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    Analysis of Diagnostic Tasks in Accounting Research Using...
    research summary posted May 9, 2012 by The Auditing Section, last edited May 25, 2012, tagged 09.0 Auditor Judgment, 09.11 Auditor judgment in the workpaper review process 
    Analysis of Diagnostic Tasks in Accounting Research Using Signal Detection Theory
    Practical Implications:

    The results of this study provide insights into the decision-making process of auditors.  It suggests that accountants’ decisions may reflect an unconscious bias based on the potential cost or impact of the decision. The study provides information regarding  assignment of workpaper review responsibilities.  Managers have greater accuracy than seniors in detecting conceptual errors, but are equally accurate in detecting mechanical errors. 

    The study also provides information regarding the efficacy of audit committees.  Auditors are better able to discriminate between bankrupt and nonbankrupt companies when the audit committee consists of independent directors. 


    Ramsay, R. J. and R. M. Tubbs. 2005. Analysis of diagnostic tasks in accounting research using signal detection theory. Behavioral Research in Accounting 17 (1): 149-173.

    Diagnostic tasks, signal detection theory, accuracy, response bias, confidence, auditor judgment
    Purpose of the Study:

    Many accounting judgments are diagnostic tasks in which accountants, auditors, managers, or investors discriminate among possible states and decide which one exists.   When evaluating decisions, we often assess the accuracy of a decision by asking the question “Did the accountant make the correct decision?”  Signal Detection Theory provides an alternative way to evaluate decisions that recognizes that decisions are made in the presence of uncertainty.  A task can involve two independent cognitive processes:  discrimination (the capability of recognizing the discriminating stimuli) and decision (the effect of decision factors).  An individual must first determine whether a signal is present (e.g., signal or noise) and then determine whether or not to report the factor as present (e.g., yes or no).  Many accounting decisions (e.g., bankruptcy, material misstatement, fraud) involve this two-step process where an individual must make a determination about how strong the evidence is before responding.  The authors of this paper utilize Signal Detection Theory to re-evaluate two previous studies to determine if this new technique allows existing researchers to draw updated conclusions about previous research. The methods and measures used by Signal Detection Theory have been widely adopted in studies of a variety of diagnostic tasks (e.g., information retrieval, weather forecasting, medical diagnosis, recognition memory, aptitude testing, and polygraph lie detection).  The purpose of this study is to provide evidence that Signal Detection Theory offers  valuable information into the decision-making process of accountants as well.

    Design/Method/ Approach:

    The authors re-examine data from two existing studies using the measures and methods of Signal Detection Theory.  The first study (Ramsay, R. J. Senior/Manager Differences in Audit Review Performance.  Journal of Accounting Research 32 (1): 127-135.)  conducted pre-1994, asked auditors (seniors and managers) from an international accounting firm to review a set of simulated working papers to determine if working paper errors existed.  As originally published, the study found senior auditors were more likely to find mechanical (objective, concrete, and verifiable) errors such as an account balance not agreeing with the workpapers. The original study also found that managers were more likely to find conceptual (subjective, unverifiable, and imprecise) errors such as an inadequate level of support for a particular account balance. 

    The authors also re-evaluate data from a study) conducted on public companies (excluding financial institutions) experiencing financial distress during 1994 (Carcello, J. V. and T. L. Neal. Audit Committee Composition and Auditor Reporting.  The Accounting Review 75 (4): 453-467).  As originally published, the study found auditors are more likely to issue a going-concern opinion for firms with independent audit committees than for firms with affiliated audit committees which include members of management or gray directors (i.e., former employees, relatives of management, or others with significant business relationships with the company).


    After applying Signal Detection Theory, the authors were able to gather additional insight from the original data. 

    Ramsay (1994)

    • Auditors exhibited greater bias toward saying “yes” (i.e., “error is present”) for conceptual errors which the authors believe is reasonable since the cost of missing a conceptual error is likely to be higher than the cost of missing a mechanical error. 
    • Auditors also exhibited greater confidence in their assessment of conceptual errors, which the authors theorize is due to the greater amount of time spent reviewing conceptual errors. 
    •  Original conclusions from the study were modified.  While managers had greater accuracy (of moderate significance) in assessing conceptual errors, there was no difference in the accuracy of assessing mechanical errors based on level of experience. 

    Carcello and Neal (2000)

    • Consistent with original findings, the authors find auditors are biased toward issuing a going concern opinion for firms with independent audit committees.  Auditors of firms with independent audit committees are better able to discriminate between bankrupt and nonbankrupt companies.  However, the cause of this finding is worthy of future investigation.
    Auditor Judgment
    Auditor judgment in the workpaper review process
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