Field Dependence Cognitive Style as a Moderating Factor in Subjects' Perceptions of Auditor Independence

This paper reports the findings of a laboratory experiment designed to assess the moderating role of field dependence cognitive style in the effects of management consultancy services and qualified audit reports on subjects' perceptions of auditor independence. Using an ANOVA repeated-measures experimental design, 22 accountants were administered a questionnaire which contained four scenarios, each representing one of four possible combinations of levels of the two exogenous variables. To measure levels of confidence in the auditors' independence in each of the scenarios, subjects were requested to respond to a seven-point scale. In addition, subjects were classified as field dependent or field independent on the basis of the Group Embedded Figures Test. Results showed that field dependence cognitive style interacted to moderate the effects of management consultancy services and qualified audit reports on subjects' perceptions of auditor independence. The findings suggest that cognitive style is an important moderating variable that affects subjects' perceptions of auditor independence.     

Audit opinion improvement and the timing of disclosure

Companies have been found to report positive information more quickly than they report negative information (i.e., good news early, bad news late). This paper investigates the potential impact of audit opinion change on the timeliness of financial disclosures, with improvements in audit opinion considered to be “good news.” We take both the direction and the magnitude of audit opinion change into consideration, with magnitude measuring how far the opinion is from an unqualified opinion (i.e., an unqualified opinion with explanatory paragraph is closer to an unqualified opinion than a qualified opinion is). We find that firms experiencing an improvement in their audit opinions disclose their financial results earlier, while those with audit opinion deteriorations report their financial results later, and that these effects were related to the magnitude of the opinion change. What's more, there is an asymmetric response to good audit opinion news vs. bad audit opinion news, with bad audit opinion news having a larger effect on earnings timeliness than the effect on earnings timeliness of good audit opinion news. Overall, our results support the “good news early, bad news late” notion. Finally, we also find that overall earnings timeliness has improved in China since the enactment of new reporting regulations in 2006.     

The audit expectation gap: existence,causes, and the impact of changes

Recent regulatory initiatives targeting the statutory audit regime support the notion that the audit expectation gap is still a driver of change. This study seeks to analyse causes of the gap as well as the impact of proposed changes to the current statutory audit regime using an approach that differs from those used in prior literature. This approach allows us to attribute the audit expectation gap under the current regime to a failure of the public, the standard-setter, or the auditor. Based on a questionnaire survey conducted in 2011 in Germany, we find the public to have exaggerated expectations of auditors' responsibilities under current standards. Other causes of the gap relate to the public's difficulty in assessing the performance of auditors, but also to deficiencies in auditors' performance. In addition, we find that auditors are not fully aware of their responsibilities. Increasing the information content of the audit opinion is expected to narrow the gap. By contrast, recent proposed changes, such as mandatory rotation and a ban on non-audit services, may reduce the gap only to a lesser extent. Overall, it can be shown that the audit expectation gap is by its nature a persistent phenomenon comprising complex social aspects and interactions with changing accounting requirements, such as increased uncertainties in accounting estimates.     

An experimental study of users’ responses to qualified audit reports in China

This paper presents the results of an experimental study on users’ responses to the qualification of audit reports in China. By employing the type of audit report (e.g., unqualified vs. qualified auditor opinion) as a manipulated variable in the experiment, we found mixed responses from the participants towards the perceived impact of a qualified audit report on users’ understanding and use of the financial statements. In general, Chinese users, credit and loan officers in particular, perceived a qualified auditor opinion as having a somewhat negative impact on the credibility of financial statements. However, no significant difference was found in users’ investment or credit decisions with respect to their exposure to the financial statements accompanied by an unqualified or a qualified auditor opinion. The study findings suggest that the U.S.-style qualified audit reports have fairly limited “information content” to users in the present Chinese auditing environment and that there is a need to further improve Chinese auditing standards and practices. In addition, the study provides some insights into recent auditing developments in China.     

The Effects of Anticipation and Frequency of Errors on Auditors' Selection of Substantive Procedures

The process of audit planning continues throughout an audit engagement. Preliminary audit plans are developed in the early phases of an engagement, and are revised in light of information received in subsequent phases, such as the results of substantive tests. This study examines the effects of (1) auditors' anticipation of finding a particular error-type in substantive tests and (2) the frequency of occurrence of the error-type on auditors' revision of preliminary audit plans. An experiment was conducted with practising auditors as subjects. Three error-types were manipulated as part of eighteen sets of exceptions from accounts receivable confirmations that each auditor reviewed. We found that auditors who do not anticipate finding an error-type in substantive tests are more likely to increase the amount of planned audit work. No effect of frequency of an error-type within a sample was found.     

National and Office‐Specific Measures of Auditor Industry Expertise and Effects on Audit Quality

Our paper examines whether audit quality is higher for industry audit specialists at the national and city‐office levels using the framework developed in Ferguson et al. [2003] and Francis et al. [2005] . We find that auditors who are both national and city‐specific industry specialists have clients with the lowest abnormal accruals, suggesting that joint national and city‐specific industry specialists have the highest audit quality. In addition, we find some evidence that abnormal accruals of firms audited by city‐industry specialists alone (without also being national specific industry specialists) are lower than those audited by nonindustry specialists. Using alternative measures of audit quality, we find that when the auditor is both a national and a city‐specific industry specialist, its clients are less likely to meet or beat analysts' earnings forecasts by one penny per share and more likely to be issued a going‐concern audit opinion. Together these results provide consistent evidence that audit quality is higher when the auditor is both a national and city‐specific industry specialist, suggesting that auditors' national positive network synergies and the individual auditors' deep industry knowledge at the office level are jointly important factors in delivering higher audit quality.     

Changes in audit effort and changes in auditors’ disclosures of risks of material misstatement

This paper investigates whether auditors' year-to-year modification to risks of material misstatements (RMMs) in extended auditors' reports (EARs) are associated with changes in underlying audit effort, as proxied by changes in audit fees. We examine the dynamics of RMMs over time in terms of adding or dropping specific RMMs. Our main results show that, on average, audit fees increase more from the previous year's fees when more RMMs are added to the current year's EAR. This increase is partially offset by dropping RMMs that were disclosed in the previous year, but changes in audit fees are not significantly affected by dropping RMMs without adding new RMMs. Further analysis suggests the effect of added RMMs is attributable to “new” RMMs originating with the auditor and that added RMMs that were previously known, based on related disclosures in the prior year's audit committee report, do not significantly impact on changes in audit fees. Overall, our results suggest that changes in the choice of RMMs included in EARs reflect changes in underlying audit effort.     

The effect of gender and firm identification on auditor pre-negotiation judgments

This paper extends current auditor negotiation research by considering the effects of two dimensions of auditors' identity that are posited to be relevant to auditors' negotiation: gender and audit firm identification. Women earn over half of college degrees in accounting, and hold more than half of accounting and auditing positions in the US, yet the balance of the gender of partners at audit firms is currently not equal (AICPA, 2017). However, as more women advance into partnership positions in firms, it is increasingly important to have an understanding of how gender affects the behaviors, processes and outcomes of negotiation, and thus the quality of financial statements. The auditor-client negotiation context has features, such as ambiguity and representation of others that can “trigger” the salience of auditors' gender and firm identity. Once salient, these two dimensions of auditors' identity shape auditors' motivational orientation towards negotiations, which, in turn, affects the auditors' negotiation behavior and negotiation outcomes.The study finds that male and female auditors approach the negotiation over audit adjustments differently. Although many negotiation studies find that males negotiate more aggressively than do females, auditor-client negotiation offers a unique setting that has been found to reverse this common trend. We hypothesize and find that female auditors recommend higher audit adjustments than males. However, the level of firm identification moderates female's recommended audit adjustments such that at higher levels of firm identification, the larger audit adjustments recommended by females decrease. This finding is consistent with the growing research on gender differences in auditing and the research on gender and risk tolerance, which find females to be more risk averse, but contrary to much of the negotiation research which shows males as more aggressive and achieving higher negotiated outcomes. In supplemental analysis, we find that our results hold in the senior manager subsample but not in the partner subsample. This result is consistent with theory on gender differences which suggests that the differences will disappear with increased occupational socialization (Smith & Rogers, 2000). Practical implications are discussed.     

Do modified audit opinions for Shanghai listed firms convey heterogeneous information?

This study investigates market reactions to different types of modified audit opinions (MAOs) and unqualified audit opinion with explanatory notes, i.e. quasi-qualification – a unique feature of China's institutional environment. We find that quasi-qualifications contain more significant negative information than clean audit opinions, but less than that in other types of qualified audit opinions. Further, we provide evidence that audit opinions possess significant information heterogeneity in the Shanghai stock market.     

Effects of managerial overconfidence and ability on going-concern decisions and auditor turnover

I examine how the appearance of managerial overconfidence and managerial ability affect 1) auditors' decisions to issue a going concern opinion and 2) auditor dismissal rates after issuing a going concern opinion. Managerial attributes are likely to have an influence on auditors' decisions because auditors obtain and evaluate information about client management's remedy plans when there is substantial doubt about the entity's ability to continue as a going concern. While prior literature on managerial overconfidence classifies all managers who demonstrate overconfident behaviors in one group, I argue that the literature needs to take managerial ability into consideration when measuring overconfidence. I find that auditors are more likely to issue a going concern opinion to clients with seemingly overconfident managers only when the management who appears overconfident is also incompetent. I also find that auditors are more likely to be dismissed after issuance of a going concern opinion when the client company has seemingly overconfident management. Finally, I find that the association between managerial overconfidence and auditor dismissal subsequent to issuance of a going concern opinion is stronger when management is relatively more powerful than the company's audit committee.     

External auditors' willingness to rely on the work of internal auditors: The influence of work style and barriers to cooperation

The extent to which external auditors rely on the work of internal auditors is an important judgment. Recently, the Public Company Accounting Oversight Board has recommended that external auditors “rely (more) on the work of others” to reduce the greater-than-expected costs associated with compliance with Section 404 of the Sarbanes–Oxley Act. Reliance decisions, however, are complex decision tasks that require professional judgment and may be influenced by a number of factors, both external (environmental) and internal (cognitive and affective), including the auditors' working style and pervious experiences related to barriers to external/internal auditor cooperation (e.g., previously experienced low versus high internal auditor objectivity and/or competence). We experimentally examine these influences in our research reported herein. Consistent with expectations, external auditors' work styles significantly influenced the extent of planned audit testing, internal auditor reliance judgments, and interpretation of analytical procedures results. Auditors' perceptions about internal auditors' competence and objectivity, developed over years of interaction, also influenced these judgments, and interacted with work styles. Inconsistent with expectations, auditor rank (senior versus manager) did not influence judgments.     

Auditor independence, self-interested behavior and ethics: some experimental evidence

Our paper presents the results obtained in a laboratory environment in which subjects revealed their beliefs about an uncertain state of the world and then participated in a simple task which required them to report on whether the report of a second party is consistent with the subjects’ beliefs. Because maintaining prior judgements (audit independence) which were in disagreement with the second party’s decision (a potential for a qualified audit opinion) were costly to the subject, a situation was created in which the subject might compromise her beliefs at a price. The results suggest that amoral, self-interested profit-maximizing behavior does not generally characterize the subjects in this experiment. Furthermore, subjects compromise their beliefs less often, i.e., breach independence, the higher their scores on a Defining Issues Test, but more often, the greater the cost of adhering to their beliefs.     

Audit report information content and the provision of non-audit services: Evidence from Spanish lending decisions

This study examines whether auditor economic independence affects the information content of going concern audit reports in the European setting. We conduct an experiment where 80 experienced Spanish loan officers from the second largest European commercial bank review a loan request under two lending scenarios: (1) a potential borrower receiving an unqualified but modified going concern opinion, and (2) a potential borrower receiving a qualified going concern opinion. Auditor economic independence, measured by the provision of non-audit services (NAS), is manipulated (absence vs. presence of significant NAS). We find that a qualified going concern audit report is interpreted as a primary warning signal (death penalty). However, the provision of NAS acts as a second order mechanism that only activates loan officers’ professional skepticism in the case of an unqualified but modified going concern report scenario. Therefore, we find evidence suggesting that the potential negative impact of a perceived lack of auditor independence depends on the nature of the audit report. Our findings have important implications for the European regulator, which is currently considering establishing an auditor independence regulation framework similar to that in the United States of America.     

The turnover intentions of information systems auditors

The turnover rate of Information Systems auditors is an emerging problem for the profession. In his study of factors affecting resource allocations to Information Systems Audit departments, Lucy [Lucy, R.F. Factors affecting information systems audit resource allocation decisions. Thesis, The University of Texas, Arlington, 1998.] found that the average Information Systems (IS) auditor has four years of IS Audit experience. Dunmore [Dunmore D.B. Farewell to the information systems audit profession. Internal Auditor 1989; February:42–48.] argues that this high turnover of IS auditors will limit systems audit knowledge. Unlike prior research investigating turnover intentions of IS auditors, this study specifically includes factors that reflect the higher level needs of IS audit professionals. The need to satisfy personal and professional growth exerts a particularly strong influence on IS auditors' turnover intentions. Further, our study confirms that IS auditors' share similar characteristics to other IS professionals rather than with general accountants and auditors. Organizations wanting to retain their IS auditors should provide regular opportunities for their IS auditors to satisfy their personal growth needs.     

The influence of partners' known preferences on auditors' sceptical judgements: The moderating role of perceived social influence pressure

We examine the moderating effect of auditors' perceived social influence pressure on the influence of partners' known preferences on auditors' sceptical judgements in China. We invoke social influence theory to provide complementary insights into the driving forces behind auditors' judgements, over and above the pressure arising from accountability. We hypothesise that the influence of partners' known preferences on auditors' sceptical judgements is stronger for auditors who perceive higher social influence pressure than those who perceive lower pressure. Our results support the hypothesis and establish the value of understanding auditors' perceived social influence pressure in managing partners' communication with audit teams.     

The Simultaneous Relation Between Auditor Switching and Audit Opinion: An Empirical Analysis

Previous studies examining the relation between the audit opinion and auditor switching assume a one-way causation, with the issuance of a qualified opinion triggering a switch. However, analytical studies dealing with auditor independence issues (e.g., Magee and Tseng, 1990; Dye, 1991; Teoh, 1992) suggest an opposite causation, in which the auditor is less likely to qualify the opinion for a client who may switch auditors. Some evidence of an opposite causation is provided by Krishnan (1994), who finds that auditors treat switchers more conservatively (relative to non-switchers) in issuing the audit opinion. The causation between switching and the audit opinion is clearly important for policy decisions regarding both opinion shopping and auditor independence. In this paper, we test the two-way causation hypothesis and find evidence in support of a two-way causation. Our simultaneity-adjusted estimates confirm previous findings of a positive effect of a qualified opinion on switching (Chow and Rice, 1982; Craswell, 1988; Citron and Taffler, 1992). However, we find in addition that auditors are more likely to issue qualified opinions to switchers. This finding does not support the analytical studies cited earlier.     

A comparison of nearest neighbours,discriminant and logit models for auditing decisions

This study investigates the efficiency of k-nearest neighbours (k-NN) in developing models for estimating auditors' opinions, as opposed to models developed with discriminant and logit analyses. The sample consists of 5276 financial statements, out of which 980 received a qualified audit opinion, obtained from 1455 private and public UK companies operating in the manufacturing and trade sectors. We develop two industry-specific models and a general one using data from the period 1998–2001, which are then tested over the period 2002–2003. In each case, two versions of the models are developed. The first includes only financial variables. The second includes both financial and non-financial variables. The results indicate that the inclusion of credit rating in the models results in a considerable increase both in terms of goodness of fit and classification accuracies. The comparison of the methods reveals that the k-NN models can be more efficient, in terms of average classification accuracy, than the discriminant and logit models. Finally, the results are mixed concerning the development of industry-specific models, as opposed to general models. Copyright © 2007 John Wiley & Sons, Ltd.     

Using client performance measures to identify pre-engagement factors associated with qualified audit reports in Greece

The purpose of this paper is to test the extent to which client (corporate) performance measures can be used to enhance the ability to discriminate between the choice of a qualified or unqualified (clean) audit report. Audit firms face the risk of losing the client if they issue a qualification. On the other hand, failing to qualify exposes the auditor to potential lawsuits and loss of reputation. We examined the financial statements, auditors' opinions, and financial statements notes for companies in Greece that received a qualified audit report and for those that received an unqualified audit report. We modeled the auditor's qualification using a multicriteria decision aid classification method (UTADIS—UTilités Additives Discriminates) and compared it with other multivariate statistical techniques such as discriminant and logit analysis. The qualification decision is explained by financial ratios and by nonfinancial information such as the client litigation. The developed models are accurate in classifying the total sample correctly with rates of almost 80%.     

Signing auditors' cultural background and debt financing costs

This study explores the effect of signing auditors' cultural background on debt financing costs. Using a sample of Chinese listed firms from 2007 to 2019, we find a negative association between signing auditors of Confucian origin and the cost of debt, indicating that signing auditors who grow up in strong Confucian atmospheres increase perceptions of audit quality. Furthermore, empirical results show that signing auditors of Confucian origin enhance accounting information quality. Meanwhile, these signing auditors can obtain high audit fees, attract more clients, and are more likely to be selected by client firms when changing auditors. Additional tests document that signing auditors' gender, education level, and working experience attenuate the negative relationships between signing auditors' Confucian background and debt financing costs. The negative effect of signing auditors' cultural background on debt financing costs is more pronounced in non-state-owned firms and firms with less analyst coverage. This paper extends the literature about the influencing factors of financing costs and provides insights into the economic consequence of culture.     

Seeing is believing? Executives' facial trustworthiness,auditor tenure,and audit fees

Psychology and neuroscience studies document that facial trustworthiness perceptions may affect observers' decision-making process. Our study examines whether auditors' perceptions of client executives' facial trustworthiness are associated with their audit fee decisions. We employ a machine-learning-based face-detection algorithm to measure executives' facial trustworthiness. We find that auditors charge 5.6% less audit fee to firms with trustworthy-looking CFOs than to those with untrustworthy-looking CFOs in initial audit engagements. Auditor tenure weakens the negative association between CFOs' facial trustworthiness and audit fee. Further evidence shows that CFO's facial trustworthiness is associated with neither financial reporting quality nor litigation risk.