Audit committee financial expertise,corporate governance,and the voluntary switch from auditor-provided to non-auditor-provided tax services

A prime objective of the SOX is to safeguard auditor independence. We investigate the relation between audit committee quality, corporate governance, and audit committees' decision to switch from permissible auditor-provided tax services. We find that firms with more independent boards, audit committees with greater accounting financial expertise, higher stock ownership by directors and institutions, that separate the CEO and Chairman of the board positions, and with higher tax to audit fee ratios are more likely to switch to a non-auditor provider. Further, we document that firms are more likely to switch prior to issuing equity. We find no evidence that broad financial expertise on audit committees is related to the switch decision, suggesting that the SEC's initial narrow definition of expertise is more consistent with the objective of the SOX. Overall, our results suggest that accounting financial expertise and strong corporate governance contribute to enhanced audit committee monitoring of auditor independence.     

Audit committee quality indices,reporting quality and firm value

We investigate the relation between audit committee (AC) quality indices, financial reporting, internal control quality and firm value using a US dataset for the period 2002–12. The indices are developed by linking firm value with principal component analysis (PCA) factors based on a broad set of 82 AC variables, some of which influence the quality of the AC, but are not addressed in prior literature. Significant AC factors include ‘overlapping directors’, ‘busyness’ and ‘foreign director’, and we use these factors to develop ‘high’ and ‘low’ AC quality indices. We show that low AC quality firms are more likely to manage earnings, be external auditor dependent with respect to non‐audit tax services, and switch to a lower quality auditor. Low AC quality firms are also more likely to have internal control concerns disclosed by predecessor auditors, including accounting issues, financial restatements, audit opinion concerns and deficiencies that undermine internal control effectiveness. Further, they are more likely to receive an audit report containing additional explanatory notes. Conversely, high AC quality firms are significantly less likely to have these concerns. Our findings highlight the value of using AC quality indices in delivering greater oversight of the financial reporting process.     

The effect of auditor IT expertise on internal controls

Material weaknesses in internal controls related to information technology (IT) represent unique threats to organizations. Utilizing the external auditor as an example of an externally observable governance mechanism, we investigate if firms with revealed IT internal control deficiencies employ a strategy of disassociation with their current auditor. Our tests show that prior evidence of disassociation strategies hold in both IT and non-IT contexts. Of particular focus to our study, we document a positive association between firms that report IT material weaknesses and subsequent auditor dismissals or switching. We next investigate the potential internal control benefits of switching to auditors with greater expertise in environments that emphasize the importance of IT. We argue that greater audit firm IT expertise promotes improved internal controls for their clients, especially those controls that are dependent on IT. We find that clients that switch to auditors with greater IT expertise, relative to their former auditor, have a greater likelihood of material weakness remediation within one year of reporting control weaknesses. Complementing these findings, we find that audit IT expertise is negatively associated with both non-IT and IT material weaknesses in an ex ante reporting setting. Prior literature takes a longstanding interest in both the incentive for developing auditor expertise and the effects of that expertise. We contribute to this literature stream by providing additional evidence related to a specific type of expertise.     

Corporate governance,SFAS 157 and cost of equity capital: evidence from US financial institutions

This study examines the association between fair value measurements and the cost of equity capital under different fair value valuation methods, and assesses the impact of corporate governance on this relationship for US financial firms. We find that firms’ cost of equity capital is negatively associated with more verifiable fair value assets and positively related to less verifiable fair value assets. Furthermore, the positive association between less verifiable fair value assets and the cost of equity capital is mitigated under better corporate governance. The differential impact between more and less verifiable assets becomes smaller for firms with stronger governance. Our findings contribute to the ongoing debate on fair value regulation by investigating the economic consequences of adopting Statement of Financial Accounting Standards No. 157, Fair Value Measurements (SFAS 157) and the importance of audit committee financial expertise on fair value reporting. We also provide evidence on the importance of board independence, internal control strength, auditor industry specialists, and audit committee financial experts in fair value reporting.     

On the effort-saving effect of audit committee–auditor interlocking

Using unique data on audit hours from China, this paper investigates the effort-saving effect of the audit committee–auditor interlocking (AClk). We find that AClk is negatively associated with audit effort without any deterioration in audit quality. The results suggest that AClk has an effort-saving effect through information sharing between interlocked audit committee members and auditors. However, auditors retain the effort-saving benefits of AClk without sharing them with their client firms. Further analysis shows that the effort-saving effect of AClk is more pronounced for client firms whose auditors have industry expertise, for client firms that share the same individual auditor, or for client firms that share audit committee members with financial expertise.     

Audit Committee Effectiveness and Financial Reporting Quality: Implications for Auditor Independence

Auditors participating in a survey identified oversight of financial reporting and the external audit process, and ensuring quality internal controls, as the most important functions of effective audit committees. Financial literacy or expertise, independence, and a strong commitment to perform the job effectively were noted as important attributes. The results also suggest that although audit committees have enough power to confront management on contentious issues, they are not very effective in helping to resolve financial reporting disputes. Management was identified as a key influence in affecting the nature, extent, and quality of communication between the auditor and the audit committee. Most auditors believe that it is not important for each member of the audit committee to be an expert, but it is important that they are financially literate.     

Investor perceptions of the earnings quality consequences of hiring an affiliated auditor

The Sarbanes–Oxley Act (SOX) requires that firms wait 1 year before hiring an individual employed as a member of the external audit team. SOX’s intent is to reduce the perceived loss of auditor independence due to affiliated hiring. SOX also requires fully independent audit committees and disclosure of directors with financial expertise. Using a sample of financial executive hires during the pre-SOX period, we find that earnings response coefficients (ERCs) decline following hires of individuals recently employed by the firm’s external auditor, but ERCs do not decline following hires not recently employed by the external auditor. We also find smaller ERC declines following affiliated hires for firms with audit committee compositions consistent with subsequently imposed SOX requirements. Further investigation using measures of earnings quality suggests that differences in ERC changes are attributable to perceived, rather than real, changes in earnings quality following affiliated hires.     

Effects of audit committee chair characteristics on auditor choice,audit fee and audit quality

We investigate whether the characteristics of audit committee (AC) chairs are associated with decisions about auditor choice, audit fees and audit quality. Using hand-collected Australian data, firms with AC chairs who have longer tenure and multiple AC memberships across several boards are found to be more likely to choose Big 4 and/or industry specialist auditors, pay higher audit fees and have lower discretionary accruals. Those AC chairs with higher business qualifications are more likely to hire a Big 4 auditor, pay higher audit fees and have lower discretionary accruals, while AC chairs with professional qualifications are more likely to hire a Big 4 and/or industry specialist auditor. In contrast, firms with AC chairs who are executive directors are less likely to hire a Big 4 auditor and have higher discretionary accruals. Our findings contribute to the literature by documenting that various characteristics of AC chairs are important for enhancement of auditor selection and audit quality.     

审计委员会特征与会计师事务所变更的经验研究

本文以会计师事务所变更为视角,探讨具备怎样特征的审计委员会才能有效履行其职责。研究表明:审计委员会的独立性和专业性与会计师事务所变更显著负相关;审计委员会的开会次数与会计师事务所变更没有显著关系,说明审计委员会的存在有助于减少会计师事务所变更。但在对会计师事务所变更的进一步研究中,我们并没有发现会计师事务所变是为了追求更高审计质量的进一步证据,也说明审计委员会对会计师事务所变更的影响仍然有限。这些研究结论为完善我国审计委员会制度提供了经验证据。     

Effective board monitoring over earnings reports and forecasts: Evidence from CFO outside director appointments

Prior evidence that firms adjust their board structure following accounting restatements suggests that firms expect the board to effectively monitor the firm’s financial accounting system. However, little is known about signals firms use to identify monitoring weaknesses or the types of individuals firms appoint to improve the quality of monitoring. We expand on Ghannam, Bujega, Matolcsy, and Spiropolous (2019)’s evidence that firms appoint directors with accounting experience after financial fraud by investigating whether firms that file restatements or issue highly inaccurate earnings forecasts appoint individuals with CFO experience (i.e., a subset of accounting experts) to their audit committee. We find that firms are more likely to appoint an outside director with CFO experience to the audit committee when they have recently restated earnings and when they have higher prior management forecast error. We also find that the appointment of a CFO outside director to the audit committee is followed by a lower likelihood of restatement and more accurate management forecast. Together, our results suggest that firms respond to accounting failures by appointing outside directors with CFO experience. Thus, we provide insight into the signals firms use to identify weaknesses in the monitoring of the accounting function and the types of expertise firms value in addressing those weaknesses.