽  
Group Brainstorming

SUMMARY Recent fraud scandals have encouraged actions by standard-setters to improve both corporate governance among firms and auditors' fraud investigations. Internal auditors are now viewed as playing an important role in reducing fraudulent financial reporting. Although brainstorming is not required by internal auditors, researchers and leaders in the profession suggest that it may be helpful to internal auditors in assessing and identifying risks. In this study, we investigate whether the group interaction associated with brainstorming is necessary to reap the benefits of brainstorming for internal auditors' fraud judgments. Guided by psychology theory on cognitive load, we also examine whether this group interaction can reduce a response mode bias that auditors have exhibited when assessing risk. Consistent with prior research on external auditors, we find that internal auditors who brainstorm in groups identify fewer fraud risks (i.e., quantity) than nominal groups of individual auditors who brainstorm alone, but brainstorming groups identify more quality fraud risks than nominal groups. Further, we find that auditors who assess risk qualitatively generally provide higher fraud risk assessments than those auditors who assess risk quantitatively. However, after group brainstorming this bias is reduced. Data Availability: Contact the authors.

Pengaruh Independensi, Kompetensi, Dan Pengalaman Kerja Auditor Terhadap Kualitas Audit

2012 ◽  
Vol 4 (2) ◽  
pp. 91-110
Author(s):  
Caroline Sytha Sunarta ◽  
Suhajar Wiyoto
Keyword(s):  
Audit Quality ◽  
Multiple Regression Model ◽  
Future Research ◽  
Survey Area ◽  
Process Data ◽  
External Auditors ◽  
Job Experience ◽  
Independent Variables ◽  
One Year ◽  
Public Accountant

The objective of this research is to examine the effect of auditor’s independency, competency, and job experience towards audit quality.This research is conducted by using method survey to public accountants (external auditors) that working settled in Public Accountant Firm (KAP) in Jakarta and Tangerang, in 2012 and have one year minimum experience, as respondents with type research of causality. Using likert scale as an instrument (questionaire) for measure auditor’s perceptions about the independency, competency, and job experience that influence audit quality. From 150 questionaire distributed, returned was 109 questionaire, and 24 not complete, so that only 85 questionaire could be process. Data analysis conducted with multiple regression model. The hypotheses tested are revealed as that independency, competency, and job experience have influence to audit quality as well as partially and simultaneously. The result of the test showed empirical testimony that auditor’s independency, competency, and job experience as well as simultaneously significantly influence audit quality. Partially, independency, competency, and job experience also have significant influence to audit quality. Future research expected can extend survey area coverage and add more independent variables that can have influence to audit quality. Keywords: independency, competency, job experience, audit quality.

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