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    The halo effect in business risk audits: Can strategic risk...
    research summary posted July 17, 2011 by The Auditing Section, last edited May 25, 2012, tagged 06.0 Risk and Risk Management, Including Fraud Risk, 06.05 Assessing Risk of Material Misstatement 
    The halo effect in business risk audits: Can strategic risk assessment bias auditor judgment about accounting details?
    Practical Implications:

    The results of this study have an impact on the understanding strategic risk assessments.  Strategic risk assessments may reduce auditors’ sensitivity to inconsistent fluctuations in account balances.  This reduced sensitivity may cause auditors to underestimate the risks of financial misstatement when lower assessments of strategic risk are made in the early stages of an audit.    


    O’Donnell, E. and J.J. Schultz, Jr. 2005.  The halo effect in business risk audits: Can strategic risk assessment bias auditor judgment about accounting details?  The Accounting Review 80 (3): 921-939.

    auditor judgment
    Purpose of the Study:

    Many audit firms have adopted a strategy of requiring auditors to conduct a strategic risk assessment that helps to develop a holistic perspective of the client’s business model at the beginning of an engagement.  The purpose of this assessment is to bring attention to the risks associated with the client’s strategy.  Implementing this strategy may have unintended consequences, as these judgments may create a halo effect on the later interpretation and analysis of audit evidence gathered.  The halo effect may lead auditors to discount account changes that are inconsistent with the client’s operations.  This study examines the following:

    • Will auditors that perform a strategic assessment prior to performing analytical procedures will have smaller variability in their risk assessment for consistent versus inconsistent fluctuations in account-level balances?
    • When auditors perform a strategic risk assessment, will the assessment of strategic risk be positively correlated with assessments of misstatement risk for accounts with inconsistent fluctuations?
    Design/Method/ Approach:

    The study used two experiments.  Each experiment used senior-level auditors from one Big 4 firm.  In experiment 1, participants were provided with background and financial information for a client.  They then analyzed information about company operations and assessed misstatement risk.  Participants completed a strategic risk analysis either before or after this analysis.

    In experiment 2, participants assessed account-level misstatement risk over 2 consecutive years.  In year 1, all participants received the same strategic risk analysis.  In year 2, participants received either a favorable or unfavorable strategic risk analysis.

    • Auditors who performed a strategic risk assessment prior to the performance of analytical procedures reacted less strongly to inconsistent fluctuations in the account-level balances.
    • There is a strong positive correlation between the strategic risk assessment and misstatement risk assessment when auditors perform a strategic risk assessment prior to performing analytical procedures when account-level balances have an inconsistent fluctuation.  There was no correlation in the other experimental conditions (consistent fluctuations or strategic risk assessment performed after analytical procedures were completed).
    • Auditors who are led to believe that strategic risk is low will rate misstatement risk lower for accounts with inconsistent fluctuations than will auditors who are led to believe that strategic risk is high.
    Risk & Risk Management - Including Fraud Risk
    Assessing Risk of Material Misstatement
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