Share price response to the SEC administrative proceedings against Chinese auditors

Purpose The purpose of this study is to examines whether clients’ share prices responded to three events, including the Securities and Exchange Commission (SEC) launch of administrative proceedings against five Chinese accounting firms on December 3, 2012, for their failure to hand over audit work papers due to conflict of jurisdiction; the issuance of SEC Administrative Law Judge Elliot’s ruling on January 22, 2014; and the settlement of the administrative proceedings on February 6, 2015. Design/methodology/approach This study uses the Schipper and Thompson approach. Findings It is found that share prices responded negatively around December 3, 2012, for USA-listed Chinese companies who were audited by Chinese auditors. Originality/value This study provides evidence on how share prices reacted to SEC enforcement actions against an affair of non-audit failure.

Does the use of honorific appellations in audit reports connote higher financial misstatement risk? Evidence from China

Purpose From the sociolinguistic perspective, the purpose of this paper is to examine whether the honorific and actual-name appellations that Chinese auditors use to address clients in audit reports connote differential financial misstatement risk. Specifically, the authors hypothesize that auditors’ use of honorifics signals their inferior social status relative to their clients, thereby leading to compromised auditor independence, lower audit quality, and higher financial misstatement risk. Design/methodology/approach The authors use a sample of manually coded appellation data from audit reports of Chinese public firms between 2003 and 2012 to conduct the research. Findings The authors find significantly greater financial misstatements, both in terms of likelihoods and magnitudes, for companies addressed by honorifics than for those addressed by actual names. Moreover, compared to auditors’ consistent honorific usage, discretionary honorific usage has a stronger positive association with misstatements. The authors further show that the positive association between honorific usage and client misstatement risk weakens when the audit firm is a Top 10 accounting firms in China, is an industry specialist, is formed as a partnership, or resides in a more concentrated audit market. Originality/value This study contributes to the sociolinguistics literature in accounting and provides evidence supporting the reform proposed by the International Auditing and Assurance Standards Board to enhance the usefulness of audit reporting.

Detecting fraud in Chinese listed company balance sheets

Purpose This paper aims to investigate the links between accounting values in Chinese listed companies’ balance sheets and the exposure of their fraudulent activities. Design/methodology/approach Every balance sheet account is proposed to be a potential vehicle to manipulate financial statements. Findings Other receivables, inventories, prepaid expenses, employee benefits payables and long-term payables are important indicators of fraudulent financial statements. These results confirm that asset account manipulation is frequently carried out and cast doubt on earlier conclusions by researchers that inflation of liabilities is the most common source of financial statement manipulation. Originality/value Previous practices of solely scaling balance sheet values by assets are revealed to produce spurious relationships, while scaling by both assets and sales effectively detects fraudulent financial statements and provides a useful fraud prediction tool for Chinese auditors, regulators and investors.

Does regulator designation of auditors improve independence?

Purpose The practice of management having control over auditor appointment and compensation is believed to be a fundamental cause for the lack of auditor independence. While researchers propose alternative auditor appointment procedures to improve auditor independence, there are a few settings that allow researchers to examine alternative auditor appointment procedures such as regulator designation of auditors. This research aims to investigate the effects of regulator designation of auditors and litigation risk on auditor independence in a Chinese setting Design/methodology/approach This study adopts a 2 × 2 between-subjects experimental design. A total of 110 surveys were sent out and 81 were collected from eastern China. Findings The results of an experiment with 81 Chinese auditors indicate that regulator designation of auditors improves auditor independence. In particular, auditors designated by the regulator feel less pressure from the audited company, perceive themselves to be more independent and are more willing to challenge the audited company’s aggressive financial reporting compared with those directly hired by the company. In addition, litigation risk moderates the effect of regulator designation of auditors on auditor independence such that regulator designation of auditors has a stronger impact on auditor independence when the litigation risk is low. Research limitations/implications This study is also subject to limitations. First, regulator designation of auditors in China was examined. While regulator designation of auditors seems to improve auditor independence in the Chinese context, it is unclear if the same results will be observed in other economies, as China is a unique setting. For example, the majority of listed companies in China are under the control of government-related agencies. Consequently, the government has significant power in influencing auditor appointment policy. In contrast, the majority of other economies are more market-oriented with less government influence. Future studies in other markets will further enrich the understanding on regulator designation of auditors. Second, only regulator designation of auditors for state-owned enterprises was examined. It is unclear how regulator designation of auditors would affect non-state-owned enterprises. Moreover, future research could investigate the designation of auditors in other forms such as the designation of auditors by investors. Third, auditor appointment procedure may affect perceived risk of loss of client which in turn influences auditor independence. Future research could further investigate the mechanism through which regulator designation of auditors affect auditor independence. Originality/value Results of an experiment with 81 Chinese auditors show that regulator designation of auditors can improve auditor independence. In a decision context where auditors must provide judgments relating to a proposed audit adjustment that is quantitatively material and will affect the client’s ability to meet debt covenants, auditors designated by the State-Owned Assets Management Bureaus are more resistant to management pressure and are less willing to accept the management’s aggressive financial reporting practice than those directly hired by the company.

The Impact of Estimate Source and Social Pressure on Auditors' Fair Value Estimate Choices

ABSTRACT This paper reports the results of an experiment examining whether estimate source (developed by an external consultant or the audit client) interacts with social pressure (obedience pressure from a superior or conformity pressure from a peer) to influence Chinese auditors' judgments of fair value estimates. The results reveal an interaction between the source of the estimate and the type of social pressure. Specifically, Chinese auditors' risk assessments and judgments regarding whether an auditor will investigate further are not influenced by relevant information about a fair value estimate's source when advised to use a questionable estimate by a superior. However, when the same advice is received from a peer, the likelihood of further investigation and auditors' risk assessments are impacted by the estimate's source.