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Reputation, Internal Supervising and Audit Quality

Author: RenXue
Tutor: LiJianBiao
School: Nankai University
Course: Corporate Governance
Keywords: Audit Quality Reputation Internal Supervising Game Experiment
CLC: F239.4
Type: Master's thesis
Year: 2012
Downloads: 160
Quote: 0
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Abstract


Accounting information is one of the critical factors affecting investors’ investment decisions, and the effectiveness of security market is mainly influenced by the quality of accounting information. The responsibility of auditors is to ensure the quality of information, so audit quality has always been concerned. Audit quality can be measured by the joint probability that the auditor both discover and report a breach in the client’s financial statement. Obviously, the audit quality is directly influenced by some features of audit subject such as professional ethics and technical capabilities. However, audit quality is not determined by one party, but an interacting result involving many parties including accounting firms (or auditors), audited firms, supervising department, and so on. Existing researches on audit quality are mainly comprised of empirical studies, which only test related factors from a static angle. A few scholars build a game model in audit market and make theoretical analysis, while some overseas scholars have tested the audit game by experimental methods. Therefore, it is meaningful to construct a audit game model in Chinese audit market, test this model in experiment and then investigate effective ways to improve audit quality from the aspect of both audit subject and audit object. This study will expand the horizon of domestic audit quality researches and provide a guide for government, supervisors or public companies.On the basis of existing researches and considering Chinese audit environment, this study abstracts the interacting relation between management and auditors, constructs a game model involving management, auditor, external supervisor and internal supervisor, and tests players’strategies and the game equilibrium. We design the audit quality index following a view which concerns audit efficiency, by which we assess the audit quality in our experiments. To improve audit quality, we design an auditor reputation governance system and an internal supervising governance system, and investigate the change of players’ behaviors or strategies as well as the improvement of audit quality. The results indicate that:(1) under the no-governance condition, management and auditors reach such equilibrium after limited times of game:management select more high level of fraud, and auditors select more high level of audit force, and the audit quality is at a relatively low level;(2) reputation system plays limited role in improving audit quality:auditors tend to increase audit force to avoid reputation loss, while management tend to lower their fraud level when expecting the increase of audit force. The audit quality, however, is not improved because of the increase of audit cost; and (3) internal supervising system plays more effective role in improving audit quality:management tend to select more low level of fraud because of the enhancement of supervising force, while auditors tend to lower their audit investment. Therefore, under the internal supervising system, audit quality enjoys material improvement.The innovation of this study includes:firstly, considering Chinese institutional context and audit environment, this study is the first to construct a game model between management and auditors and test its equilibrium by experimental methods taking non-professionals as subjects; secondly, this study is the first to design audit quality index, which realizes the quantization of audit quality. Moreover, this study replaces the "audit effectiveness view" with the "audit efficiency view", considering both the audit results and audit cost.

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CLC: > Economic > Economic planning and management > Audit > Various types of audit
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