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    The Effects of the Auditor’s Insurance Role on Reporting C...
    research summary posted March 22, 2016 by Jennifer M Mueller-Phillips, tagged 01.0 Standard Setting, 11.0 Audit Quality and Quality Control 
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    Title:
    The Effects of the Auditor’s Insurance Role on Reporting Conservatism and Audit Quality.
    Practical Implications:

    The results of this study are important to policymakers across the world who are concerned with the optimal reporting regime required to maximize investment and audit quality. The results of this study indicate that uniform auditing standards across jurisdictions may not be desirable if the auditor’s insurance role is different in these jurisdictions. Additionally, reporting regimes with better auditor insurance roles are likely to have more productive investments. As regulators consider the type of regulatory regime that fits best given the social and business norms of their country, it is important to consider the auditor’s insurance role and its impact on audit quality and investment.

    Citation:

    Liao, P. and S. Radhakrishnan. 2016. The effects of the auditor’s insurance role on reporting conservatism and audit quality. The Accounting Review. 91(2): 587-602.

    Keywords:
    auditor’s insurance role, conservatism, audit quality, legal liability, private and public actions
    Purpose of the Study:

    Auditor’s insurance roles and reporting regimes vary across countries. This study seeks to provide insight into how the auditor’s insurance role impacts audit quality and conservatism. Specifically, the authors examine the effects of the auditor’s insurance role on audit quality and reporting conservatism, both when the investment is exogenous (i.e., an investment that is chosen independently of the model), and when the investment is endogenous (i.e., when the optimal investment is solved for within the model).

    Design/Method/ Approach:

    The authors use mathematical modeling to examine the effects of the auditor’s insurance role. This type of analysis does not necessitate the use of data, but rather uses reasonable assumptions about the context and a system of equations to analyze the setting of interest.

    Findings:
    • The authors find that when an exogenous investment is considered, an increase in the auditor’s insurance role improves audit quality and conservatism, because conservatism helps to reduce the auditor’s legal liability.
    • The authors find that when an endogenous investment is considered, an increase in the auditor’s insurance role reduces the optimal investment level.
    • The authors find that when an endogenous investment is considered, an increase in the auditor’s insurance role decreases the audit penalty (i.e., auditor’s regulatory and legal liability), the informative effort (i.e., auditor providing more precise information about the company), and conservatism.
    • The authors find that when an endogenous investment is considered, the mechanism that induces informative effort and conservatism on the part of the auditor is the auditor’s regulatory and legal liability.
    Category:
    Audit Quality & Quality Control, Standard Setting