Material Internal Control Weaknesses And Earnings Management In The Post-SOX Environment

Prior studies found that companies with internal control deficiencies incorporate abnormal accounting accruals into their financial statements. However, these studies did not consider the materiality of abnormal accruals. Abnormal accruals should be within materiality when financial statements receive clean audit opinions. When material internal control weaknesses (MICW) exist, to compensate for additional risk, auditors should apply more audit effort to gain the quantity and quality of evidence necessary to obtain a reasonable degree of assurance to support their audit reports. We find evidence of this because audit fees are significantly higher for MICW companies than those for effective internal controls (EIC) companies in our sample. Accordingly, financial statements receiving clean audit opinions should not contain material abnormal accruals irrespective of whether controls are effective EIC or ineffective MICW. To examine this issue, we use post-SOX data to estimate abnormal accruals using a revenue-based accrual model for a matched sample of companies with clean audit opinions on their financial statements: one-half EIC and the other half with MICW. Then, we establish material abnormal revenue accruals (MARA), which is the difference between estimated abnormal revenue accruals and a quantitative materiality based on assets. Finally, we compare MARA between EIC and MICW companies. We find no significant difference in MARA between EIC and MICW companies. We provide a summary of important findings in Table 3, and conclude with suggestions to further improve audit and financial reporting quality

Material Internal Control Weaknesses And Earnings Management In The Post-SOX Environment

Prior studies found that companies with internal control deficiencies incorporate abnormal accounting accruals into their financial statements. However, these studies did not consider the materiality of abnormal accruals. Abnormal accruals should be within materiality when financial statements receive clean audit opinions. When material internal control weaknesses (MICW) exist, to compensate for additional risk, auditors should apply more audit effort to gain the quantity and quality of evidence necessary to obtain a reasonable degree of assurance to support their audit reports. We find evidence of this because audit fees are significantly higher for MICW companies than those for effective internal controls (EIC) companies in our sample. Accordingly, financial statements receiving clean audit opinions should not contain material abnormal accruals irrespective of whether controls are effective EIC or ineffective MICW. To examine this issue, we use post-SOX data to estimate abnormal accruals using a revenue-based accrual model for a matched sample of companies with clean audit opinions on their financial statements: one-half EIC and the other half with MICW. Then, we establish material abnormal revenue accruals (MARA), which is the difference between estimated abnormal revenue accruals and a quantitative materiality based on assets. Finally, we compare MARA between EIC and MICW companies. We find no significant difference in MARA between EIC and MICW companies. We provide a summary of important findings in Table 3, and conclude with suggestions to further improve audit and financial reporting quality

Impact of Assurance Level and Tax Status on the Tendency of Relatively Small Manufacturers to Manage Production and Earnings

The number and importance of private companies in the United States indicates that reliable quality of financial accounting reports (QFAR) of private companies that are useful for decision making is likely to be important for economic growth. Most previous research examining QFAR addressed earnings management among publicly-traded companies. This study extends prior literature by examining whether abnormal production of public and private companies is impacted by (i) assurance type (PCAOB-audit, GAAS-audit, and SSARS-Review), (ii) tax status (separately taxed versus pass-through entity) of private companies, and (iii) relative size. An audit of financial statements provides a high degree of assurance, whereas a review provides limited assurance. Due to data limitations with our private company sample, this study focuses on earnings management through abnormal production by manufacturing companies. When examining companies that just met the benchmark of prior years\u27 earnings or zero earnings we found positive abnormal production for publicly traded companies and privately held audited-taxable companies, but not for other privately held companies. Not identified in previous studies, we find that abnormal production of similarly sized public companies and private companies differ. Our findings provide evidence relevant to the Big GAAP/Little GAAP debate and that one set of accounting standards may not satisfy all public and private company financial statement users. Also, results of this study support the recommendations of the Financial Accounting Foundation’s Blue Ribbon Panel’s Report for establishing a separate private company standards board to help ensure appropriate modifications to GAAP

Mentoring, Career Plateau Tendencies, Turnover Intentions And Implications For Narrowing Pay And Position Gaps Due To Gender Structural Equations Modeling

This study analyzed responses to career-related questions from a survey of experienced Canadian Certified Management Accountants (CMAs), relative experts in the field of management accounting, to address how mentoring affects turnover intentions and career plateau tendency of male and female accounting professionals in industry. In this regard, we used structural equations modeling to build and test a framework illustrating the impact of mentoring and career-related factors. Results indicate that fostering a mentoring environment within an organization can strengthen CMAs perceptions of their careers and employers. Mentoring has also been suggested to enhance womens opportunities to advance in organizations and help women break the glass ceiling. Analyses of data relating to compensation in 2007 and 2009 for a sample of female and male CEOs and operating performance of companies led by these CEOs for these years indicate that, that compensation gaps due to gender appear to be narrowing at the top management level

The Impact Of Mentoring On Career Plateau And Turnover Intentions Of Management Accountants

The presence of frustrated employees in an organization is likely to have a significant adverse effect on the organization’s operations. Employees faced with a career plateau are likely to exhibit feelings of frustration. Such employees may have a higher tendency to leave the company, increasing employee turnover.  Using Canadian Certified Management Accountants (CMAs), as subjects, this study examined the effect of mentoring on employee career plateau tendencies and turnover intentions.  Survey questionnaires were mailed and responses obtained from 235 CMAs.  Subjects’ responses were factor analyzed to develop composite scales about CMAs’ perceptions for mentoring (MENTOR), career plateau (PLAT), turnover intentions (EXIT), positive job attributes (PJA), and job satisfaction rate (JSR).   For hypotheses testing, the means of the scaled values were used in statistical tests of relationships between the measures. Tests indicated that mentoring reduces plateau tendency significantly and significantly lowers turnover intentions even after controlling for career plateau, job satisfaction, and positive job attributes. The results imply that fostering a mentoring environment can reduce career plateau attainment and turnover intentions. Reducing career plateau in turn is likely to have positive impact on organization’s operations. For example, CMAs are often involved in, among other matters, the operational information and financial reporting process.  Therefore, reducing CMAs’ career plateau tendencies and turnover intentions could improve the quality of an organization’s financial reporting process

Mentoring, Career Plateau Tendencies, Turnover Intentions And Implications For Narrowing Pay And Position Gaps Due To Gender Structural Equations Modeling

This study analyzed responses to career-related questions from a survey of experienced Canadian Certified Management Accountants (CMAs), relative experts in the field of management accounting, to address how mentoring affects turnover intentions and career plateau tendency of male and female accounting professionals in industry. In this regard, we used structural equations modeling to build and test a framework illustrating the impact of mentoring and career-related factors. Results indicate that fostering a mentoring environment within an organization can strengthen CMAs perceptions of their careers and employers. Mentoring has also been suggested to enhance womens opportunities to advance in organizations and help women break the glass ceiling. Analyses of data relating to compensation in 2007 and 2009 for a sample of female and male CEOs and operating performance of companies led by these CEOs for these years indicate that, that compensation gaps due to gender appear to be narrowing at the top management level

External Auditor\u27s Ethical Dilemma: Perceived Threat to Auditor\u27s Responsibility Posed by the Auditor\u27s Allegiance to Corporate Management

Major accounting scandals and audit failures (such as Enron and WorldCom) during the turn of the century seriously impaired the public\u27s confidence and trust in audited financial statements. This had cast a shadow on auditor independence, integrity and professional conduct, and led to the collapse of Arthur Andersen (AA), one of the then Big-5 public accounting firms. Some have argued that auditors align their interest with that of corporate management instead of investors and the general public because audit fees are paid by management. This leads to the following question: do auditors appear to compromise their independence and align with their clients\u27 interest rather than shareholders\u27 interest? Our examination of audit fees charged by the Big-5 to a sample of companies investigated by the Securities and Exchange Commission (SEC) reveals that auditors (except for AA) appear to recognize engagement risk at an increased level for SEC investigated audit clients. Accordingly, SEC investigated clients are charged higher audit fees than non-SEC investigated clients. However, AA appeared not to distinguish the engagement risk differences between its SEC investigated and non-SEC investigated clients. Results overall suggest that auditors fulfill their professional responsibility of serving the public interest by maintaining client-auditor independence and objectivity. Although the Sarbanes-Oxley Act of 2002 has been implemented, misleading and fraudulent financial reporting persist, which suggests that there is room for improving audit quality. Accordingly, we provide suggestions to strengthen both audit quality and professional conduct (particularly regarding auditor independence) to enhance the public\u27s confidence in audited financial statements

External auditor\u27s ethical dilemma: Perceived threat to auditor\u27s responsibility posed by the auditor\u27s allegiance to corporate management

Major accounting scandals and audit failures (such as Enron and WorldCom) during the turn of the century seriously impaired the public\u27s confidence and trust in audited financial statements. This had cast a shadow on auditor independence, integrity and professional conduct, and led to the collapse of Arthur Andersen (AA), one of the then Big-5 public accounting firms. Some have argued that auditors align their interest with that of corporate management instead of investors and the general public because audit fees are paid by management. This leads to the following question: do auditors appear to compromise their independence and align with their clients\u27 interest rather than shareholders\u27 interest? Our examination of audit fees charged by the Big-5 to a sample of companies investigated by the Securities and Exchange Commission (SEC) reveals that auditors (except for AA) appear to recognize engagement risk at an increased level for SEC investigated audit clients. Accordingly, SEC investigated clients are charged higher audit fees than non-SEC investigated clients. However, AA appeared not to distinguish the engagement risk differences between its SEC investigated and non-SEC investigated clients. Results overall suggest that auditors fulfill their professional responsibility of serving the public interest by maintaining client-auditor independence and objectivity. Although the Sarbanes-Oxley Act of 2002 has been implemented, misleading and fraudulent financial reporting persist, which suggests that there is room for improving audit quality. Accordingly, we provide suggestions to strengthen both audit quality and professional conduct (particularly regarding auditor independence) to enhance the public\u27s confidence in audited financial statements

The Auditor’s Report on Internal Control & Fraud Detection Responsibility: A Comparison of French and U.S. Users’ Perceptions

The AICPA recently finished a harmonization project to converge U.S. audit standards with those of the International Audit and Assurance Standards Board. The assumption implicit in this project is that users of financial statements will benefit from a converged, or consistent set of audit standards. Additionally, the AICPA’s clarified auditing standard AU-C700, Audit Conclusions and Reporting, now requires explicit acknowledgement of the auditor’s responsibility for fraud procedures in the auditor’s report, which is the focus of advisory committees in both the U.S. Department of Treasury and the European Commission. Therefore, the purpose of this study is to investigate how users (U.S. and French) rate a harmonized audit communication. Specifically, we test perceptions of the auditor’s internal control report using the PCAOB’s AS2 report. Results indicate that U.S. and French users rate the report similarly, with no significant differences along dimensions of readability, reliability, and liability. Additionally, we investigate how user perceptions change when evaluating a report that contains wording as to the auditor’s fraud detection responsibility. Results indicate that while U.S. users’ perceptions increase positively when fraud wording is added, French perceptions remain unchanged. Overall, our results suggest that both U.S. and non-U.S. users perceive the information from an auditor’s internal control report the same. However, specific wording changes (like fraud) do not universally increase positive perceptions perhaps because of country-specific legal and regulatory environments

Communication With The SAS 58 Auditor’s Standard Report: An Exploratory Study

In a field experiment, the authors examine whether three alternative versions of the auditor’s standard report communicate effectively the cognitive dimensions of understand-ability, engagement risk, and needed accommodation to a user group (investment and banking professionals) and an expert group (audit partners and managers). The study focuses on the mandated SAS 58 (AICPA 1988) three-paragraph auditor’s standard report (SR), the previously mandated two-paragraph auditor’s standard report (OSR) and a modified auditor’s standard report (MSR) more in harmony with the stated auditor’s responsibility for detecting fraud, as mandated by SAS 53 (AICPA 1988b) which was subsequently superceded by SAS 82 and SAS 99. The results indicate that both auditors and users are consistent in their belief that the SR represents an enhancement in understandability of the audit message over OSR, and that a format along the lines of MSR would not have represented an improvement over the SR format given the inconsistencies in ratings between auditors and users of the MSR (which contains explicit language relative to fraud). Specifically, auditors’ perception of engagement risk associated with the MSR is much higher than users’ perception and the demand for needed accommodation (additional information) is also greater for auditors than users. Overall, the results suggest that the ASB was effective in responding to the user needs with respect to the message communicated in the auditor’s report, a critical link in the financial information reporting process. This investigation has the potential to inform policy-making bodies concerned with adopting a report standard that fairly communicates the risks borne by both auditor and user groups