audit partner disclosure: potential implications for investor reaction and auditor independence
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Conference on Regulation and the Audit Industry. Audit Partner Disclosure: Potential Implications for Investor Reaction and Auditor Independence . Tamara A. Lambert Benjamin L. Luippold Chad M. Stefaniak. Outline. Tamara. Ben. Hypotheses Method Participants Procedures Design - PowerPoint PPT PresentationTRANSCRIPT
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Audit Partner Disclosure: Potential Implications for Investor Reaction
and Auditor Independence
Tamara A. LambertBenjamin L. Luippold
Chad M. Stefaniak
Conference on Regulation and the Audit Industry
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Outline
Tamara• PCAOB
– Audit partner disclosure– Proponents / opponents
• Where disclosure occurs• Research question• Model of audit
independence– Three propositions
Ben• Hypotheses• Method
– Participants– Procedures– Design– Variables
• Results– Investment choice
• Allocation– Mediation analysis– Experience
• Conclusion
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PCAOB: Audit Partner Disclosure
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PCAOB: Audit Partner Disclosure
Proponents Opponents
No increased accountability
Increased legal liability
Ill-informed audit quality inferences
Independence conflicts
Increased accountability
Increased transparency
Improved audit quality
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Where Partner Disclosure Occurs
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Will disclosing the identity of the audit partner in the audit report lead to improved audit quality /
investor protection?
Research Question
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Model:
• Audit partner disclosure may lead to independence impairment
• Three propositions
Audit Partner Identity
Disclosure
Potential Audit Partner
Independence Impairment
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Model: Proposition 1
• No well-calibrated measures available (Francis 2004)• Accounting information transfer (Gleason et al. 2008)• Representativeness heuristic (Kahneman 2011)
Audit Partner Identity
Disclosure
Fusing of Partner
Reputation with Client
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Model: Proposition 2
• Ill-informed partner-related inferences may lead to– Increased focus on individual reputation – Client attraction / retention concerns
• Audit / earnings quality proxies used by academics
Audit Partner Identity
Disclosure
Fusing of Partner
Reputation with Client
Audit Partner Incentive Shift
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Model: Proposition 3
• Auditors role to reduce information risk – Conflicting investor / management incentives
• Increased prominence of individual reputation – Implicit permission for individuals to act in their own
interests (Hunton et al. 2011)
Audit Partner Identity
Disclosure
Fusing of Partner
Reputation with Client
Audit Partner Incentive Shift
Potential Audit Partner
Independence Impairment
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Hypothesis 1
• Information transfer as a proxy for reputation fusing• Negative information is contagious– Firms within an industry (Gleason et al. 2008)– Firms audited by Arthur Andersen (Huang and Li 2009)– Firms that share a common director (Chen and Goh 2010)
• Representativeness may play a role (Kahneman 2011)
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Audit partner identity disclosure will result in partner-based (reputational) information transfer
between reporting entities.
Hypothesis 1
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Hypothesis 2
• Would partner disclosure require other changes to audit report? (PCAOB 2009)– Partner signing firm’s name is evidence that audit report is
product of the firm (PCAOB 2008, 2009)– Partner disclosure could confuse investors about what
audit opinion means• Less knowledge = more reliance on
representativeness (Gigerenzer and Goldstein 1996)
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Modifying the audit report with language intended to highlight the audit firm’s responsibility for the audit will reduce the amount of partner-based (reputational)
information transfer resulting from audit partner identity disclosure.
Hypothesis 2
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Method: Participants380 participants Investment clubs and Qualtrics
≈ 48 years o
ld
All have investing experience
≈ 4 years experience w/ fin. info.
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Method: ProcedureCompany Amer.
Comp.Comp. World
Elec. USA
US Tech.
Wired States
Big 4 Firm Firm ABC Firm ABC Firm DEF Firm DEF Firm DEFCurrent Ratio 2.35 2.25 2.37 2.38 2.23
Days Sales of Inventory 28 32 27 25 39
Return on Assets 12.3 9.8 12.6 12.9 8.1
Profit Margin 14.5 11.4 14.7 14.8 8.3
Market Share 8.41 6.74 8.5 8.7 5.53
Company Amer. Comp.
Comp. World
Elec. USA
US Tech.
Wired States
Big 4 Firm Firm ABC Firm ABC Firm DEF Firm DEF Firm DEFCurrent Ratio 2.35 2.25 2.37 2.38 2.23
Days Sales of Inventory 28 32 27 25 39
Return on Assets 12.3 9.8 12.6 12.9 8.1
Profit Margin 14.5 11.4 14.7 14.8 8.3
Market Share 8.41 6.74 8.5 8.7 5.53
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Method: ProcedureCompany Amer.
Comp.Comp. World
Elec. USA
US Tech.
Wired States
Big 4 Firm Firm ABC Firm ABC Firm DEF Firm DEF Firm DEFCurrent Ratio 2.35 2.25 2.37 2.38 2.23 → 1.97
Days Sales of Inventory 28 32 27 25 39 → 65
Return on Assets 12.3 9.8 12.6 12.9 8.1 → 4.8
Profit Margin 14.5 11.4 14.7 14.8 8.3 → 5.0
Market Share 8.41 6.74 8.5 8.7 5.53 → 5.22
Company Amer. Comp.
Comp. World
Elec. USA
US Tech.
Wired States
Big 4 Firm Firm ABC Firm ABC Firm DEF Firm DEF Firm DEFCurrent Ratio 2.35 2.25 2.37 2.38 2.23 → 1.97
Days Sales of Inventory 28 32 27 25 39 → 65
Return on Assets 12.3 9.8 12.6 12.9 8.1 → 4.8
Profit Margin 14.5 11.4 14.7 14.8 8.3 → 5.0
Market Share 8.41 6.74 8.5 8.7 5.53 → 5.22
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Method: ProcedureCompany Amer.
Comp.Comp. World
Elec. USA
US Tech.
Wired States
Big 4 Firm Firm ABC Firm ABC Firm DEF Firm DEF Firm DEFAudit Partner
David Lastings
David Lastings
James Keaton
Thomas Edwards
Thomas Edwards
Current Ratio 2.35 2.25 2.37 2.38 2.23 → 1.97
Days Sales of Inventory 28 32 27 25 39 → 65
Return on Assets 12.3 9.8 12.6 12.9 8.1 → 4.8
Profit Margin 14.5 11.4 14.7 14.8 8.3 → 5.0
Market Share 8.41 6.74 8.5 8.7 5.53 → 5.22
Company Amer. Comp.
Comp. World
Elec. USA
US Tech.
Wired States
Big 4 Firm Firm ABC Firm ABC Firm DEF Firm DEF Firm DEFAudit Partner
David Lastings
David Lastings
James Keaton
Thomas Edwards
Thomas Edwards
Current Ratio 2.35 2.25 2.37 2.38 2.23 → 1.97
Days Sales of Inventory 28 32 27 25 39 → 65
Return on Assets 12.3 9.8 12.6 12.9 8.1 → 4.8
Profit Margin 14.5 11.4 14.7 14.8 8.3 → 5.0
Market Share 8.41 6.74 8.5 8.7 5.53 → 5.22
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Audit Opinion Note. Each audit firm stresses in its audit reports that while the audit opinion is signed by both the audit partner and the audit firm, the audit opinion represents that of the entire firm. Additionally, each firm notes that the audit involves many firm employees and includes technical guidance and other resources from its national headquarters.
Method: Procedure
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Method: Experimental Design
Firm NameFirm and Partner Name
Firm Name and
Modification
Firm Name, Partner
Name, and Modificatio
n
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Method: Variables
Main Variables• Investment choice• Investment allocation• Restatement likelihood
Supplemental Variables• Financial information importance• Fault (company, firm, partner)• Influence of restatement• Familiarity w/ financial information
& auditing• Attention checks• Investment experience• Experience w/ financial information• Job title / employer• Gender• Age
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Results: Investment Choice
Firm Name Partner Name Report Modification
American Computers 10.1% 9.0% 14.1%
Computer World 3.4% 4.5% 3.9%
Electronics USA 14.3% 17.3% 18.8%
US Technologies 67.2% 58.6% 57.8%
Wired States 5.1% 10.5% 5.5%
(n=119) (n=133) (n=128)
Firm Name Partner Name Report Modification
American Computers 10.1% 9.0% 14.1%
Computer World 3.4% 4.5% 3.9%
Electronics USA 14.3% 17.3% 18.8%
US Technologies 67.2% 58.6% 57.8%
Wired States 5.1% 10.5% 5.5%
(n=119) (n=133) (n=128)
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Results: Investment in US Tech.
Firm Name Partner Name Modification50%
55%
60%
65%
70%
75%
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Results: Investment in US Tech.
Variable Expected Sign Coefficient(S.E.)
Intercept + 0.916(0.519)
PARTNER - -0.561(0.310)
REPORT_MOD + -0.200(0.287)
QUAL ? -1.020(0.473)
ATTEND_PARTNER ? 0.675(0.277)
ATTEND_REPORT_MOD ? 1.051(0.519)
Variable Expected Sign Coefficient(S.E.)
Intercept + 0.916(0.519)
PARTNER - -0.561(0.310)
REPORT_MOD + -0.200(0.287)
QUAL ? -1.020(0.473)
ATTEND_PARTNER ? 0.675(0.277)
ATTEND_REPORT_MOD ? 1.051(0.519)
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Results: Allocation in US Tech.
Variable Expected Sign Coefficient(S.E.)
Intercept + 33.165(4.367)
PARTNER - -5.543(2.912)
REPORT_MOD + 1.683(2.831)
QUAL ? -3.902(3.714)
ATTEND_PARTNER ? 5.224(2.724)
ATTEND_REPORT_MOD ? 9.895(2.389)
Variable Expected Sign Coefficient(S.E.)
Intercept + 33.165(4.367)
PARTNER - -5.543(2.912)
REPORT_MOD + 1.683(2.831)
QUAL ? -3.902(3.714)
ATTEND_PARTNER ? 5.224(2.724)
ATTEND_REPORT_MOD ? 9.895(2.389)
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Results: Mediation Analysis
PARTNER
RESTATE_UST
INVEST_UST
b = 0.611(p = 0.057)
b = -0.113(p = 0.022)
b = -0.559(p = 0.041)
b = -0.509(p = 0.059)
b = -0.559(p = 0.041)
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Results: Invest. in US Tech. by Exp.
Less Experienced Investors
Firm Nam
e
Partner N
ame
Modification
50%
55%
60%
65%
70%
75%
80%More Experienced Investors
Firm Nam
e
Partner N
ame
Modification
50%
55%
60%
65%
70%
75%
80%
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Results: Invest. in US Tech. by Exp.
Less Experienced InvestorsVariable Expected Sign Coefficient
(S.E.)Intercept + 1.589
(0.871)PARTNER - -0.890
(0.481)REPORT_MOD + 0.273
(0.435)QUAL ? -1.401
(0.793)ATTEND_PARTNER ? 0.891
(0.404)ATTEND_REPORT_MOD ? 0.646
(0.871)
More Experienced InvestorsVariable Expected Sign Coefficient
(S.E.)Intercept + 0.533
(0.716)PARTNER - -0.380
(0.540)REPORT_MOD + -0.930
(0.500)QUAL ? -0.474
(0.635)ATTEND_PARTNER ? 0.542
(0.502)ATTEND_REPORT_MOD ? 1.602
(0.431)
Variable Expected Sign Coefficient(S.E.)
Intercept + 1.589(0.871)
PARTNER - -0.890(0.481)
REPORT_MOD + 0.273(0.435)
QUAL ? -1.401(0.793)
ATTEND_PARTNER ? 0.891
(0.404)ATTEND_REPORT_MOD ? 0.646
(0.871)
Variable Expected Sign Coefficient(S.E.)
Intercept + 0.533(0.716)
PARTNER - -0.380(0.540)
REPORT_MOD + -0.930(0.500)
QUAL ? -0.474(0.635)
ATTEND_PARTNER ? 0.542
(0.502)ATTEND_REPORT_MOD ? 1.602
(0.431)
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Conclusions
• Model – Partner disclosure will fuse reputation with client– Fusing will shift audit partner incentives– Shift of incentives may impair independence
• Experiment– Partner disclosure results in information transfer– Contagion not mitigated by our report
modification
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Thank youTamara A. Lambert
Benjamin L. LuippoldChad M. Stefaniak
Conference on Regulation and the Audit Industry