The Effect of Form AP on Auditor Liability when Engagement Partner Disclosure Shows a History of Restatements

Engagement partner disclosures required by the new Form AP allow litigants to associate audit engagement partners with both current and past restatements. We investigate how knowledge of a partner's history of restatements, along with audit firm interventions following poor audit quality, impact audit firm liability in litigation stemming from a partner's second, unrelated client restatement. Interestingly, we do not find that a partner's association with a current and past restatement, alone, increases audit firm liability. However, we do find that jurors interpret firm interventions intended to restore audit quality as indicators that the partner contributed to the second audit failure and that audit firm oversight was inadequate. Specifically, we find that both requiring a probationary engagement co-partner after an initial restatement and partner dismissal after a second restatement individually increase juror assessments of audit firm liability. Collectively, our findings represent a Catch-22 of Form AP engagement partner disclosure, whereby audit firm interventions to restore audit quality are expected by regulators, but can increase auditor liability in subsequent litigation settings.

Key audit matter and auditor liability: evidence from auditor evaluators in Thailand

PurposeThis study examines the effects of key audit matter (KAM) disclosures in auditors' reports on auditor liability in cases of fraud and error misstatements using evaluators with audit experience.Design/methodology/approachThe experiment is conducted using 174 professional auditors as participants.FindingsThe participating auditors assess higher auditor liability when misstatements are related to errors rather than when they are related to fraud. In addition, the results also demonstrate that KAM disclosures reduce auditor liability only in cases of fraud and not in cases of errors. Together, the results support the view that KAM reduces the negative affective reactions of evaluators, which in turn, reduce the assessed auditor liability.Research limitations/implicationsThis study did not analyze the setting in which auditors who act as peer evaluators had an opportunity to discuss the case among their peers, which may have affected their judgments.Practical implicationsThe results of KAM disclosures on auditor liability in cases of error and fraud misstatements inform auditors that, different from the auditors' concern that disclosing KAM may increase auditors' legal risk, it tends to decrease or at least have no impact on the liability judgment.Originality/valueThis study contributes to the accounting literature by adding findings on another aspect of KAM in different audit settings, particularly, in the Thai legal environment with different types of undetected misstatements. The current conflicting results on how KAM disclosures affect auditor liability warrant further investigation of this issue in other audit contexts in different countries.

The consequences of disclosing key audit matters (KAMs): A review of the academic literature

Recent years have witnessed a change in the auditor reporting model. One of these developments is the auditor’s issuance of so-called Key Audit Matters in the auditor’s report, where they disclose “those matters that, in the auditor’s professional judgment, were of most significance in the audit of the financial statements of the current period”. In this paper, we review the emerging body of academic research which examines the effects of KAM disclosures in the auditor’s report. We investigate research that has examined the effect of KAM disclosures on (1) investor behavior and market reaction, (2) auditor responses, (3) auditor liability, and (4) client management responses. The objective of this paper is to provide an overview of the existing literature and to summarize the preliminary findings and implications of 22 studies.