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Auditor Tenure and Audit Quality Research

Author: LiuJie
Tutor: LvXianZuo
School: Southwestern University of Finance and Economics
Course: Accounting
Keywords: Auditor Tenure Audit Quality Earning Management Mandatory Auditor Rotation
CLC: F239.4
Type: Master's thesis
Year: 2009
Downloads: 417
Quote: 2
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Abstract


With the exposure of a series of financial scandal cases, the public has more and more doubt about the financial messages brought up with the listed companies and the audit quality. US has appeared the famous bill“Sarbanes-Oxley Bill”in 2002. From then on, there are increasing researches in domestic and abroad focusing on the relation between auditor tenure and audit quality. Up to now, Italy, Brazil, Saudi Arabia and Austria have put the mandatory auditor rotation in practice in order to improve audit quality. Singapore has implemented mandatory rotation policy in the banking. The Europe is thinking of implementing mandatory auditor rotation through legislation. Many other countries are also thinking of whether to bring mandatory rotation policy into effect. China began to implement mandatory auditor rotation policy from 2004.Rotation of audit partners is one of the main policy initiatives that has been implemented in many jurisdictions around the world to deal with concerns about audit quality. The basis of any requirement limiting the tenure of audit partners is that there is a reduction in audit quality associated with long periods of tenure. But the debates on this question have never stopped.One viewpoint supporting a negative association between long audit partner tenure and audit quality believes that erosion of independence may arise with the development of personal relationships between an auditor and their client, and deterioration in the audit partner’s capacity to effect critical appraisal may be more serious with long auditor tenure.While the other people believes that many audit failure cases happened in the beginning of auditor tenure are associated with lack of familiarity to the client and auditors are more likely to be blinded by client’s statement. So the familiarity to the client is believed to be important for auditors to find fraudulent practices in the financial reports of companies. And auditors’capacities to find fraudulent practices in the financial reports will be improved with long auditor tenure. Audit quality is dependent to auditor’s professional competence and auditor’s independence. So the real relationship between auditor tenure and audit quality is dependent to how auditor tenure will effect the two aspects of audit quality.Most relative empirical studies in domestic and abroad use the audit quality as the dependent variable, auditor tenure as test variable, and control some other variables to identify the relationship between auditor tenure and audit quality. Besides the sample selection, the difference among these studies is the selection of deputy variable of audit quality and control variables. Audit quality is difficult to observe, so financial information quality is usually used to be a measurement of audit quality. There are two ways to select a deputy variable of audit quality: one is based on the accounting method, indicators of earnings management are usually used as deputy variables in these studies; the other method is based on the market, perceptions of investors and information intermediaries are used to be measurement of audit quality. This article is based on accounting method and use indicators of earning management as the deputy variables of audit quality: abnormal working capital accruals and the extent to which key earnings targets are just beaten or missed.In order to enhance persuasion of this article, we also select the auditor’s propensity to issue a going-concern opinion as a deputy variable of audit quality. So this article includes three models: Issuing going-concern audit opinions model, Abnormal working capital accruals model and Just beating or missing earnings benchmarks model.Based on relative research method and result of domestic and abroad, we plan to identify the real relationship between long auditor tenure and audit quality through positive test method. Based on the analyses on different viewpoints, we make the following hypothesis:H1: There is a negative association between audit quality and long auditor tenure.We take China listed companies in the period of 2002 to 2003 as samples, by controlling audit risk, financial condition, operation results and the features of auditors to test the relationship between long auditor tenure and audit opinion by using logistics’regression analysis.The results from Issuing going-concern audit opinions model show that there is a significant positive relationship between long auditor tenure and audit quality which is opposite to our basic hypothesis.The results from Abnormal working capital accruals model show that there is a positive relationship between auditor tenure and audit quality but not significant which demonstrate that long auditor tenure is not associated with low audit quality. The results from Just beating or missing earnings benchmarks model show that there is a negative relationship between auditor tenure and audit quality.The results from the three models are not consistent, so we conclude that there is a week negative relationship between auditor tenure and audit quality.Because the positive test didn’t provide a strong evidence to support our basic hypothesis (Long auditor tenure will lower audit quality), we conclude that it will not work out to solve audit quality problem if we just rely on mandatory auditor rotation. Regulators should not always pay much great attention to mandatory rotation especially when we could not accurately estimate the social benefits and the system costs of mandatory rotation. Policies should gear to our special conditions but not always follow the practices of foreign.

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