The results of this study have implications for regulatory agencies and standard-setting bodies. As regulators contemplate whether to mandate IFRS and standard setters determine the level of implementation guidance for new standards, the litigation consequences of standard precision are an important consideration. Further, these results highlight the importance of regulators developing ways for jurors to evaluate audit judgments under imprecise standards, especially in industries and areas without precise industry reporting norms. Prior discussion on this issue has focused on how professional judgment frameworks are necessary to protect auditors and their clients from second guessing. This study suggests that judgments frameworks, if effective, may help protect auditors who make conservative judgments and also help hold auditors accountable for overly aggressive judgments.
Kadous, K., and M. Mercer. 2016. Are Juries More Likely to Second-Guess Auditors Under Imprecise Accounting Standards? Auditing: A Journal of Practice and Theory 35 (2): 101-117.
The findings of this study should be of interest to boards of directors, audit committees, and senior management who are accountable to investors and other parties for the timely and unbiased examination of whistle-blowing allegations. Prior research has shown that audit committee members can be biased in their evaluations of whistle-blower allegations and in the allocation of resources to investigate those allegations. However, the results of this study show that CAEs do not exhibit the same bias as audit committee members for allocating resources to investigate whistle-blower allegations. The audit committee often relies on the CAE to investigate whistle-blowing reports, and this study suggests that CAEs may be a better choice for managing the evaluation of whistle-blowing allegations relative to members of the audit committee. CAEs’ decisions are not shrouded in secrecy, and CAEs report to both management and the audit committee, creating multiple levels of accountability. They are less able to ignore allegations that pose personal threats than are directors.
Guthrie, C. P., C. S. Norman, and J. M. Rose. 2012. Chief Audit Executives’ Evaluations of Whistle-Blowing Allegations. Behavioral Research in Accounting 24(2): 87-99.
The study extends the fraudulent financial reporting literature by formulating fraud incidence as a function of performance outcomes using peer performance as a reference point. By testing CPT's individual-level behavioral implications on firm-level archival data, the study re-conceptualizes the investigation of fraudulent financial reporting in terms of risk attitude and extends prior investigations of CPT from laboratory experiments to a real-world setting of fraudulent financial reporting.
Fung, M. K. 2015. Cumulative Prospect Theory and Managerial Incentives for Fraudulent Financial Reporting. Contemporary Accounting Research, 32 (1): 55-75.
This research is important for several reasons. First, the authors provide insight into how a monitoring mechanism, such as the staff of the DCF, adds to the oversight of the financial reporting process. The findings illuminate the importance of understanding the conflict between boards and CEOs by suggesting that a strong CEO's influence over a board may adversely affect the effectiveness of board oversight. The authors provide evidence that the DCF may target companies with strong CEOs and weak board monitoring for more intensive review. Second, the results imply that the discovery of the need to restate is different for DCF-instigated restatements. DCF-prompted restatements lead companies to re-evaluate their governance structure.
Cheng, X., L. Gao, J. E. Lawrence, and D. B. Smith. 2014. SEC Division of Corporation Finance Monitoring and CEO Power. Auditing: A Journal of Practice & Theory 33 (1): 29-56.
The authors provide initial empirical evidence that Securities and Exchange Commission (SEC) registrants found GAAP-deficient PCAOB inspection reports to be a useful signal of audit quality for triennially inspected auditors. This evidence indicates that PCAOB inspection reports created heterogeneity in auditor brand name that did not previously exist. Also, this paper is the first to empirically link audit committee characteristics to PCAOB inspection report severity and auditor choice. The authors believe this is an increasingly relevant finding as audit committees have been granted much greater auditor dismissal and hiring authority due to SOX. This study indicates that a PCAOB inspection report may serve as an audit quality signal for auditors of broker-dealers, who were previously exempt from the inspection process. Such a finding has current relevance given the PCAOB has recently sought to expand the inspection program to foreign auditors, such as those based in China whose clients are cross-listed on U.S. security exchanges or are listed due to a reverse merger.
Abbott, L. J., K. A. Gunny, and T. C. Zhang. 2013. When the PCAOB Talks, Who Listens? Evidence from Stakeholder Reaction to GAAP-Deficient PCAOB Inspection Reports of Small Auditors. Auditing: A Journal of Practice & Theory 32 (2): 1-31.