01 Auditing

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    Auditor Effect on Merger and Acquisition Outcomes: Evidence from Targets' Auditor-Provided Nonaudit Services
    ( 2020-08-16) Gao, Xinghua ; Jia, Yonghong ; Wang, Qian
    We study the role of auditors in the market for corporate control by examining the relation between nonaudit services (NAS)-related auditor independence and acquisition outcomes. We find that a target's NAS purchases from its incumbent auditor are associated with a lower deal premium, more time and effort taken for due diligence verification, and a higher likelihood of using stock as a method of payment. These relations are more pronounced in situations where the target is more incentivized to manage earnings and the auditor face less risk to acquiesce to client pressure. We also find a negative relation between the target's NAS purchases and the actual deal quality measured by post-acquisition divestiture and goodwill impairment. Overall, our evidence indicates that audit quality affects multiple aspects of an acquisition deal and that the NAS provision compromises auditor independence.
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    Does Audit Regulation Improve the Underlying Information Used by Managers? Evidence from PCAOB Inspection Access and Management Forecast Accuracy
    ( 2020-08-15) Christensen, Brant ; Lei, Lijun ; Shu, Qing ; Thomas, Wayne
    Survey evidence and academic research raises the possibility that audit regulation can impact not only the information contained in external financial reports but also the internal information used by management (International Federation of Accountants, 2018; Libby, Rennekamp, & Seybert, 2015). We investigate this issue by examining the improvement in management forecast accuracy around initiation of the Public Company Accounting Oversight Board's (PCAOB) international inspection program. Consistent with managers having improved information, we find that managers issue more accurate forecasts following PCAOB inspection access. Further, this improvement in forecast accuracy is more pronounced in countries with stronger legal institutions, supporting the intended effect of legal institutions to facilitate enacted regulations. Our study uses a multi-country setting to provide evidence that audit regulation benefits an important internal stakeholder—managers.
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    Do Audit Firms Care about Media Coverage? An Investigation of Audit Firm Response to News Coverage
    ( 2020-08-14) Cowle, Elizabeth ; Rawson, Caleb ; Rowe, Stephen
    We examine how auditors respond to news coverage of their firm and evaluate the extent to which national news outlets function as a watchdog over audit firms. We find that when media coverage includes issues specific to the audit opinion (i.e., restatements, adverse internal control opinions, fraud), audit firms respond by increasing audit attention (increased fees, reporting delay, and late filings). We find that this is amplified among clients with issues similar to those discussed in the media coverage. In contrast, we find that when news coverage does not relate to audit reporting decisions, firms decrease fees and issue audit opinions sooner. Additional analyses reveal that audit firms respond to high levels of news coverage at peer firms, suggesting that firms try to preemptively manage their reputation even when they are not under direct media scrutiny, and negative news has significant costs for firms' client growth and retention. Collectively, our evidence suggests that the news media functions as an effective informal oversight mechanism of auditing firms by driving increased auditor attention and improved audit quality.
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    The effect of partner digitalization expertise on audit fees
    ( 2020-08-14) Maghakyan, Arpine ; Jarva, Henry ; Niemi, Lasse ; Sihvonen, Jukka
    We document a fee premium for audit partners who have gained expertise in digitalization by specializing in highly or similarly digitalized clients. Overall, our evidence is consistent with the view that the digitalization of a client's business and information systems provides audit partners an opportunity to differentiate themselves as experts in digitalization and earn a fee premium. In our sample of listed and private firms in Finland, we find a fee premium of 13—35%. For U.S.-listed companies, we document a fee premium of 63—65%. This study contributes to archival research on auditor expertise and audit pricing by showing that expertise in digitalization is separate from industry-specific and generic knowledge accumulated by years in the profession, enhancing our understanding of the nature of auditing in the current audit environment.
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    Audit Engagement Review: Evidence from Audit Report Errors
    ( 2020-08-14) Beyer, Brooke ; Draeger, Michelle ; Rapley, Eric
    Reviewing the work of the engagement team is a critical aspect of financial statement auditing but is generally unobservable to external stakeholders. This can create challenges for assessing audit quality for individual audit engagements. This study's objective is to introduce and investigate an archival measure that proxies for audit engagement review: audit reports containing errors. We examine audit report errors because the audit report represents the auditor's primary communication with financial statement users and is subject to a rigorous review process. We first provide evidence that typical factors that influence audit engagement review are associated with audit report errors. Specifically, we find that errors are more likely to be present in audit reports when time pressure exists and less likely for clients that are of greater importance. Next, we examine whether our measure for review is associated with audit quality. Results suggest that errors in audit reports are positively associated with financial reporting misstatements (as measured by subsequent out-of-period adjustments). Collectively, our evidence suggests that audit reports containing an error is a suitable archival proxy for (ineffective) audit engagement review.