Showing papers on "Audit published in 2003"

Auditing and the production of legitimacy

Abstract: This essay discusses an important series of formative contributions to contextualist and critical research in auditing. A small number of relatively recent papers question rationalized accounts of the audit process and explore the complex ‘back stage’ of practice. These papers are interpreted as contributions to our understanding of the production of legitimacy around four substantive themes: the audit process and formal structure; auditing as a business; working papers and image management; new audits. The papers also point to the socially constructed nature of professional inference and suggest a fruitful basis for taking these research efforts forward.

The Effects of Firm‐Wide and Office‐Level Industry Expertise on Audit Pricing

Abstract: This study examines the role of auditor industry expertise in the pricing of Big 5 audits in Australia. We test if the audit market prices an auditor's firm‐wide industry expertise, or alternatively if the audit market only prices office‐level expertise in those specific cities where the auditor is the industry leader. We document that there is an average premium of 24 percent associated with industry expertise when the auditor is both the city‐specific industry leader and one of the top two firms nationally in the industry. However, the top two firms nationally do not earn a premium in cities where they are not city leaders. We further document that national leadership rankings are, in fact, driven by the specific offices where accounting firms are city leaders. Thus, the overall evidence supports that the market perception and pricing of industry expertise in Australia is primarily based on office‐level industry leadership in city‐specific audit markets.

The Association between Audit Committee Characteristics and Audit Fees

Abstract: This study examines the association between audit committee characteristics and audit fees, using data gathered under the recent SEC fee disclosure rules. We hypothesize that audit fees will be positively associated with audit committee independence, financial expertise, and meeting frequency. We examine a sample of 492 nonregulated, Big 5‐audited firms that filed proxy statements with the SEC in the period from February 5, 2001 to June 30, 2001. We find that audit committee independence (defined as an audit committee comprised entirely of outside, independent directors) and financial expertise (defined as an audit committee containing at least one member with financial expertise) are significantly, positively associated with audit fees. This is in contrast to the findings of Carcello et al. (2002a), who find that audit committee characteristics are not significant in the presence of board‐related variables. Meeting frequency (defined as an audit committee that meets at least four times annually) was not ...

Two Brief Alcohol-Screening Tests From the Alcohol Use Disorders Identification Test (AUDIT): Validation in a Female Veterans Affairs Patient Population

Abstract: Background Primary care physicians need a brief alcohol questionnaire that identifies hazardous drinking and alcohol use disorders. The Alcohol Use Disorders Identification Test (AUDIT) questions 1 through 3 (AUDIT-C), and AUDIT question 3 alone are effective alcohol-screening tests in male Veterans Affairs (VA) patients, but have not been validated in women. Methods Female VA patients (n = 393) completed self-administered questionnaires, including the 10-item AUDIT and a previously proposed modification to AUDIT question 3 with a sex-specific threshold for binge drinking (≥4 drinks/occasion), and in-person interviews with the Alcohol Use Disorder and Associated Disabilities Interview Schedule. The AUDIT-C, AUDIT question 3 alone, and the 10-item AUDIT were each evaluated with and without the sex-specific binge question and compared with past-year hazardous drinking (>7 drinks/week or ≥4 drinks/occasion) and/or active Diagnostic and Statistical Manual of Mental Disorders, Fourth Edition alcohol abuse or dependence, based on interviews. Results Eighty-nine women (22.6%) met interview criteria for past-year hazardous drinking and/or active alcohol abuse or dependence. Standard and sex-specific AUDIT-Cs were sensitive (0.81 and 0.84, respectively) and specific (0.86 and 0.85, respectively). Their areas under the receiver operating characteristic curves were equivalent (0.91, and 0.92, respectively) and slightly higher than for the standard 10-item AUDIT (0.87). A single, sex-specific question about binge drinking (modified AUDIT question 3) had a sensitivity of 0.69 and specificity of 0.94, whereas the standard AUDIT question 3 was specific (0.96) but relatively insensitive (0.45). Conclusions The standard and sex-specific AUDIT-Cs are effective screening tests for past-year hazardous drinking and/or active alcohol abuse or dependence in female patients in a VA study.

Does Big 6 Auditor Industry Expertise Constrain Earnings Management

Abstract: SYNOPSIS: Earnings management remains a popular topic of debate and discussion among investors, regulators, analysts, and the public. One mechanism that might mitigate earnings management is auditors' industry expertise. Using a large sample of clients of Big 6 auditors, this research examines the association between auditor industry expertise, measured in terms of both auditor market share in an industry and an industry's share in the auditor's portfolio of client industries, and a client's level of absolute discretionary accruals, a common proxy for earnings management. Clients of nonspecialist auditors report absolute discretionary accruals that are, on average, 1.2 percent of total assets higher than the discretionary accruals reported by clients of specialist auditors. This finding is consistent with the notion that specialist auditors mitigate accruals-based earnings management more than nonspecialist auditors and, therefore, influence the quality of earnings. Keywords: industry specialization; Big 6; specialist firms; earnings management; discretionary accruals; audit quality. Data Availability: The data used in this study are publicly available from the sources indicated in the text. INTRODUCTION Earnings management is a concern for investors, regulators, analysts, and the public. In a review of the earnings management literature, Healy and Wahlen (1999) call for research on factors that limit earnings management. This study is a response that provides empirical evidence on one mitigating factor: auditors' industry expertise. Specifically, I examine the association between Big 6 auditor industry expertise and the level of firms' absolute discretionary accruals--a common proxy for earnings management. Bonner and Lewis (1990) find that, on average, more experienced auditors outperform less experienced auditors. Similarly, Bedard and Biggs (1991) observe that auditors with more manufacturing experience are better able to identify errors in a manufacturing client's data than auditors with less manufacturing experience. This is consistent with the findings of Johnson et al. (1991) that industry experience is associated with enhanced ability to detect fraud. Wright and Wright (1997) conclude that significant experience in the retailing industry enhances hypothesis generation in identifying material errors. Specialist auditors are likely to invest more in staff recruitment and training, information technology, and state-of-the art audit technologies than nonspecialist auditors (Dopuch and Simunic 1982). Solomon et al. (1999) find that specialist auditors have more accurate nonerror frequency knowledge than nonspecialists. This finding is important because it is not unusual that client firms suggest nonerror explanations for ratio fluctuations. Audit effectiveness thus depends on the accuracy of auditors' nonerror frequency knowledge. All these findings support the conclusion that auditors' industry-specific knowledge is associated with audit effectiveness. How does an auditor's specialized industry knowledge help in detecting earnings management? Maletta and Wright (1996) observe fundamental differences in error characteristics and methods of detection across industries. This suggests that auditors who have a more comprehensive understanding of an industry's characteristics and trends will be more effective in auditing than auditors without such industry knowledge. Auditors who specialize in the banking industry can assess the adequacy of loan loss provisions better than nonspecialist auditors and, therefore, can improve the credibility of reported earnings. Auditors with expertise in manufacturing can evaluate whether the client's provision for warranty obligations is in line with industry standards better than an auditor without this expertise. Specialist auditors are also likely to develop databases detailing industry-specific best practices, industry-specific risks and errors, and unusual transactions, all of which serve to enhance overall audit effectiveness. …

Evidence on the Joint Determination of Audit and Non‐Audit Fees

Abstract: In this study we investigate whether the characteristics of clients, auditors, and the auditor-client relationship simultaneously determine audit and non-audit fees. As done in prior studies, we maintain that fees proxy for the level of service provided and follow the physical flow of knowledge. Estimating single-equation models of audit and non-audit fee models, we confirm prior findings of an association between audit and non-audit fees. Studies conclude that such evidence is consistent with knowledge spillovers between the two services. However, we document empirically that audit and non-audit fees are simultaneously determined. Because the data indicate audit and non-audit fees are jointly determined, we then investigate whether previously documented associations between audit and non-audit fees are the result of biased estimation induced by using endogenous variables in single-equation models. In contrast to results from single-equation estimations, we find no association between audit and non-audit fees using a simultaneous specification of the fee system, suggesting that single-equation estimations suffer from simultaneous-equations bias. In sum, the findings are not consistent with the existence of economies of scope from the joint performance of audit and non-audit services after controlling for the joint behavior of audit and non-audit fees. Given the ongoing debate over the level of allowed non-audit services by auditors, the argument for the joint provision of audit and non-audit services is less justified than if joint-supply benefits had been documented.

Self-Selection of Auditors and Audit Pricing in Private Firms

Abstract: Prior research has examined audit pricing for publicly held firms and provided some evidence of a Big 8 premium in pricing. We investigate audit pricing among private firms, and provide evidence that private firms do not pay such a premium on average. The relatively greater degree of dispersion in auditor choice (between Big 5 and non-Big 5 auditors) in our large sample of privately held audit clients allows us to predict the auditor choice for each firm and to control for potential self-selection. We reject the null hypothesis that clients are randomly allocated across Big 5 and non-Big 5 auditors. Consistent with the extant literature, we document a Big 5 premium; however the premium vanishes once we control for self-selection bias. Moreover, we find that client firms choosing Big 5 auditors generally would have faced higher fees had they chosen non-Big 5 auditors, given their firm-specific characteristics. Our results are consistent with audit markets for private firms being segmented along cost-effective lines. Further, our results suggest that auditees in our setting do not, on average, view Big 5 auditors as superior in terms of the perceived quality of the services provided to a degree significant enough to warrant a fee premium.

Consideration of fraud in a financial statement audit

Abstract: .01 This section addresses the auditor's responsibilities relating to fraud in an audit of financial statements. Specifically, it expands on how section 315, Understanding the Entity and Its Environment and Assessing the Risks of Material Misstatement, and section 330, Performing Audit Procedures in Response to Assessed Risks and Evaluating the Audit Evidence Obtained, are to be applied regarding risks of material misstatement due to fraud.

Foundations of Corporate Success: How Business Strategies Add Value

Abstract: PART I: CORPORATE SUCCESS PART II: BUSINESS RELATIONSHIPS PART III: DISTINCTIVE CAPABILITIES PART IV: FROM DISTINCTIVE CAPBILITIES TO COMPETITIVE ADVANTAGE PART V: COMPETITIVE STRATEGIES PART VI: THE STRATEGIC AUDIT PART VII: THE FUTURE OF STRATEGY

An Empirical Analysis of Auditor Reporting and Its Association with Abnormal Accruals

Abstract: In this paper, we use a Web-based sampling methodology to obtain and content analyze a large sample of modified audit opinions. Based on this analysis, we re-examine whether certain modified audit opinions are associated with abnormal accruals, as a proxy for earnings management. We find that the documented relation between modified opinions and abnormal accruals rests with companies that have going-concern opinions because such companies have extremely negative accruals. The explanation for these negative accruals is likely severe financial distress since we find that, ceteris paribus, their magnitude is not significantly different from that of a sample of similarly-distressed control firms. Overall, we find no evidence to support inferences in previous research that firms receiving modified audit opinions management earnings more than those receiving clean audit opinions.

Discretionary Accounting Accruals, Managers' Incentives, and Audit Fees*

Abstract: This paper examines the linkages between discretionary accruals (DAs), managerial share ownership, management compensation, and audit fees. It draws on the theory that managers of firms with high management ownership are likely to use DAs to communicate value-relevant information, while managers of firms with high accounting-based compensation are likely to use DAs opportunistically to manage earnings to improve their compensation. OLS regression results of 648 Australian firms show that (1) there is a positive association between DAs and audit fees; (2) managerial ownership negatively affects the positive relationship between DAs and audit fees; and (3) this negative impact is further found to be weaker for firms with high accounting-based management compensation.

Evaluating the Audit Explosion

Abstract: This paper reviews the claim that there has been an audit explosion in recent years and seeks to refine the argument in terms of its institutional and behavioral effects and its underlying causes and consequences. A framework for greater comparative sensitivity is suggested, both in cross-national and cross-sectoral terms, which focuses on variation in the knowledge base, formal organization, and operational dimensions of auditing. Finally, a preliminary framework for evaluating the design of auditing practices is developed that could inform a post-Enron critical discussion of the problems and the potential for auditing in the future.

Effects of Authoritative Guidance Availability and Audit Committee Effectiveness on Auditors' Judgments in an Auditor‐Client Negotiation Context

Abstract: In this paper, we present the results of an experiment that investigates the effects of two contextual features—the availability of authoritative guidance and the effectiveness of the client's audit committee—on auditors' perceived outcome of auditor‐client negotiations concerning an audit adjustment that affects the client's ability to meet analysts' forecasts. Results show that auditors' perceived negotiation outcome is jointly influenced by authoritative guidance availability and audit committee effectiveness. Specifically, authoritative guidance availability has a greater effect on auditors' perceived negotiation outcome in the absence of an effective audit committee than in its presence. We also find that concessionary moves by the client increase auditors' propensity to concede to the client's preferred position.

Compliance with the Disclosure Requirements of Germany's New Market: IAS Versus US GAAP

Abstract: This research examines compliance with both International Accounting Standards (IAS) and United States Generally Accepted Accounting Principles (US GAAP) for companies listed on Germany's New Market. Based on a sample of 100 firms that apply IAS and 100 that apply US GAAP, we investigate the extent to which companies comply with IAS and US GAAP disclosure requirements in their year-2000 financial statements. Compliance levels range from 100% to 41.6%, with an average of 83.7%. The average compliance level is significantly lower for companies that apply IAS as compared to companies applying US GAAP. This study provides the first systematic evidence regarding the enforcement of US GAAP outside the US, and accordingly not subject to Securities Exchange Commission (SEC) review. The results unveil a considerable extent of non-compliance. The overall level of compliance with IAS and US GAAP disclosures is positively related to firms being audited by Big 5 auditing firms and to cross-listings on US exchanges. Compliance is also associated with references to the use of International Standards of Auditing (ISA) or US GAAS in the audit opinion. The findings add to the growing concerns regarding the lack of effective supervision in the German capital market.

Audit Firm Industry Specialization as a Differentiation Strategy: Evidence from Fees Charged to Firms Going Public

Abstract: This paper examines IPO audit fees to assess the use of industry specialization as a differentiation strategy by audit firms. We extend existing theory on the impact of industry specialization on audit fees by incorporating Porter's (1985) theory of competition and differentiation. We suggest that market share enables audit firms to gain competitive advantages in terms of cost and service. However, the impact of such advantages on fees depends on whether the audit firm has successfully differentiated itself from competitors within client industries. Our results indicate that as audit firm industry market share increases without a differentiation in market share, the audit fee charged for a given IPO decreases. In the context of Porter (1985), this result suggests that the client is able to bargain for a portion of the auditor's cost savings because the audit firm has not successfully differentiated itself from competitors. In contrast, we show that audit firms that possess significantly higher market shar...

Accounting Quality, Auditing and Corporate Governance

Abstract: This commentary provides an analysis of past and present dimensions of accounting, auditing and corporate governance that have led to the currently troubling state of affairs in the financial reporting environment. It offers specific recommendations for addressing the current problems designed to enhance the quality and integrity of the financial reporting environment. It argues that substantive changes in corporate governance are necessary before meaningful improvements can occur in accounting and auditing. Until corporate boards are truly independent of corporate management and are knowledgeable enough to act as effective shareholder advocates, changes in accounting and auditing will be of limited impact. The commentary hopes to stimulate meaningful debate and change related to improving accounting quality, auditing and corporate governance.

An Empirical Investigation of Audit Fees, Nonaudit Fees, and Audit Committees*

Abstract: This stody examines the association between audit committee characteristics and the ratioof nonaudit service (NAS) fees to audit fees, using data gathered under the Secuiities andExchange Commission's (SEC's) fee disclosure rules. Issues related to NAS fees have beenof concern to practitioners, regulators, and academics for a number of years. Prior researchsuggests that audit committees possessing certain characteristics are important participantsin the process of managing the client—auditor relationship. We hypothesize that audit com-mittees that are independent and active financial monitors have incentives to limit NAS fees(relative to audit fees) paid to incumbent auditors, in an effort to enhance auditor indepen-dence in either appearance or fact. Our analysis using a sample of 538 flrms indicates thataudit committees comprised solely of independent directors meeting at least four timesamiually are significantly and negatively associated with the NAS fee ratio. This evidence isconsistent with audit committee members perceiving a high level of NAS fees in a negativelight and taking actions to decrease the NAS fee ratio.Keywords Audit committee; Audit fees; Auditor independence; Nonaudit seiYicesCoiidenseLes auteurs examinent le lien entre les caracteristiques du comite de verification et le rapportentre les honoraires des services autres que la verification (designes NAS — non-auditsenAces) et les honoraires des services de verification, a l'aide de donnees recueillies auxEtats-Unis, sous le regime des regies imposees par la Securities and Exchange Commission(SEC) en matiere d'ioformation a foumir sur les honoraires. Depuis bon nombre d'annees,les questions relatives aux honoraires des NAS preoccupent les praticiens, les responsablesde !a reglementation et ies chercheurs. La presente etude est motivee par deux decisions

Compliance with the Disclosure Requirements of Germany's New Market: IAS Versus US GAAP

Abstract: This research examines compliance with both International Accounting Standards (IAS) and United States Generally Accepted Accounting Principles (US GAAP) for companies listed on Germany's New Market. Based on a sample of 100 firms that apply IAS and 100 that apply US GAAP, we investigate the extent to which companies comply with IAS and US GAAP disclosure requirements in their year–2000 financial statements. Compliance levels range from 100% to 41.6%, with an average of 83.7%. The average compliance level is significantly lower for companies that apply IAS as compared to companies applying US GAAP. This study provides the first systematic evidence regarding the enforcement of US GAAP outside the US, and accordingly not subject to Securities Exchange Commission (SEC) review. The results unveil a considerable extent of non–compliance. The overall level of compliance with IAS and US GAAP disclosures is positively related to firms being audited by Big 5 auditing firms and to cross–listings on US exchanges. Compliance is also associated with references to the use of International Standards of Auditing (ISA) or US GAAS in the audit opinion. The findings add to the growing concerns regarding the lack of effective supervision in the German capital market.

Value for money tests and accounting treatment in PFI schemes

Abstract: In Private Finance Initiative (PFI) projects, value for money (VFM) tests and accounting treatment are distinct but related issues. VFM analysis should be concerned with total risk, not just with the sharing of risk, which dominates the accounting treatment decision. A framework is developed for logical thinking about what is meant by “best VFM” in the context of PFI projects. This involves consideration of the full set of alternatives, not an artificially diminished subset. The credibility of analytical techniques can be tarnished if they are misused to legitimate a predetermined decision. A reduction in construction risk may be a powerful source of VFM gains under PFI, but, under UK accounting regulation, this should not influence the accounting treatment decision. New complications about how VFM should be interpreted arise directly from the process of public sector fragmentation: affordability to the client is not necessarily the same as VFM for the public sector as a whole. Only public auditors, such as the National Audit Office, can gain access to PFI documentation on the conditions necessary for a comprehensive assessment of both accounting treatment and VFM. However, such studies require the kind of theoretical underpinning provided in this article, as otherwise the findings are likely to be ambiguous and hence vulnerable to rebuttal. In particular, VFM judgements must make explicit the basis of comparison on which they rest.

How Are Earnings Managed? Examples from Auditors

Abstract: SYNOPSIS: This paper reports descriptive evidence about how managers attempt to manage earnings, based on a sample of 515 earnings-management attempts obtained from a survey of 253 experienced auditors (and also analyzed by Nelson et al. 2002). We classify attempts first according to primary approach: expense recognition, revenue recognition, issues unique to business combinations, and other issues. Then, within each of those broad categories, we subclassify attempts by the particular approach used in the attempt. For each specific approach, we report the accounts involved, the frequency with which the approach increased or decreased current-period income (and the frequency of adjustments required by the auditor), and provide descriptions by auditors of income-increasing and income-decreasing examples of the more frequent approaches. We also link our findings to recent SEC Accounting and Auditing Enforcement Releases (AAERs) that illustrate extreme versions of the specific approaches identified by our participants. This experienced-based, example-rich framework and frequency data should assist investors, auditors, audit committees, and other participants in the financial reporting process who need to be vigilant for earnings-management approaches.

Do Expert Informational Intermediaries Add Value? Evidence from Auditors in Microcap Initial Public Offerings

Abstract: Do expert informational intermediaries add value? We address this question by examining the informativeness of the audit report contained in the prospectus associated with a firm's initial public offering (IPO). At the time of the IPO, there is a relative lack of information to facilitate the establishment of equity values, suggesting that the information provided by outside “experts” (e.g., auditors, underwriters) is particularly important. In this article we study small, non-venture-backed IPOs, a segment of the market with the poorest long-run performance and where the prestigious audit firm is often the sole (if any) expert present. We find that the pre-IPO opinions of larger auditors are more predictive of post-IPO negative stock delistings. Of particular note, the opinions of the national-tiered firms are comparably predictive to those of the Big 6, though this finding emerges only after we consider the selectivity-based differences in the clients that hire these national firms. Our findings also indicate that, for larger auditors the presence of a pre-IPO going-concern opinion is more strongly associated with first-year stock returns and that larger auditors are more likely to give such opinions to their distressed clients. Overall, we address a deficiency in the literature relating to “the paucity of evidence on the value of auditor opinions to investors” (Healy and Palepu [ 2001 p. 415]).

Accounting Quality, Auditing, and Corporate Governance

Abstract: SYNOPSIS: To achieve orderly capital markets around the world, corporations must provide investors and creditors with relevant, reliable, and timely information. Accounting, auditing, and the structure of corporate governance that they operate within are essential components in the flow of information to capital market participants. However, recent accounting failures have pointed out the need for substantive improvements in these components. The academic accounting community can play a role in stimulating change aimed at enhancing market efficiency through commentary and scientific-based research that provide direction for change. The purpose of this commentary is threefold. First I review the historical development of accounting, auditing, and corporate governance in an effort to identify and understand salient features of the past that have led to the current state of affairs. I then propose changes in accounting, auditing, and governance that I believe will address the current problems with the underlying quality and integrity of the financial reporting process. The third purpose of these comments is to stimulate further debate and empirical research aimed at enhancing the future quality and integrity of the financial reporting process.

Auditor Acceptance of Dysfunctional Audit Behavior: An Explanatory Model Using Auditors' Personal Characteristics

Abstract: Dysfunctional behavior (DB) and staff turnover are associated with decreased audit quality (Public Oversight Board 2000). Dysfunctional behaviors such as premature sign‐off, gathering of insufficient evidence, altering or replacing audit procedures, and underreporting of time have negative effects on the auditing profession. While recent studies suggest that dysfunctional behavior is a widespread problem (Smith 1995; Otley and Pierce 1995), extant research fails to adequately explain the causes. In this study, the organizational behavior and industrial psychology literatures provide the basis for developing and testing a model that identifies locus of control, performance, and turnover intentions as determinants of auditor acceptance of DB. Using a cross‐organizational design and a structural equation modeling technique, survey results from 106 auditors generally support the explanatory model. Results indicate that auditors who are more accepting of DB tend to possess an external locus of control, report ...

The Relationship Between the Audit Committee and the Internal Audit Function: Evidence from Australia and New Zealand

Abstract: This study examines the separate influence of independence and financial experience on audit committee relations with the internal audit function. Using data from Australia and New Zealand, the study focuses on audit committees and internal audit in both private and public sector entities. Data were collected by means of a questionnaire sent to chief internal auditors. The results suggest that independence and accounting experience have a complementary impact on audit committee relations with internal audit. Independence is more associated with issues of process while accounting experience is associated with the extent that the audit committee reviews the work of the internal audit function. There are also some differences based on country and sector. Overall, the findings have important implications for regulators in light of recent calls for audit committee members to have accounting expertise in addition to being independent.

Computer‐assisted audit tools and techniques: analysis and perspectives

Abstract: In light of the increasing demand on auditors to make the audit more effective and efficient, this paper presents a brief summary of the most prominent computer assisted audit tools and techniques (CAATTs), which auditors can use to increase audit efficiency and effectiveness. Additionally, the results of a survey of governmental auditors which inquired about their perceptions of a specific type of CAATTs (generalized audit software proxied by the use of Audit Control Language or ACL) are presented. Results show that auditors seemed to perceive the potential benefits associated with ACL; however, they displayed a lower confidence in their technical abilities in using the application. Also, the auditors surveyed expressed a desire to increase their skills through increased ACL training. Taken together, these results give audit decision makers evidence that additional technical training is needed and desired by auditors.

Determinants of Environmental Reporting in Malaysia

Abstract: This study empirically examines the incentives that motivate Malaysian listed companies to disclose environmental information in their annual reports. The study attempts to explain the occurrence of the environmental information with reference to some company specific characteristics from the contracting and political cost perspectives. Six variables are hypothesised to influence companies' decision to voluntarily disclose environmental issues in their annual reports. The results reveal that only two out of the four hypotheses are supported; that is, the voluntary disclosure of environmental information in the annual reports is negatively related to firms' financial leverage and that their accounts were audited by Big-5 firms. Explanations are proffered for these findings. Keywords: Environmental reporting, ' contracting theory, political cost theory, Malaysia. I. INTRODUCTION This study attempts to examine firm-wide factors that motivate Malaysian listed companies to voluntarily disclose environmental information in their annual reports. The disclosure of environmental information attracts attention as the information itself involves the living quality despite the fact that such reporting is voluntary in nature. The current study attempts to explain the occurrence of the environmental information with reference to some company-specific characteristics. Environmental information in annual report is defined as a subset of the corporate social responsibility, which includes information regarding waste management, recycling programs and environment control. Voluntary reporting in corporate annual reports is believed to be costly and therefore it is of interest to examine the motivation of companies' to present such non-mandated information. The said costs include compilation costs as the environmental information is usually not readily available in the financial records. The suggested motivations for companies to voluntarily disclose environmental information are varied. One of such explanations is in the concept of organisational legitimacy as developed by Lindblom (1984), who stated four reasons for such disclosure. The first reason is to reduce the "legitimacy gap" caused by the failure of performance on the part of the organisation by informing its "relevant publics" about changes in respect to how the organisation has performed due to environmental changes. For instance, a major oil spill in one financial year may result in disclosures concerning increasing environmental concern and safety. The second reason is to change the perception of itself, but not necessarily its actual behaviour; for example, a company may have an undesirable waste disposal practice but may show imagery of clean working environment. The third reason is to deflect attention from public concerns by using emotive imagery; for example, a company that pollutes the environment through its production processes may disclose information regarding a recycling program. The final reason for the voluntary disclosure of environmental information is to alter outside expectation of its performance when it feels its "relevant publics" have unrealistic expectations of its social and environmental performance. Apart from the reasons above, findings from prior studies have revealed other reasons for environmental reporting which will be discussed in a later section. The motivation behind the current study not only lies in explaining the reasons for voluntary disclosure but also to evaluate the issue, based on empirical evidence, from a contracting and political cost perspective. The remainder of this paper is organised as follow: Next is a section that discusses issues relating to environmental reporting, followed by a review of selected prior studies. The development of research hypotheses are later deliberated, and then followed by the research methodology. Finally, the paper presents the results and its implications, and some concluding remarks. …