This study provides a more complete examination of auditor-client pre-negotiation decisions and negotiation tactics when confronted with an ambiguous accounting issue. Because auditors and clients approach conflict resolution and make negotiation decisions in very different ways, the results should be of interest to auditors.
Bame-Aldred, C. W. and T. Kida. 2007. A Comparison of Auditor and Client Initial Negotiation Positions and Tactics. Accounting, Organizations, and Society 32 (6): 497-511.
Understanding that auditors allocate greater resources to fraud brainstorming when engagement risk is significant fosters brainstorming of a superior caliber corresponds to stronger regulatory compliance. Auditors report that engagement teams are holding fraud brainstorming sessions earlier in the audit, document more detailed risk assessments, plan more specific procedures, and retain more documentation. These characteristics contribute to adequately addressing increased PCAOB regulatory scrutiny. Additionally, brainstorming sessions are highly regarded when they occur in a face-to-face fashion and are attended by multiple levels of firm personnel—whether that is “core” or “non-core” professionals. Fraud brainstorming sessions are executed less mechanically (as determined by PCAOB inspectors) by using fewer checklists and increase the amount of time auditors prepare for brainstorming sessions.
Dennis, S. A., and K. M. Johnstone. 2016. A Field Survey of Contemporary Brainstorming Practices. Accounting Horizons 30 (4): 449–472.
The results of the studies documented in this review suggest that there is a great deal of variability in the approaches taken by firms for establishing materiality. Such differences in materiality methods can affect both the effectiveness and efficiency of audits. For example, if firms differ in how they allocate materiality to financial statement accounts, then the scope of the work could differ across audits with similar characteristics. Auditors also appear to differ in terms of the factors they consider for determining the materiality of internal control weaknesses, suggesting that auditors may need more structured criteria to make materiality judgments about internal control weaknesses. Materiality judgments are influenced by authoritative guidance, suggesting that standard setters and audit firms have the ability to influence auditors’ materiality judgments by providing auditors with specific guidance.
Messier, Jr., W.F., N. Martinov-Bennie, and A. Eilifsen. 2005. A review and integration of empirical research on materiality: Two decades later. Auditing: A Journal of Practice and Theory 24 (2): 153-187.
The conclusion that audit fees are associated with the risk of audit failure may impact auditors as they face pressure to reduce audit fees. Auditors should consider this risk based on the client’s position as well as trying to minimize risk related to audit fee reductions. Similarly, client’s audit committee should consider the trade-off between current fees and the risk of restatement. With the changes that SOX introduced, regulators should review how changes in audit fees affects the quality of financial statements over time.
For more information on this study, please contact Dr. David Hurtt.
Alan I. Blankley, David N. Hurtt, and Jason E. MacGregor. 2012. Abnormal Audit Fees and Restatements. Auditing: A Journal of Practice & Theory: 31 (1): 79-96.
Firms should consider the levels of accountability pressure and situations where they use them and consider how different levels of pressure may impact performance. Higher levels of accountability pressure may increase effectiveness and increase the likelihood of finding material misstatements.
On the other hand, increased effectiveness and time spent due to higher levels of accountability pressure may cause inefficiencies and result in unnecessary effort. Firms should evaluate the costs and benefits for their situations.
The authors note that this study only looks at the effect of accountability pressure from an unknown partner. In the real world, auditors have accountability pressures from many levels such as other superiors, clients, regulators, and audit committees.
Further, the auditor may have assessed things differently if they knew the partner that was performing their review.
DeZoort, T., P. Harrison, and M. Taylor. 2006. Accountability and auditors’ materiality judgments: The effects of differential pressure strength on conservatism, variability, and effort. Accounting, Organizations, and Society 31 (4-5): 373-390.
The results have implications on two fronts. First, the findings indicate that auditors pursue different production and pricing strategies in different segments of the market, suggesting that the Big 4 audit firms respond to the competitive pressures in each submarket. Second, the evidence raises questions about the construct validity of market share-based measures of industry specialization, which have been used extensively in the literature. The evidence suggests that auditors who obtain a large market share by auditing a large proportion of the industry sector may actually do so by producing lower quality, lower cost audits. As such, these auditors are not acting as true specialists in the sense of using specialized training and knowledge to raise the quality of the audit performed.
Cahan, S. F., D. C. Jeter, and V. Naiker. 2011. Are All Industry Specialist Auditors the Same? Auditing: A Journal of Practice & Theory 30 (4): 191-222.
Although both auditors and fraud specialists added non-standard procedures to the audit program, auditors cut the budgets for some standard procedures, making room in the overall audit budget for non-standard additional procedures. In contrast, fraud specialists added standard procedures, but they were not more effective than those selected by auditors, and also provided less budget room for those procedures. The involvement of fraud specialists in planning an audit engagement where fraud risk is present is likely to lead to additional audit effort and cost, possibly without commensurate benefit. However, considering the potential consequences to the auditor of undiscovered fraud, it may be cost-effective to include additional non-standard procedures in an audit program if they improve the probability of discovering a fraud.
Boritz, J. E., Kochetova-Kozloski, N., & Robinson, L. 2015. Are Fraud Specialists Relatively More Effective than Auditors at Modifying Audit Programs in the Presence of Fraud Risk? Accounting Review 90 (3): 881-915.
This study identifies relationships between attributes specific to non-profit organizations (see above) and external audit fees, and it has practical implications for non-profit organizations as well as auditors in negotiating audit fees. The audit fee model can be useful for non-profit organizations that seek to benchmark their audit fees. Additionally, this study shows that non-profits with higher quality internal oversight are willing to incur additional costs for monitoring by external auditors. Further, this study shows that Big 4 auditors earn a premium for their services in the non-profit sector (similar to the for-profit sector).
Vermeer, T. E., K. Raghunandan, and D. A. Forgione. 2009. Audit Fees at U.S. Non-Profit Organizations. Auditing: A Journal of Practice and Theory 28 (2): 289-303.
The existing research is unclear about the mechanism behind the higher audit fees charged by the industry specialist auditors (ISAs). The fee premium can be explained either by higher audit hours or by higher audit fees per hour. Using Korean data, this study provides direct evidence of the source of the ISA fee premium. The results show ISAs spend more audit hours while charge lower unit price than non-ISAs, which indicates the ISA fee premium mainly comes from additional audit work performed by ISAs. One limitation of this study is the authors cannot differentiate the two potential explanations for the low unit price: cost savings arising from economies of scale or additional work performed by cheap audit labor.
Bae, G. S., S. U. Choi, and J. H. Rho. 2016. Audit Hours and Unit Audit Price of Industry Specialist Auditors: Evidence from Korea. Contemporary Accounting Research 33(1): 314-340.
This study provides the first evidence using U.S. data on the relationships between audit planning and pricing and audit partner tenure. Importantly, the results speak to the requirement in SOX Section 203 that audit partners on public clients rotate every five years. The second set of results concerns changes in auditor risk responsiveness during the period 2002 to 2003. Because there are very few longitudinal studies of engagement effort that feature a consistent sample of clients over time, this study contributes to understanding of changes in audit firms’ risk responsiveness.
Bedard, J. C., and K. M. Johnstone. 2010. Audit Partner Tenure and Audit Planning and Pricing. Auditing: A Journal of Practice & Theory 29 (2): 45-70.