Antecedents and organizational performance implication of internal audit effectiveness: evidence from Ethiopia

The literature suggests that the dynamics prevailing in an internal audit (IA) milieu possibly influence internal audit effectiveness. Besides organizational attributes that appear to influence IA effectiveness, other factors grounded in country context could influence IA effectiveness in developing countries. A study of IA practice as embedded in its broader context and identification of factors that enhance or inhibit its effectiveness could enable understanding IA‘s potential to support organizational performance and thereby assist national economic development. A few prior studies attempted to examine contextual influences on IA practices. The association of IA effectiveness with company performance, however, appears unexplored as yet. Using a combination of quantitative and qualitative research methods, this study examines IA practices in selected Ethiopian Government ministries, State-owned enterprises, and private companies. It aims to identify country- and organization-level influences on IA effectiveness from an institutional theory perspective. It then explores the association between internal audit effectiveness and company performance using Marx‘s theory of the circuit of industrial capital. Results of canonical analysis suggest that IA effectiveness, as measured by IA proficiency, IA independence and objectivity, scope of IA work, quality of IA planning and execution, and quality of IA reporting and follow up, is significantly associated with a set of organization-level context factors. These factors are organizational category, organizational size, organizational policies authorizing IA, organizational risk exposure, auditee cooperation, and internal-external audit linkages. IA proficiency, scope of IA work and IA planning and execution appear to be higher in organizations where organizational policy authorizing IA is clearly defined and organizational risk exposure and internal-external audit linkages are stronger. Furthermore, Kruskal-Wallis tests show that IA proficiency and IA independence and objectivity are highest for State-owned enterprises followed by ministries and private companies. Spearman‘s correlation test results suggest that the association between IA effectiveness and company performance (as measured by return on assets) was not statistically significant. A hypothesized moderating effect of management attention to internal audit recommendations on this association was also not statistically significant. This lack of support for the hypothesis is possibly explained by the relatively small sample used (for this hypothesis). Another potential reason is that the relatively young age of internal audit in Ethiopia could not help capture the possible positive association. Furthermore, the use of a single proxy measure of company performance (i.e., ROA) may not be sufficient to capture the contributions of effective IA to several dimensions of company performance. Survey results were then enriched through interviews with selected internal audit directors and leaders of three professional associations in Ethiopia as well as reviews of documentary evidence. Overall, the results portray the State‘s contribution to the development of IA through coercive isomorphic pressures. These pressures are largely attributable to Government involvement in economic activity and its regulatory roles. Government‘s role in setting the overall scene of accountability mechanisms in government organizations appears to have contributed to IA adoption in Ethiopian organizations. The State also serves as a nexus for IA and international sources of normative pressure for IA development. Nevertheless, organization-level factors, i.e., top management support for IA, extent of risk exposure, company connection with the international business environment, IA’s information technology advancement, and IA leadership demeanor tend to be linked with IA effectiveness to a greater extent than the contributing factors for IA adoption. In conclusion, country- and organizational-level contextual dynamics appear to influence IA effectiveness. In this process, government coercive pressures foster IA adoption while largely normative and mimetic pressures advance IA effectiveness by building upon the coercive inputs. Government coercive pressures also tend to transform into a normative pressure over time. The study contributes to the IA literature and practice in several ways. First, it conceptualizes internal audit effectiveness as a multi-dimensional construct by measuring IA effectiveness in terms of its components rather than the hitherto dominant approach of using an aggregate measure or a proxy variable. Conceptualization of IA effectiveness as a multi-dimensional construct enabled employing analytical approach of canonical analysis. This approach helps examine the nature of the relationships between context factors and specific dimensions of IA effectiveness. Canonical analysis also helps consider the interrelationships among the different dimensions of IA effectiveness. Second, it is one of the few recent attempts to statistically test the relationships of IA effectiveness with its contextual influences. By formulating and testing such hypotheses, the study has attempted to identify major organization-level factors that tend to enhance or inhibit IA effectiveness. It also extends IA studies under institutional theory by considering a broader set of factors influencing IA practice and their possible interplay. Furthermore, it illustrates how the coercive, mimetic and normative isomorphic pressures interrelate and how this influences both IA adoption and IA effectiveness. This is considered an extension to existing literature because prior studies employed institutional theory largely to explain IA development at a national level by considering patterns of IA adoption by companies. Third, it contributes to the limited literature that employed Marx‘s theory of the circuit of industrial capital in accounting in general and IA research in particular. Specifically, the study extends IA theory by developing hypotheses on the relationship between IA effectiveness and organizational performance. Fourth, prior IA research has largely been on the empirical context of developed economies. Thus, some of the findings of this study could be considered additional insights to the literature emanating from the empirical setting of a developing country. Finally, the study is expected to inform government policy makers, boards of directors, managers, Global as well as national IIA institutes, transnational corporations engaged in business in developing countries, and international financial institutions that provide funds in different arrangements to developing countries including Ethiopia. It does this in two ways. Firstly, being a study on a developing economy setting, it helps enhance understanding of the global configuration of the internal audit profession. Thus, it enables figuring out the current state of internal audit in Ethiopia vis-à-vis the profession‘s global status. This could then be extrapolated into the role of internal audit in the control and governance mosaic of developing economies. Secondly, it highlights major factors that enhance or inhibit internal audit effectiveness. Thus it informs stakeholders on key priorities for the development of IA as a profession as well as its advancement as a key function in organizations

How can we explain internal auditing? The inadequacy of agency theory and a labor process alternative

This paper draws on labor process theory (LPT) to explain how capitalism creates conditions that give rise to a demand for internal auditing. Internal auditing developed from the metamorphosis of capitalism during the twentieth century, when capital gradually succeeded in institutionalizing structural control of labor processes to address the problem of control in inherently antagonistic capital-labor relationships. In this control context employees, management, and the board of directors are responsible for achieving the required rate of return on capital. With the premise that the literature has not adequately theorized the role of internal auditing in this context, this paper proposes an initial theorization of the role of internal auditing as a mechanism employed by management and the board of directors to control the labor process in the generation and realization of surplus value. Internal audit's assurance services to execute business activities according to management's conceptions, and its advisory services to enhance efficiency and effectiveness, are interpreted within the firm's overarching goal of maximizing the rate of return on capital employed. Future research agenda and methodological considerations are discussed

Modelling SME credit risk : a Thai empirical evidence

This paper develops and tests a model to predict small and medium enterprise (SME) financial distress based on empirical evidence from Thailand. A sample comprising 198 financial statements of non-financially distressed and 68 statements of financially distressed SMEs were used. A parametric t-test was conducted to establish differences between financial characteristics of the two groups of SMEs.Results show statistically significant differences (t values significant at .001) between the two groups of SMEs in the financial ratios used for the study. Discriminant analysis was then conducted to develop a model for predicting the likelihood of an SME experiencing financial distress.The model hits an accuracy level of 97%, which compares favourably with the probability of accurate classification by chance (i.e., 65% after adjusting for the unequal sample sizes of the two groups of SMEs). A test of the model with a new sample shows the validity of the model beyond the original sample, confirming that Thai SME financial distress is amenable to prediction to a statistically significant extent. The model is expected to serve SME managers and creditors in assessing financial health of SMEs before making important decisions. The results are also expected to inform policymakers in formulating economic policies concerning SMEs

Reliance of external auditors on internal audit work : a corporate governance perspective

The literature suggests an increasing need for interactions among board of directors, management, internal audit and external audit as the four components of corporate governance and presents internal audit as a resource for the other components. External auditing standards that originated in the Western world, which are also being applied in developing countries, recommend external auditor’s reliance on internal audit to achieve audit efficiency. Nevertheless, whether this efficiency motive explains such reliance in corporate governance settings that differ from the West has not been sufficiently explored as yet. This study examines external auditor reliance on internal audit work using questionnaire survey of 119 external auditors in Ethiopia. Mann-Whitney U test results suggest that external auditors’ reliance on internal audit work is not significantly associated with the competitiveness of external audit sub-markets in Ethiopia. Results of multiple discriminant analysis indicate internal audit work performance is the most important factor that determines the extent of external auditors’ reliance on internal audit work. Overall, findings suggest that organizations can enhance corporate governance effectiveness by strengthening internal audit and fostering internal-external auditor coordination

Multiple informal imperial connections and the transfer of accountancy to Ethiopia (1905 to 2011)

The accounting history literature expounds the role of imperial connection on the transfer of Western accountancy concepts and practices to developing countries. An emerging theme within this literature is the shift in imperial power from Britain to USA over the last century and the ramifications of this shift on accountancy globally. Using a framework developed by prior research for investigating the transfer of accountancy across countries, this study examines historical developments of accounting practice, education and professional training in Ethiopia (from 1905 to 2011) in the light of the country’s interactions with Britain and the USA. These interactions facilitated Ethiopia’s continued importation of British accountancy practice and professional training contemporaneously with importation of accounting education from the USA. Over the past two decades, Ethiopia has been undertaking accounting reforms as part of economic policy reforms in pursuit of neo-liberal economic ideals. In response to shifting priorities of transnational actors, Ethiopia continued trialling policy initiatives that are yet to yield a stable equilibrium with coherent links of accounting education, practice and professional training

The perceived scope of internal audit function in libyan public enterprises

Purpose - The aim of this exploratory study is to examine the perceptions of stakeholders regarding the scope of internal audit (IA) work in Libyan state-owned enterprises. Design/methodology/approach - Data were gathered through semi-structured interviews with chief executive officers, IA directors, administrative affairs managers, financial affairs managers and external auditors, which were supplemented with a review of relevant documentary evidence. Findings - The results of the study show that the scope of IA in Libyan organizations may not be sufficiently wide ranging to be considered as a value-adding service. The scope of the IA function may need to be expanded to cover a broader range of organizational functions if internal auditors are to offer value-adding services to their stakeholders. Practical implications - The IA profession has received scant attention in the literature, especially in the context of developing countries such as Libya. Therefore, such settings offer the potential to enhance the understanding of IA practices. As a study on a developing economy, it enhances understanding of the IA profession’s global configuration beyond the predominantly market-driven, industrialized Western economies. Originality/value - In contrast to most previous studies, this study covers a broad range of IA stakeholders’ views on the role of internal auditors. This coverage enabled an in-depth investigation of the factors affecting IA scope and understanding of stakeholder perceptions on the IA function

Internal audit effectiveness: an Ethiopian public sector case study

Purpose – The purpose of the study is to identify factors impacting the effectiveness of internal audit services. Design/methodology/approach – Based upon a case study of a large public sector higher educational institution in Ethiopia, the paper examines how internal audit quality, management support, organizational setting, auditee attributes, and the interplay among these factors, influence internal audit effectiveness. Findings – The findings of the study highlight that internal audit effectiveness is strongly influenced by internal audit quality and management support, whereas organizational setting and auditee attributes do not have a strong impact on audit effectiveness. Research limitation/implications – As in all case studies, the generalisability of the conclusions is limited. Originality/value – Internal audit services have apparently hitherto been the subject of limited examination. However, this study, in arguably the most thorough treatment so far, highlights the areas requiring improvement

Value-added role of internal audit: an Ethiopian case study

The purpose of this paper is to draw inferences – from the results of an Ethiopian public sector corporation (for-profit) case study – on how the attributes of a value-adding internal audit department would vary among organisations. Design/methodology/approach – The case study strategy is employed. The internal audit function of a public sector corporation was examined using an analytical framework derived from the literature. Research evidence was gathered distributing questionnaires to managers and internal auditors, conducting a semi-structured interview with the internal audit department manager, and reviewing documents. Findings – The results highlight that traditional/compliance audit is dominant in the organisation studied as contrasted with value-added auditing. The paper concludes that goals and strategies pursued and the level of risk faced by organisations to which internal audit provides service, appear to shape the attributes of a value-adding internal audit department. The study also demonstrates that the quality of strategic planning for, and marketing of, internal audit would influence the extent to which an appropriate value-added profile is attained in a particular context. Research limitations/implications – Since a single unit of analysis is examined, universal generalisability of the findings cannot be claimed. Also, the research design assumed that the unit of analysis investigated falls within the scope of internal audit departments considered in the literature that served as a basis to develop the analytical framework and data collection instruments. Originality/value – The paper is expected to inspire conclusive follow-on research on the role of internal audit in Ethiopia, or other countries with similar settings

Factors associated with attributes of internal audit departments : a canonical analysis

This study explores internal audit (IA) practices in selected Ethiopian organizations to identify factors associated with attributes of IA departments. Analytical questionnaire survey responses of 188 IA directors and staff from Ethiopian government ministries, state-owned enterprises and private companies were used. Canonical analysis results show that IA proficiency, scope of IA work and quality of IA planning and execution are higher in organizations where organizational policy authorizing IA is clearly defined, organizational risk exposure is high and internal audit\u27s linkage with external audit is strong. The findings suggest that in organizations that are exposed to high risk, management tends to appreciate IA\u27s assistance in managing risk and thus strengthens IA. Results also suggest the importance of internal and external audit linkages and IA charter (or similar organizational policy) to strengthen IA. The study provides further evidence of differences in IA attributes between public and private sector entities