Auditing Section Research Summaries Space

A Database of Auditing Research - Building Bridges with Practice

This is a public Custom Hive  public

research summary

    Management Influence on Auditor Selection and Subsequent...
    research summary posted September 17, 2015 by Jennifer M Mueller-Phillips, tagged 03.0 Auditor Selection and Auditor Changes, 04.0 Independence and Ethics, 04.08 Impact of SEC Rules Changes/SarbOx 
    215 Views
    Title:
    Management Influence on Auditor Selection and Subsequent Impairments of Auditor Independence during the Post-SOX Period.
    Practical Implications:

    This paper documents that management still have significant influence over auditor selection in the post-SOX Act period. The quality of audit committee seems not to reduce management influence in auditor selection. The findings call into question the effectiveness of Section 301 of SOX Act that requires the audit committee be directly responsible for choosing auditors. The study also shows the assumption that hiring auditors affiliated with the management would harm auditor independence is unwarranted. The findings of this paper are primarily informative to the standard setters and regulators.     

    Citation:

    Dhaliwal, D. S., P. T. Lamoreaux, C. S. Lennox, and L. M. Mauler. 2015. Management influence on auditor selection and subsequent impairments of auditor independence during the postSOX period. Contemporary Accounting Research 32 (2): 575607.

    Keywords:
    auditor independence, auditor selection, Sarbanes-Oxley Act, affiliations
    Purpose of the Study:

    Section 301 of the Sarbanes-Oxley Act (SOX) requires the audit committee be directly responsible for appointing the external auditors. One of the purposes of this section is to eliminate client management influence over auditor selection and thus enhance auditor independence. Recent surveys and case study find conflicting results on how this rule is implemented by the U.S. public companies. However, no archival study has been done to provide direct evidence on the effectiveness of this rule. The assumption that auditor selection influenced by management will reduce auditor independence also needs to be tested. A prior study finds that, in pre-SOX period, an audit firm is more likely to be appointed if client management has personnel once worked in the firm. The authors use management affiliation with the audit firm as a measure for management influence over auditor selection. If the SOX Section 301 works, the probability of hiring affiliated auditors should decrease. The authors conduct a rigorous study using objective data to examine whether this is the case. The authors further look at whether hiring affiliated auditors impairs auditor independence as claimed by the supporters of this rule. They also investigate the effect of audit committee quality on appointing affiliated auditors and the relationship with audit quality.   

    Design/Method/ Approach:

    The sample comprises all Big 4 auditor appointments by the U.S. public companies from 1995 to 2009. The authors identify management affiliation with Big 4 by reading the executive biographies in the companies’ proxy statements. They first test whether management affiliation increases the chance that the company selects the affiliated firm as its auditor. For this test, they compare the pre-SOX sample with the post-SOX sample to see if the SOX Act weakens the relationship. They further check how audit committee quality affects the relationship. At the end, they examine whether the company that hires the affiliated auditor in deed experience lower quality audits.

    Findings:
    • The probability that an audit firm is selected by the company significantly increases if one of the top management is affiliated with the firm. This positive relationship is not reduced by the passage of the SOX Act.
    • There is mixed evidence that audit committee quality lowers the probability of selecting affiliated auditors in the pre-SOX period and no evidence that audit committee quality has an effect on affiliated auditor hiring during the post-SOX period.
    • There is inconsistent evidence that hiring affiliated auditor affects auditor independence. In the post-SOX period, affiliated auditors are less likely to issue going concern opinions than unaffiliated auditors. But affiliated auditors are not less likely to constrain earnings management.
    • The lower propensity of affiliated auditors to issue going concern opinions is offset by the high quality audit committees. But audit committee quality seems not to impact the relationship between affiliated auditors and earnings management.
    Category:
    Auditor Selection and Auditor Changes, Independence & Ethics
    Sub-category:
    Impact of SEC Rules Changes/SarBox