Showing papers by "Clive S. Lennox published in 2015"
TL;DR: Li et al. as discussed by the authors examined whether China's weak institutional environment results in lower-quality audits by the Big 4 firms and found that the Big Four assign their less experienced partners to companies that are listed only in China compared with clients cross-listed in Hong Kong.
Abstract: This study examines whether China's weak institutional environment results in lower-quality audits by the Big 4 firms. We find that the Big 4 assign their less experienced partners to companies that are listed only in China compared with clients cross-listed in Hong Kong. The Big 4 are less likely to issue modified audit reports, and they charge lower audit fees for clients that are listed only in China. Finally, companies listed only in China have larger signed abnormal accruals than do companies cross-listed in Hong Kong. Overall, we conclude that the weak institutional environment in China results in the Big 4 firms providing lower-quality audits to companies that are listed only in China.
141 citations
TL;DR: In this paper, the authors test whether PCAOB inspections help auditors in detecting and reporting material internal control weaknesses, and they find that auditors respond by increasing their issuance of adverse internal control audit opinions.
Abstract: We test whether PCAOB inspections help remediate auditors’ deficiencies in detecting and reporting material internal control weaknesses. After PCAOB inspectors report higher rates of internal control audit deficiencies, we find that auditors respond by increasing their issuance of adverse internal control audit opinions. We also find that the increased adverse internal control opinions are issued to clients that genuinely warrant such opinions, and are not simply the result of auditors becoming more conservative in their reporting practices. Finally, we find that higher inspection deficiency rates also lead to higher audit fees. Taken together, our results are consistent with critical inspection reports prompting auditors to perform more rigorous tests and evaluations of their clients’ internal controls. Overall, our findings suggest that PCAOB inspections improve the quality of internal control audits through their ability to remediate deficiencies in auditors’ internal control audit procedures.
101 citations
TL;DR: In 2005-2006, the PCAOB imposed restrictions on auditors' tax services in order to strengthen auditor independence and improve audit quality, which resulted in a significant drop in auditor-provided tax services as discussed by the authors.
Abstract: In 2005-2006, the PCAOB imposed restrictions on auditors’ tax services in order to strengthen auditor independence and improve audit quality. The restrictions resulted in a significant drop in auditor-provided tax services (APTS). To test the impact on audit quality, I partition the sample into a treatment group (companies whose APTS purchases dropped significantly when the restrictions were introduced) and a control group (companies whose APTS purchases were relatively unaffected) and I measure audit quality using the incidence of accounting misstatements, tax-related misstatements, and auditors’ going-concern opinions. Using a difference-in-differences design, I find no change in audit quality for the treatment group relative to the control group after the restrictions are imposed.
65 citations
TL;DR: In this article, the authors examine whether managers continue to influence auditor selection decisions in the post-SOX period, and whether this influence subsequently impairs auditor independence as presumed in the legislation, and they use the association between management affiliation and auditor hiring as a way in which to identify management influence over auditor selection.
Abstract: The objective of this study is to examine managerial involvement in auditor selection decisions when audit committees are “directly responsible” for auditor relationships, including selection of the audit firm. The Sarbanes-Oxley Act (SOX) of (2002) requires fully independent audit committees to be “directly responsible for the appointment, compensation, and oversight of the work of any registered public accounting firm” (Section 301). This statutory requirement is a regulatory attempt to eliminate management influence over the external auditor and align auditor incentives with those of the board and shareholders. While regulators largely assume that audit committees take responsibility for auditor selection in the post-SOX period (Doty 2011), there exists no archival analysis testing this assumption. Therefore, the effectiveness of this regulation (SOX Section 301) remains uncertain. In this paper, we examine (a) whether contrary to the intent of SOX, managers continue to influence auditor selection decisions in the post-SOX period, and (b) whether this influence subsequently impairs auditor independence as presumed in the legislation. With respect to (a), we use the association between management affiliation and auditor hiring as a way in which to identify management influence over auditor selection. Management affiliation is defined as a prior employment relationship of a manager (i.e., CEO, CFO, controller) with a Big 4 auditing firm. While an affiliation between a
59 citations
TL;DR: In this paper, the tax authority is more likely to select a firm for an audit when the firm has a lower effective tax rate, a higher book-tax difference, and more income-decreasing discretionary accruals.
Abstract: Using proprietary data obtained from a local tax office in China, we examine the determinants of corporate tax audits and the consequences of those audits. We find that the tax authority is more likely to select a firm for an audit when the firm has a lower effective tax rate, a higher book-tax difference, and more income-decreasing discretionary accruals. In addition, the tax office imposes larger tax payments on the audited firms that have lower effective tax rates, higher book-tax differences, and more income-decreasing discretionary accruals. Applying a difference-in-difference and matching research design, we find that after firms have been audited they significantly increase their effective tax rates, reduce their book-tax differences, and reduce their income-decreasing discretionary accruals. Our study provides important insights on the determinants of the tax authority’s decision on whether to initiate an audit and the impact of tax audits on both tax reporting and financial reporting.
30 citations
TL;DR: In this paper, the authors examine how auditors respond to the estimation risk associated with predicting the future bankruptcy outcomes of their audit clients and find that auditors are more likely to issue going concern opinions when the standard errors surrounding the point estimates of bankruptcy are larger.
Abstract: We argue that auditors are more conservative when they face high estimation risk. To test this, we examine how auditors respond to the estimation risk associated with predicting the future bankruptcy outcomes of their audit clients. Consistent with auditors being more conservative when they face higher estimation risk, we find that auditors are more likely to issue going concern opinions and are more likely to resign when the standard errors surrounding the point estimates of bankruptcy are larger. Estimation risk is found to be of first-order importance in explaining the extent of auditor conservativism. To our knowledge, this is the first study to quantify estimation risk using the variance-covariance matrix of coefficient estimates taken from a statistical prediction model.
13 citations
TL;DR: In this article, the authors examine whether external monitoring by a high-quality auditor helps reduce the agency problems embedded in the ownership structures of Western European firms and find strong, robust evidence that firms with multiple large shareholders and family-dominated firms are associated with a lower demand for Big Four auditors.
Abstract: The ownership structures of Western European firms engender agency conflicts between: (i) owners and managers (type I); and (ii) minority and controlling shareholders (type II). Prior research stresses that credible financial reporting ameliorates agency problems by identifying any diversion of corporate resources. We examine whether external monitoring by a high-quality auditor helps reduce the agency problems embedded in the ownership structures of Western European firms. In regressions that control for firm characteristics as well as country and industry fixed effects, we find that the demand for a Big Four auditor is insensitive to whether the largest shareholder’s control rights exceed her cash flow rights. Consequently, we fail to find any evidence that the agency conflict between minority and controlling shareholders affects the demand for external monitoring. In contrast, we find strong, robust evidence that firms with multiple large shareholders and family-dominated firms are associated with a lower demand for Big Four auditors. This suggests that committed internal monitoring by multiple large shareholders and families is valuable, which reduces the benefit of external monitoring by a Big Four auditor. Collectively, our research suggests that Western European firms rely more heavily on Big Four auditors when the type I agency problem stemming from the separation of ownership from management is worse. However, supplementary analysis reveals that East Asian firms that are known to suffer from poor corporate governance do not substitute between external monitoring by a high-quality auditor and internal monitoring by multiple large shareholders or families, which squares with prior research that the type II agency problem is more relevant in this region.
11 citations
Posted Content•
TL;DR: This article examined how adjustments to earnings during year-end audits affect measures of earnings quality and found that audit adjustments cause earnings to become smoother and more persistent, which results in higher accrual quality.
Abstract: We examine how adjustments to earnings during year-end audits affect measures of earnings quality. There are four key findings. First, audit adjustments cause earnings to become smoother and more persistent. Second, the adjustments result in higher accrual quality. Third, audit adjustments have a larger negative effect on signed accruals than absolute accruals. Fourth, the adjustments do not reduce the discontinuity in the earnings distribution around zero. These findings are of interest to researchers who use earnings properties as proxies for earnings quality and audit quality. However, we caution that our findings for China may not generalize to other countries.
7 citations
TL;DR: Li et al. as mentioned in this paper argue that tax aggressive firms are eager to avoid the oversight of the tax authorities and so they are less likely to submit claims for R&D tax deductions compared with non-tax aggressive firms.
Abstract: In China, submitting a claim for R&D tax deductions increases the likelihood that a firm will be scrutinized by the tax authorities. We argue that tax aggressive firms are keen to avoid the oversight of the tax authorities and so they are less likely to submit claims for R&D tax deductions compared with non-tax aggressive firms. Further, because tax aggressive firms are less likely to submit claims for R&D tax deductions, they have less incentive to invest in R&D. We test these predictions using proprietary data from a local tax office in China. As expected, we find that tax aggressive firms are less likely to claim for R&D tax deductions and they invest less in R&D compared with non-tax aggressive firms.
4 citations