Does board independence substitute for external audit quality? Evidence from an exogenous regulatory shock

2017 ◽  
Vol 43 (1) ◽  
pp. 27-41 ◽  
Author(s):  
Pornsit Jiraporn ◽  
Pandej Chintrakarn ◽  
Shenghui Tong ◽  
Sirimon Treepongkaruna
Keyword(s):  
Natural Experiment ◽  
Audit Quality ◽  
Causal Effect ◽  
Board Independence ◽  
Difference In Difference ◽  
External Audit ◽  
Effective Governance ◽  
Sarbanes Oxley ◽  
Big 4 ◽  
Quality Evidence

Exploiting the passage of the Sarbanes–Oxley Act (SOX) as an exogenous regulatory shock, we investigate whether board independence substitutes for external audit quality. Based on over 14,000 observations across 18 years, our difference-in-difference estimates show that firms forced to raise board independence are far less likely to employ a Big 4 auditor. In particular, board independence lowers the propensity to use a Big 4 auditor by approximately 38%. Firms with stronger board independence enjoy more effective governance and therefore do not need as much external audit quality as those with less effective governance do. Based on a natural experiment, our empirical strategy is far less vulnerable to endogeneity and is thus considerably more likely to show a causal effect, rather than merely an association.

Non-CPAs and Office Audit Quality

2020 ◽  
Vol 34 (3) ◽  
pp. 169-191 ◽  
Author(s):  
Matthew G. Sherwood ◽  
Albert L. Nagy ◽  
Aleksandra B. Zimmerman
Keyword(s):  
Human Resources ◽  
Growth Regulators ◽  
Audit Quality ◽  
Data Availability ◽  
External Audit ◽  
Accounting Firms ◽  
Sarbanes Oxley ◽  
Big 4 ◽  
Jel Classifications

SYNOPSIS During the time surrounding the Sarbanes-Oxley Act of 2002, the Big 4 firms either spun-off or downsized their consulting practices. However, in recent years, consulting service lines of the large accounting firms have seen a dramatic resurgence and growth. Regulators have taken notice of, and expressed concern over, this renewed focus on consulting. The accounting firms claim that such services enhance audit quality, mainly due to the prominent role of non-accounting specialists in today's external audit function. This study examines whether the availability of non-CPAs in U.S. Big 4 firm offices is associated with audit quality. We find that greater access to non-CPAs in the office is associated with higher audit quality and conclude that office audit quality is not just a function of audit-specific human resources but also the availability of non-CPAs to support audit engagement teams. JEL Classifications: M41; M42. Data Availability: All data are publicly available from sources identified in the study.

Exploring how independent directors view CSR inequality using a quasi-natural experiment

2020 ◽  
Vol 20 (6) ◽  
pp. 1159-1172 ◽  
Author(s):  
Viput Ongsakul ◽  
Napatsorn Jiraporn ◽  
Pornsit Jiraporn
Keyword(s):  
Natural Experiment ◽  
Causal Effect ◽  
Principal Component ◽  
Independent Directors ◽  
Board Independence ◽  
Content Type ◽  
Instrumental Variable Analysis ◽  
Sarbanes Oxley ◽  
The Difference ◽  
Corporate Social

Purpose The purpose of this paper is to explore corporate social responsibility (CSR) inequality, which is the inequality across different CSR categories. Higher inequality suggests a less balanced CSR policy. To determine if CSR inequality is beneficial or harmful, this paper investigates how independent directors view CSR inequality, using an exogenous regulatory shock introduced by the passage of the Sarbanes–Oxley Act. Design/methodology/approach To draw causality, this study relies on a quasi-natural experiment based on an exogenous regulatory shock that forced certain firms to raise board independence. This approach is significantly less vulnerable to endogeneity and is much more likely to show a causal effect. The results using propensity score matching, principal component analysis and instrumental-variable analysis are confirmed. Findings The difference-in-difference estimates show that independent directors view CSR inequality unfavorably. Specifically, board independence diminishes CSR inequality by approximately 34%-43%. Because the empirical strategy is based on a quasi-natural experiment, the results are more likely to show causality. The results also imply that CSR inequality is a crucially important aspect of CSR. Originality/value Although a substantial volume of research has examined CSR, one vital aspect of CSR has been largely unexplored. Filling this void in the literature, the CSR inequality is investigated. The study is the first to explore how independent directors view CSR inequality using a quasi-natural experiment.

Auditor Tenure and the Timeliness of Misstatement Discovery

2017 ◽  
Vol 93 (2) ◽  
pp. 315-338 ◽  
Author(s):  
Zvi Singer ◽  
Jing Zhang
Keyword(s):  
Natural Experiment ◽  
Audit Quality ◽  
Client Engagement ◽  
Audit Firm ◽  
Auditor Tenure ◽  
Sarbanes Oxley ◽  
Auditor Change ◽  
Negative Effect ◽  
Extended Analysis ◽  
Arthur Andersen

ABSTRACT Using the timeliness of misstatement discovery as a proxy for audit quality, we examine the association between audit firm tenure and audit quality in a setting that alleviates the endogeneity problem endemic to this line of research. We find that longer audit firm tenure leads to less timely discovery and correction of misstatements, which is consistent with a negative effect of long auditor tenure on audit quality. In addition, using the non-voluntary auditor change following the demise of Arthur Andersen in 2002 as a natural experiment, we show that the misstatements of its former clients were discovered faster than those of comparable companies that retained their auditors throughout the misstatement. This finding speaks to the benefit of a fresh look by a new auditor. An extended analysis shows that longer auditor tenure also leads to misstatements of greater magnitudes, and that the Sarbanes-Oxley Act has mitigated, but not eliminated, the negative effect of long auditor tenure. Last, we show that the negative association between auditor tenure and timely discovery of misstatements is mainly present in the first ten years of an audit engagement. Our study has implications for regulators who continue to express concern regarding lengthy auditor-client engagement. JEL Classifications: K22; K23; L51; M41; M42; M48.

Board characteristics, external auditing quality and earnings management

2014 ◽  
Vol 4 (1) ◽  
pp. 79-96 ◽  
Author(s):  
Neila Boulila Taktak ◽  
Ibtissem Mbarki
Keyword(s):  
Earnings Management ◽  
Management Practices ◽  
Audit Quality ◽  
Good Practice ◽  
Board Structure ◽  
External Audit ◽  
Content Type ◽  
Board Characteristics ◽  
Big 4 ◽  
The Impact

Purpose – The purpose of this paper is to examine the impact of board characteristics and external audit quality on earnings management among major Tunisian banks over the period 2003-2007. Design/methodology/approach – Multivariate regressions are employed to test the effect of board structure and external audit quality on discretionary provisions as a proxy for earnings management. Findings – Results indicate that among the characteristics of the board, CEO duality is associated with higher levels of discretionary provisions. However, the presence of directors affiliated to the largest shareholder tends to constrain earnings management practices. The results reveal also that a co-audit belonging to the BIG 4 provides incentives to manage earnings while the capacity of the external auditor to disclose reservations impacts negatively the manager's discretion. Practical implications – First, it is not desirable to appoint a co-audit both belonging to the BIG 4. Second, the presence of affiliated directors reduces the discretionary practices except in cases where directors are affiliated to families. In this case, banks should strengthen the presence of independent directors. Finally, the delineation of the leeway left in the Tunisian accounting standards would provide more transparent financial information. Originality/value – This study contributes to the literature on governance and its impact on earnings management among Tunisian banks by introducing two variables that have not been tested before which are affiliated directors and co-audit. The paper will be of value to banks willing to comply with the Governance Good Practice Guide adopted recently in Tunisia.

Market Reaction to Auditor Switching from Big 4 to Third-Tier Small Accounting Firms

2010 ◽  
Vol 29 (2) ◽  
pp. 83-114 ◽  
Author(s):  
Hsihui Chang ◽  
C. S. Agnes Cheng ◽  
Kenneth J. Reichelt
Keyword(s):  
Stock Market ◽  
Audit Quality ◽  
Market Reaction ◽  
Accounting Firms ◽  
Auditor Switching ◽  
Sarbanes Oxley ◽  
Big 4 ◽  
Period 2 ◽  
Prior Literature ◽  
Second Tier

SUMMARY: After the demise of Arthur Andersen, the public accounting industry has witnessed a significant migration of public clients to second-tier (Grant Thornton and BDO Seidman) and smaller third-tier accounting firms. While prior literature documents that smaller auditors are perceived by the stock market as an inferior substitute for a Big 4 auditor, this perception appears to have changed in recent years. In this paper, we analyze market responses to auditor switching from Big 4 to smaller accounting firms during 2002 to 2006. We break our sample period into two separate periods (Periods 1 and 2) based on when regulatory changes occurred. These changes included Sarbanes-Oxley (SOX) 404 implementation, Public Company Accounting Oversight Board (PCAOB) inspections, and a tightened Form 8-K filing deadline. We find a relatively more positive stock market reaction to clients switching from a Big 4 to a smaller third-tier auditor in Period 2. This relatively more positive reaction in Period 2 reflects companies seeking better services rather than a lower audit fee, when an audit quality drop is less likely. Overall, our results suggest that companies and investors have become more receptive to smaller accounting firms.

Comparing the Auditor Quality of Arthur Andersen to that of the Big 4

2006 ◽  
Vol 6 (1) ◽  
pp. 135-161 ◽  
Author(s):  
Ross D. Fuerman
Keyword(s):  
Audit Quality ◽  
Public Accounting ◽  
Securities Litigation ◽  
Accounting Firms ◽  
Sarbanes Oxley ◽  
Big 4 ◽  
Auditor Quality ◽  
The Individual ◽  
Arthur Andersen

This study compares the audit quality of Arthur Andersen with that of the Big 4 accounting firms. An expanded indicator of audit quality is developed based on the law of business misconduct literature and the legal process literature. A representation of audit quality is derived from an analysis of the legal actions initiated against these five large public accounting firms from 1996 to 2004. The legal action was partitioned into three year periods. In the first period, Arthur Andersen and the Big 4 evidenced no quality differential. In the second and third periods, the Big 4, in aggregate, rated higher on the audit quality indicator than did Andersen. The robustness of these findings is substantiated using multiple logistic regression and sensitivity analysis. When the individual firms are compared with Andersen, all four evidenced higher audit quality; three of the firms are significantly higher. This suggests that Andersen represents an outlier within the audit population. However, the analysis also indicates that overall audit quality declined in the period immediately following the passage of the Private Securities Litigation Reform Act of 1995. This suggests that the Sarbanes-Oxley Act provisions directed toward remedying auditing deficiencies is justified and not an overreaction to a “few bad apples.”

Corporate Governance, Audit Quality, and the Sarbanes-Oxley Act: Evidence from Internal Audit Outsourcing

2007 ◽  
Vol 82 (4) ◽  
pp. 803-835 ◽  
Author(s):  
Lawrence J. Abbott ◽  
Susan Parker ◽  
Gary F. Peters ◽  
Dasaratha V. Rama
Keyword(s):  
Audit Quality ◽  
Internal Audit ◽  
Auditor Independence ◽  
Audit Committees ◽  
Internal Auditing ◽  
External Audit ◽  
Internal Auditor ◽  
Sarbanes Oxley ◽  
External Auditor ◽  
Audit Activity

This study extends current literature related to nonaudit services by investigating internal audit outsourcing to the external auditor. We posit that certain types of internal audit outsourcing (i.e., those which are nonroutine, and thus tend to be nonrecurring in nature) are unlikely to lead to economic bonding, while offering significant potential for improvements in audit coverage and scope when provided by the external auditor. Alternatively, outsourcing routine internal audit tasks is more likely to lead to economic bonding, as well as potentially threatening internal auditor independence. Our results are consistent with firms with independent, active, and expert audit committees being less likely to outsource routine internal auditing activities to the external auditor. However, the outsourcing of nonroutine internal audit activities such as special projects and EDP consulting are not negatively related to effective audit committees. Additionally, outsourcing of either type of internal audit activity to an outside service provider other than the external auditor is not related to effective audit committees. Collectively, we interpret these findings as supportive of an effective audit committee's ability to monitor the sourcing of the firm's total (i.e., internal and external) audit coverage, while simultaneously exhibiting concern for external auditor independence.

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