+91-9519066910
Sydney NSW 2074, Australia

Assignment

Computing Skills Assignment Help

Matlab Assignment Help

Auditor Independence and Audit Quality

Rating:
Auditor Independence and Audit Quality

Auditor Independence and Audit Quality: A Literature Review

Nopmanee Tepalagul1 and Ling Lin2

Abstract

This article presents a comprehensive review of academic research pertaining to auditor independence and audit quality. This literature review is conducted based on published arti-cles during the period 1976-2013 in nine leading journals related to auditing. We organize our review around four main threats to auditor independence, namely, (a) client impor-tance, (b) non-audit services, (c) auditor tenure, and (d) client affiliation with audit firms. For each of the threats, we discuss findings related to the incentives, perceptions, and beha-viors of the auditor and the client, as well as the effects of each threat on the actual and perceived quality of audits and financial reports. We conclude that the mixed evidence, together with recent regulatory changes, provides opportunities for future research on auditor independence and audit quality.

Keywords

auditor independence, audit quality, client importance, non-audit services, auditor tenure, client affiliation

Introduction

Over the years, regulators have expressed concerns about auditor independence and taken actions to mitigate those concerns. These actions include the passage of the 2002 Sarbanes–Oxley (SOX) Act, which prohibits the auditor from providing most non-audit

Publicly linking the partner’s reputation to the audits which he oversees is believed to improve auditor objectivity and independence.

Auditor independence is important because it has an impact on audit quality.2 DeAngelo (1981a) suggests that audit quality is defined as the probability that

  1. the auditor will uncover a breach and (b) report the breach. If auditors do not remain independent, they will be less likely to report irregularities, thereby impairing audit quality.

  2. As independence is a critical issue for the auditing profession, many studies on this topic have been performed. This article reviews evidence related to auditor independence and audit quality. We organize our review around four main threats to auditor indepen-dence, namely, (a) client importance, (b) non-audit services, (c) auditor tenure, and

  3. client affiliation with audit firms. Auditors have incentives to yield to client pressure to retain major clients and clients purchasing more profitable non-audit services, possibly resulting in compromised independence. Long auditor–client tenure and client affiliation with audit firms create familiarity that may threaten auditor independence and audit quality.

  4. In this article, we review manuscripts published from 1976 to 2013 and limit our search to nine leading journals related to auditing.

  5. Our article contributes to the extant literature in the following aspects. First, we review 1976-2013 manuscripts, thus presenting a com-prehensive review of the literature on auditor independence and audit quality. Second, we include studies conducted in a variety of international settings, including the United States,the United Kingdom, Australia, China, Germany, Norway, Spain, among others. In light of increasing global efforts to enhance auditor independence,

  6.  an updated literature review with an international perspective is warranted. Third, we summarize the literature’s findings and offer suggestions for future research around the four major threats to auditor indepen-dence, which should be useful to academics interested in auditor independence and audit quality, as well as to regulators, investors, and auditors.

  7. The remainder of the article is organized as follows. ‘‘A Framework for Assessing the Impact of Auditor Independence on Audit Quality’’ section discusses the framework for assessing the impact of auditor independence on audit quality. The next four sections, ‘‘Client Importance,’’ ‘‘Non-Audit Services,’’ ‘‘Auditor Tenure,’’ and ‘‘Client Affiliation With Audit Firms,’’ cover previous research findings related to client importance, non-audit services, auditor tenure, and client affiliation with audit firms, respectively. ‘‘Concluding Remarks and Suggestions for Future Research’’ section concludes the article and suggests directions for future research.

A Framework for Assessing the Impact of Auditor Independence on Audit Quality

  • In our framework shown in Figure 1, we offer four dimensions with which to assess the impact of auditor independence on audit quality. These four dimensions, representing four threats to independence, are (a) client importance, (b) non-audit services, (c) auditor tenure, and (d) client affiliation with audit firms. Although these threats would normally reduce independence, they also have some effect on the capabilities of the auditor. impact of the four threats on the quality of audits and financial reports is determined by their net effect on auditor capabilities and auditor independence.

  • Meanwhile, auditors and clients are likely to have different incentives, resulting in dif-fering perceptions of auditor independence and its effects. For example, auditors are less concerned than non-auditors about the independence problem caused by non-audit services (Beaulieu & Reinstein, 2010). These incentives and perceptions cause the behavior of audi-tors and clients, as well as the threats to independence, to differ among firms.

  • In the following literature review, we dedicate one section to each threat. We review the evidence regarding the incentives, perceptions, and behaviors of the auditor and the client, and the effects of each threat on the actual and perceived quality of audit and financial reports.

Client Importance

Auditors are paid by the companies whose financial statements they audit. Economically important clients carry greater weight in an auditor’s portfolio. Therefore, an auditor may have a higher incentive to yield to pressure from larger clients, thereby compromising inde-pendence. Meanwhile, concerns over litigation and reputation may counter this threat. Therefore, whether audit quality is impaired for important clients is an empirical question. Much research has been conducted on this topic. Studies that use modeling techniques pro-vide strong theoretical grounds for archival and experimental studies. However, empirical evidence is mixed.

Auditors’ Incentives, Benefits, and Behavior

Several articles using theoretical modeling investigate the effect of low-balling on auditor independence and audit quality. DeAngelo (1981b) contends that low-balling is sunk costs and will not impair independence. Lee and Gu (1998) argue that low-balling improves independence. However, Magee and Tseng (1990) indicate that the value of incumbency can negatively affect independence if there is a multi-period disagreement on reporting policy. Dopuch and King (1996) report experimental evidence that a high degree of low-balling decreases audit quality in non-competitive market settings. However, an archival study by Gul, Fung, and Jaggi (2009) does not find evidence that low-balling results in impaired audit quality.

  1. Despite the fee structure, some modeling articles suggest that litigation risk would decrease the likelihood of auditors acting in favor of the client (e.g., Farmer, Rittenberg, & Trompeter, 1987). In the case of audit failure, an auditor may be subject to legal actions initiated by regulatory agencies or investors, which would harm auditor reputation and potentially cause the auditor to lose fees from other clients (DeAngelo, 1981a). Therefore, high litigation risk serves as an incentive for auditors to remain independent despite eco-nomic dependency.

  2. In an early study, Deis and Giroux (1992) document that quality-control review findings increase with the number of clients. Wright and Wright (1997) find that auditors are more likely to waive audit adjustments for larger clients.

  3. Most studies examine the association between client importance and independence using the issuance of the audit opinion, including a modified audit opinion (MAO), a qualified audit opinion (QAO), and a going-concern opinion (GCO). Krishnan and Krishnan (1996) document that auditors are less likely to issue QAOs to larger clients when warranted. Similarly, Blay and Geiger (2013) find that higher current and subsequent fees result in a lower likelihood of GCOs.

  4. In Australia, Craswell, Stokes, and Laughton (2002) do not find evidence that indepen-dence is compromised for important clients by examining the propensity to issue a QAO. No such evidence is documented in Norway either, where auditors receiving higher fees are not less likely to issue MAOs (Hope & Langli, 2010). This finding is noteworthy as auditors face lower litigation and reputation risk in a sample of private Norwegian firms, relative to the United States.

  5. Meanwhile, regulatory changes may mitigate concerns that auditor independence is com-promised for significant clients. C. Li (2009) finds that in the pre-SOX period, there is no link between client importance and the auditor’s propensity to issue a GCO. However, in the post-SOX period, this association becomes positive, indicating that larger clients are more likely to receive a GCO. The positive role of regulatory changes in this regard is also documented in a Chinese setting (S. Chen, Sun, & Wu, 2010).

  6. Reynolds and Francis (2001) find that Big 5 auditors are more conservative toward larger clients. Similar findings are reported for non–Big 5 auditors (Hunt & Lulseged, 2007). In contrast, Chi, Douthett, and Lisic (2012) find that Big N partners do not compro-mise their independence for large clients, whereas non–Big N partners do. The negative effect of client importance on partner independence is also documented by Trompeter (1994) and Carcello, Hermanson, and Huss (2000).

 



 DOWNLOAD SAMPLE ANSWER

Details

  • Number of views:
    364
  • PRICE :
    AU$ 230.00
Security Code  
Urgent Assignment Help

Our Top Experts


Karen Betty

Holding a PhD degree in Finance, Dr. John Adams is experienced in assisting students who are in dire need...

55 - Completed Orders


Daphne Lip

Canada, Toronto I have acquired my degree from Campion College at the University of Regina Occuption/Desi...

52 - Completed Orders


Mr Roberto Tuzii

Even since I was a student in Italy I had a passion for languages, in fact I love teaching Italian, and I...

102 - Completed Orders


Harsh Gupta

To work with an organization where I can optimally utilize my knowledge and skills for meeting challenges...

109 - Completed Orders


ARNAB BANERJEE

JOB OBJECTIVE Seeking entry level assignments in Marketing & Business Development with an organization...

202 - Completed Orders


KARAN BHANDARI

Current work profile Project manager- The Researchers Hub (2nd Jan 2016 to presently working) Researc...

20 - Completed Orders


Tan Kumar Ali

Sales Assistant, Mito Marina Assigned to the Stationery dept – assisted in merchandising, stock taking...

100 - Completed Orders


Wesenu Irko

Personal Profile Dedicated and highly experienced private chauffeur. High energy, hardworking, punctua...

200 - Completed Orders


Lizzy Darley

I'm Lizzy, full time education specialist in English, Essay Writing, Economics and Maths. Having Assi...

109 - Completed Orders


CRYSTAL

HSC PREPARATION I specialise in English coaching programs for HSC students. My personalised and results-...

202 - Completed Orders