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    Audit Firm Governance: Do Transparency Reports Reveal Audit...
    research summary posted October 20, 2014 by Jennifer M Mueller-Phillips 
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    Title:
    Audit Firm Governance: Do Transparency Reports Reveal Audit Quality?
    Practical Implications:

    Current transparency report disclosures do not appear to reveal underlying audit firm quality. This is in line with recent recommendations of oversight bodies and the auditing profession, which encourage audit firms to further improve the information value of audit firm disclosures. This result confirms the concerns expressed by the PCAOB about the information value of disclosures in transparency reports like those required by Article 40 of the EU Eighth Directive. In particular, the disclosures required by Article 40 appear to be very general and the results suggest that both audit firms with sound and weaker governance practices are able to provide extensive disclosures on their audit firm governance practices, which distorts the audit quality signal. The authors conclude that requiring audit firms to disclose audit firm governance practices needs careful (re-)consideration. If the goal of such requirements is to provide publicly available indicators of audit quality, more work seems necessary to develop such indicators.

     

    For more information on this study, please contact Ann Vanstraelen.

    Citation:

    Deumes, R., C. Schelleman, H. Vander Bauwhede, and A. Vanstraelen. 2012. Audit Firm Governance: Do Transparency Reports Reveal Audit Quality? AUDITING: A Journal of Practice & Theory 31 (4):193-214.

    Keywords:
    Corporate Governance, Audit Firm, Transparency Report
    Purpose of the Study:

    To increase transparency of audit firms, regulators in a number of jurisdictions mandated (or are considering mandating), audit firm transparency reports. In this regard, the European Union (EU) can be considered a front-runner. In its Eighth EU Directive the EU requires statutory auditors of Public Interest Entities to publish, as of June 2008, annual transparency reports disclosing certain information relating to their legal structure and ownership, governance structure, internal quality control system, quality assurance review, education and independence practices, and partner remuneration. The purpose of this study is twofold. Firstly, to examine whether there is variation in the extent and type of disclosures contained in audit firm transparency reports issued. Secondly, to test whether the extent and type of the disclosures contained in the audit firm transparency reports are associated with actual audit quality.

    Design/Method/ Approach:

    To conduct the empirical tests, the authors collected data on audit firm transparency disclosures and client firm characteristics. Data on client firm characteristics were obtained from the Worldscope database. Data on audit firm transparency disclosures were obtained from public audit firm transparency reports issued in four EU countries (Austria, Germany, the Netherlands and the U.K) for the year 2008.

    Findings:

    The results show that there is variation in the extent of transparency report disclosures across audit firms. In particular, the authors find that larger audit firms have a higher level of disclosure. The authors also observe significant country differences, with German and Austrian audit firms having higher transparency report disclosure than U.K. and Dutch audit firms. This is likely due to more extensive disclosure guidelines on transparency reporting in Germany and Austria. Further, the authors find that initial transparency reports have a significantly lower level of disclosure, implying that disclosure increases over time. Generally, the results do not provide evidence of an association between the extent and type of the disclosures contained in the audit firm transparency reports and actual audit quality, with one exception: for a statement on the effectiveness of the audit firm’s internal quality control system, the authors find weak evidence that clients of audit firms not providing such statement in their transparency report provide lower audit quality. 

    Category:
    Audit Quality & Quality Control, Governance, International Matters