Auditor industry specialization, board governance, and earnings management

PurposeThe purpose of this study is to investigate the interaction effect of auditor industry specialization and board governance on earnings management. This study examines whether board independence is more or less effective in constraining earnings management for firms audited by industry specialists than for firms audited by non‐specialists.Design/methodology/approachThe US data were collected from the RiskMetrics Directors database and the Compustat database. Regression analysis was used to test the research proposition.FindingsIt was found that earnings management is more negatively associated with board independence for firms audited by industry specialists than for firms audited by non‐specialists, consistent with the notion that there is a complementary relationship between auditor industry specialization and board governance. The findings suggest a positive interaction effect of auditor industry specialization and board governance on accounting quality.Originality/valueThis study contributes to the literature by documenting explicit evidence that high quality boards can be more effective through hiring industry specialist auditors. This study also suggests that it may be worth investigating the interaction effect among different corporate governance mechanisms on accounting quality.</jats:sec

Client-specific litigation risk and audit quality differentiation

The purpose of this paper is to examine whether client-specific litigation risk affects the audit quality differentiation between Big N and non-Big N auditors. Specifically, the authors examine whether higher quality audits of Big N auditors relative to non-Big auditors is more pronounced for clients with high litigation risk than for clients with low litigation risk. The authors develop the hypothesis based on auditors\u27 potential monetary and reputational losses, collect the data of US listed companies from the Compustat and CRSP databases, and conduct regression analyses. The authors find that the higher effectiveness of Big N auditors over non-Big N auditors in constraining earning management is greater for high litigation risk clients than for low litigation risk clients, suggesting that clients\u27 high litigation risk can force big auditors to perform more effectively. This paper contributes to the literature by providing novel evidence on the effect of client-specific litigation risk on the audit quality differentiation between Big N and non-Big N auditors. The authors\u27 findings complement the extant research on the relationship between the audit quality differentiation and country-level litigation risk

The effect of analyst coverage on accounting conservatism

Purpose – The purpose of this paper is to examine whether high analyst coverage increases or decreases accounting conservatism. Design/methodology/approach – Sample firms were selected from the Compustat and I/B/E/S databases for years 1989-2006. The authors used both accrual-based and market-value-based measures of accounting conservatism, also the extent to which negative cash flow from operations is more timely recognized via accruals than positive cash flow from operations to measure accounting conservatism. The regression analyses are conducted to test the hypotheses. Findings – Strong evidence was found that analyst coverage is positively associated with accounting conservatism. The results suggest that firms choose more conservative accounting methods when they are followed by more analysts than when they are followed by fewer analysts. The results are robust to a battery of sensitivity analyses. Originality/value – This paper sheds light on how analyst coverage affects firms\u27 accounting choices and extends the limited research on the monitoring role of analyst coverage. The findings are consistent with the notion that analyst coverage plays an important corporate governance role in the financial reporting process. This paper also adds to the literature on the economic determinants of accounting conservatism, and provides some implications for practitioners

The Impact of the CSRC Regulation No. 12-1996 on the Credibility of Chinese IPO Earnings Forecasts

This study examines whether the Chinese Securities Regulatory Commission (the CSRC) Regulation No. 12-1996, Announcement of Some Rules on the Issuance of Shares, may enhance the credibility of management earnings forecasts in Chinese IPO prospectuses. Using a sample of 858 IPO earnings forecasts over the period 1991-2005, we find that earnings forecasts have been less optimistic and more accurate after the regulation was promulgated on December 26, 1996. Overall, our findings suggest that the CSRC Regulation No. 12-1996 can improve the reliability of Chinese IPO earnings forecasts

Industry specialist auditors, outsider directors, and financial analysts

This study investigates the relationships among industry specialist auditors, outside directors, and financial analysts. Specifically, we examine the effect of analyst coverage on the association between auditor industry specialization and outside directorship. We find that outside directors are less likely to hire industry specialist auditors for firms with high analyst coverage than for firms with low analyst coverage. Our findings suggest that analyst coverage moderates outside directors\u27 demand for industry specialist auditors, that is, financial analysts may compete with industry specialist auditors to some extent in monitoring financial reporting process