Auditing Section Research Summaries Space

A Database of Auditing Research - Building Bridges with Practice

This is a public Custom Hive  public

research summary

    Managers’ Strategic Reporting Judgments in Audit N...
    research summary posted August 31, 2016 by Jennifer M Mueller-Phillips, tagged 10.0 Engagement Management, 10.04 Interactions with Client Management, 13.0 Governance, 13.05 Board/Audit Committee Oversight, 14.0 Corporate Matters, 14.11 Audit Committee Effectiveness 
    97 Views
    Title:
    Managers’ Strategic Reporting Judgments in Audit Negotiations
    Practical Implications:

     The results of this study are important to consider when examining the effects of the audit committee on managers’ judgments. This study identifies the changes to the reporting environment stemming from the implementation of SOX, particularly with respect to communications between auditors and the audit committee and the authority and responsibility of the audit committee. This study adds insight to prior archival research that suggests that audit committees considered to be effective are associated with greater financial reporting quality. Further, these findings suggest that managers act as if auditors and audit committees that jointly resist management pressures to engage in aggressive reporting play important roles in ensuring high financial reporting quality.

    Citation:

     Brown-Liburd, H., A. Wright and V. Zamora. 2016. Managers’ Strategic Reporting Judgments in Audit Negotiations. Auditing, A Journal of Practice and Theory 35 (2): 47-64.

    Keywords:
    Audit negotiation, past counterpart relationship, audit committee oversight
    Purpose of the Study:

     Prior research has largely characterized audit issue negotiations as a dyadic relationship between auditors and managers. However, the Sarbanes Oxley Act (SOX) substantially enhanced the audit committee’s oversight responsibilities for the financial reporting and auditing process. Thus, negotiations post-SOX may be viewed as a triadic relationship involving managers, auditors, and the audit committee. Differing judgments between auditors during negotiations and managers during financial reporting exist because they have different perspectives and incentives. Whereas managers’ incentives relate to maximizing financial reporting outcomes while maintaining the firm’s reporting reputation, auditors’ incentives relate to fostering a functioning working relationship with the client while appropriately attesting to the financial statements. These differences in perspectives and incentives yield contrasting expectations of negotiation judgments for auditors and managers. This study seeks to examine the joint effects of past auditor-client negotiations and audit committee strength on management’s strategic reporting judgments.

    Design/Method/ Approach:

     The authors recruited participants from an executive training session attended by CFOs/controllers and held at a large public university in the southeastern U.S. During a controlled experiment, participants completed the hard copy experimental case. Participants engaged in planning for an upcoming audit negotiation involving a subjective estimate for an inventory write down due to obsolescence. The authors asked participants to identify their initial offer and their perception of the negotiated ultimate final outcome. Audit committee strength was manipulated as either weak or strong. The nature of past auditor-client negotiations over “grey” misstatements was manipulated as either contentious or cooperative.

    Findings:

    The results are consistent with a strong combined effect of the roles of both the auditor and the audit committee in managers’ pre-negotiation judgments.

    • The presence of both strong audit committee oversight and an auditor that has been contentious in past negotiations together significantly constrain managers’ aggressive reporting.
    • The presence of weak audit committee oversight and an auditor that has been cooperative in past negotiations jointly provide the opportunity for managers to engage in more aggressive reporting.
    • Managers report less aggressively in the presence of a contentious auditor and strong oversight by the audit committee to ensure timely resolution and protect the firm’s financial reporting reputation, and to minimize the risk that the audit committee will intervene against the managers’ favor.
    • Managers report more aggressively in consideration of his/her relative bargaining power against a cooperative auditor who appears to have high relationship concerns, along with weak oversight by the audit committee that is passive/persuadable. 
    Category:
    Corporate Matters, Engagement Management, Governance
    Sub-category:
    Audit Committee Effectiveness, Board/Audit Committee Oversight, Interactions with Client Management