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How do Behavioral Indicators of Audit Committee Effectiveness Influence
Audit Effort?
Sanaz Aghazadeh*
Lehigh University
College of Business and Economics
339 Rauch Business Center
621 Taylor Street
Bethlehem, PA 18015-3117
Tel +1-610-758-2816
Fax +1-610-758-5992
Email [email protected]
Yoon Ju Kang
Lehigh University
College of Business and Economics
339 Rauch Business Center
621 Taylor Street
Bethlehem, PA 18015-3117
Tel +1-610-758-3426
Fax +1-610-758-5992
Email [email protected]
Marietta Peytcheva
Lehigh University
College of Business and Economics
339 Rauch Business Center
621 Taylor Street
Bethlehem, PA 18015-3117
Tel +1-610-758-2818
Fax +1-610-758-5992
Email [email protected]
April 2014
*Corresponding author
We would like to acknowledge research support from The Martindale Center for the Study of
Private Enterprise at Lehigh University. We thank Jeffrey Cohen, Ganesh Krishnamoorthy,
Tamara Lambert, Arnold Wright, and participants of the Lehigh University Singleton
Workshop Series.
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How do Behavioral Indicators of Audit Committee Effectiveness Influence Audit Effort?
SUMMARY
We test competing hypotheses based on the theory of process accountability and the audit risk
model (ARM), to determine how audit committee (AC) effectiveness impacts audit effort.
Process accountability theory predicts that audit effort will be highest when the AC is most
effective, i.e., it engages in more proactive meeting behavior and asks probing questioning of the
auditors. In contrast, the ARM predicts that audit effort will be highest when the AC is least
effective, because auditors’ assessment of a weak tone at the top will lead auditors to increase
their assessment of control risk, leading to higher audit effort. We test these competing
hypotheses in 2x2 between-participants experiment with practicing auditors, in which we
manipulate AC questioning behavior (probing vs. non- probing) and AC proactive behavior
(more vs. less proactive). Results provide support for the ARM: we find that audit effort is
highest under non- probing AC questioning and less proactive AC meeting behavior, and that
this effect is mediated by auditors’ assessment of tone at the top. Interestingly, we also find more
effective ACs increase auditors’ process accountability; however, this does not ultimately
increase audit effort. Audit effort is instead increased by auditors’ assessment of a weak tone at
the top, associated with less effective ACs.
Keywords: audit effort; audit committee effectiveness; corporate governance; tone at the top
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I. INTRODUCTION
Firms implement corporate governance monitoring mechanisms so that the interests of
shareholders and managers are aligned (Jensen and Meckling 1976). With the responsibility to
effectively oversee the financial reporting and auditing process, audit committees (hereafter
ACs), along with management and auditors are part of the three-legged stool that ensures the
integrity of the financial reporting process (Center for Audit Quality 2010; Turley and Zaman
2007). The recent implementation of AS No. 16 Communication with the AC highlights the
importance of the AC’s role in the audit process and increases the likelihood of the AC affecting
the overall financial reporting quality. Despite the importance of ACs’ impact, little empirical
evidence exists regarding its effect on the financial reporting and auditing process. Our study
fills this void by examining the impact of AC effectiveness on audit effort.1
AC behaviors while overseeing the financial reporting and auditing process are indicative of
AC effectiveness. One significant way in which effective ACs fulfill their oversight duty is by
challenging the judgments and assumptions underlying significant accounting estimates (Beasley
et al. 2009; Gendron and Bédard 2006; Gendron et al. 2004; Kang 2014). Exhibiting proactive
behavior by asking for non-routine (i.e., unexpected) meetings with the auditor is another way
ACs can effectively oversee the financial reporting process (Beasley et al. 2009; KPMG 2012;
Turley and Zaman 2007). In this study, we experimentally examine how such behavioral
indicators of AC effectiveness (i.e., asking probing questions and exhibiting proactive meeting
behavior) affect auditors’ perception of the AC and how that ultimately influences audit effort.2
1 Consistent with the PCAOB’s emphasis on both the nature and extent of audit procedures (PCAOB 2013; AS 5, 11,
12), we define and measure audit effort to incorporate both the diagnosticity as well as the quantity of audit
procedures designed by the auditor. 2 Following prior literature, we define probing questions as those that challenge the respondent to justify their
judgment or decision-making process (Kang 2014; Pomeroy 2010).
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We use (1) process accountability theory and (2) the audit risk model (ARM hereafter), to
develop competing hypotheses regarding how auditors are likely to respond to AC effectiveness.
First, we examine the implications of process accountability theory. Process accountability
suggests that when auditors are accountable to supervisors and other evaluators for their decision
process, audit effort increases, judgment biases decrease and auditors’ judgment accuracy
improves (Ashton 1992; Johnson and Kaplan 1991; Tan 1995; DeZoort et al. 2006). This theory
is applicable in the auditor–AC relationship where the AC essentially holds auditors accountable
for their judgment and decision processes regarding significant accounting issues in the process
of overseeing the financial reporting and auditing process (Audit Committee Collaboration
Group 2012; Fornelli and Cobb 2013; PwC 2013). This theory holds that auditors will likely
experience greater process accountability given a more effective AC, which will lead to greater
audit effort.
The ARM, however, suggests a contrasting effect of AC effectiveness on audit effort.
Auditors use the ARM to assess audit risk by evaluating control risk, inherent risk, and detection
risk in order to plan their level of audit effort (AICPA 1983). Auditors evaluate tone at the top as
part of their assessment of control risk (COSO 1992, 2013). We predict that auditors will
perceive AC effectiveness as a signal of strong tone at the top, and therefore an indicator that
control risk is low. As a result, auditors will decrease their audit effort in response to the low
control risk. Thus, the process accountability and the ARM frameworks suggest differing effects
for AC effectiveness on audit effort, and we provide an experimental test of these competing
predictions.
We test our predictions using a 2 X 2 between-participants experiment with Big-4 auditors,
where the extent to which the AC engages in questioning behavior (probing vs. non-probing) and
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the extent of AC’s proactive behavior (more vs. less proactive) are manipulated. Participants are
asked to assume that they are a member of an audit engagement team and are preparing for an
upcoming AC meeting. Participants in the more proactive condition are informed that the chair
of the AC has recently requested an additional, non-routine, meeting to further discuss the AC’s
general expectations of the audit. Participants in the less proactive condition do not receive this
request from the AC, and therefore prepare for a routine meeting. It is important to note that the
additional meeting in our experiment does not imply any additional risk factors being present as
participants were told the AC is simply asking to meet to discuss their general expectations for
the current year audit. In preparation for the upcoming AC meeting, the participants review the
prior year’s file regarding an inventory obsolescence issue. The file contains a brief description
of the accounting issue and the AC’s questions/comments (probing vs. non-probing). Participants
are then informed that their audit team is revisiting the inventory obsolescence issue and are
asked to develop a plan for the current year’s audit, including their description of audit
procedures needed to address the inventory obsolescence issue. We use these procedures to
create our measure of audit effort. A critical feature of our measure of audit effort is that it
incorporates both the extent and the nature of audit procedures proposed by the auditor,
consistent with auditing standards and PCAOB guidance (e.g., PCAOB 2013; AS 5, 11, 12).
We find support for the predictions based on the ARM. This framework suggests that audit
effort is highest under less probing AC questioning and less proactive behavior. Moreover, we
find that this effect is mediated by auditors’ assessment of tone at the top. Specifically, a more
effective AC that is more proactive or asks probing questions, leads auditors to assess tone at the
top as strong and to reduce their audit effort as a response to decreased control risk.
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As expected, we also find that an AC that is more proactive and asks probing questions
increases auditors’ process accountability. Interestingly, however, we do not find evidence that
an increase in process accountability results in greater audit effort. Together, the findings suggest
that a more effective AC increases both auditors’ perceived accountability pressure and auditors’
assessment of a strong tone at the top. However, the effect of tone at the top dominates over the
effect of accountability pressure in determining auditors’ behavior.
Our research makes several contributions to the accounting and auditing literature. First,
generally, our study adds to the limited line of literature on ACs and how they affect the financial
reporting process (Cohen et al. 2002, 2010; Beasley et al. 2009; Gendron and Bédard 2006).
Second, we contribute to the sparse literature on tone at the top by providing evidence that the
impact of AC effectiveness on audit effort is mediated by auditors’ assessment of tone at the top,
leading auditors to modify their audit plans related to accounting issues that arise during the
audit process. Relatedly, our study is the first to examine the joint effects of auditors’ process
accountability and auditors’ assessment of the client’s tone at the top on audit effort, and to
determine which of the two factors is more influential in determining auditor behavior. Third,
while prior research shows that AC attitudes affect how auditors communicate with the AC (e.g.,
Fiolleau et al. 2013), we show how AC effectiveness impacts audit effort, which should
ultimately affect the overall quality of the audit. Therefore, our results are likely to be of interest
to regulators, investors, and corporate boards, especially given the passage of AS 16
Communications with the AC which encourages two way communications between the AC and
auditors. Finally, while regulators and standard setters seem to believe that greater AC
effectiveness will lead to greater audit effort and ultimately higher audit quality (e.g., AS 16),
our study shows that greater AC effectiveness may actually lead to lower audit effort.
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The paper is organized as follows. Section II provides an overview of the background
literature. Section III develops the theory and presents our hypotheses. Section IV describes the
methodology, section V presents the results, and section VI concludes.
II. BACKGROUND
Prior literature examines AC effectiveness in terms of both inputs and process variables
(DeZoort et al. 2006). For example, studies focusing on input variables have examined how the
different characteristics of the AC, such as independence (e.g., Klein 2002; Abbott et al. 2004) or
financial expertise (e.g., Bédard et al. 2004, Abbott et al. 2004; Dhaliwal et al. 2010) influence
AC effectiveness. Studies focusing on process variables have examined the effects of the number
of meetings held with the external auditor and questioning behavior of the AC (e.g., Abbott et al.
2004; Fiolleau et al. 2013). In this study, we hold constant the inputs and examine AC
effectiveness by focusing on the process that the AC exerts in conducting their oversight role.
We specifically focus on two process variables that prior literature has isolated as important
determinants of AC effectiveness: (1) AC’s questioning behavior and (2) the extent to which
they are proactive in their oversight duty.3
AC Questioning Behavior
One way in which ACs can fulfill their oversight duty and protect shareholder interests is by
questioning the auditor about the assumptions that underlie critical accounting estimates (NACD
2010; Gendron et al. 2004; Gendron and Bédard 2006; Beasley et al. 2009; Kang 2014). The
NACD specifically states that “AC members should pay particular attention to the issues
3 It is important to note that an AC can exhibit only one, both, or none of these behaviors; that is, the two
variables are orthogonal. For example, although the AC, as described in Turley and Zaman (2007), tends not to
engage in probing questioning behavior, the AC exerts great influence through additional, unscheduled meetings
with the auditors. Conversely, proactive meeting behavior by the AC can be coupled with a lack of probing
questioning behavior: meetings between the AC and auditors that are held with impressively high frequency often
involve superficial comments and lack of any probing questioning by the AC (e.g., Beasley et al. 2009).
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identified by management and … question assumptions that underlie critical accounting
estimates” in fulfilling their oversight duty and protecting shareholder interests (NACD 2010, 8).
The need for increased questioning by ACs is especially evident given recent findings that show
ACs are rarely involved in resolving contentious issues between the auditor and management
(Gibbins et al. 2001; Cohen et al. 2002, 2010;Gibbins et al. 2007). Prior research finds that the
extent of questioning that auditors expect of the AC influences the amount of information
auditors actually communicate to the AC, where auditors tend to provide more information to
ACs with reputations for greater involvement and more intense questioning style (Fiolleau et al.
2013). We extend this line of research by examining how AC’s questioning behavior goes on to
ultimately affect audit effort.
AC Proactive Meeting Behavior
In addition to asking probing questions, increasing the frequency4 in which the AC meets
with the auditors is suggested as a way of increasing AC effectiveness as well as increasing audit
effort (KPMG 2012). Prior research finds supporting evidence for greater frequency of AC
meetings being associated with higher financial reporting quality (Abbott et al. 2004; Bédard et
al. 2004; Stewart and Munro 2007; Xie et al. 2003; DeFond et al. 2005). However, Turley and
Zaman (2007) find that ACs’ impact in routine situations is limited and therefore, emphasize the
need to initiate non-routine meetings between the AC and auditors. Turley and Zaman further
assert that unpredicted, non-routine meetings between the AC and the auditor are more likely to
influence the tone at the top compared to routine meetings as “[a]d hoc meetings … help to
encourage a climate that is conducive for raising concerns (p. 15).” However, there is little
empirical evidence on how non-routine meetings called by the AC actually influence the
behaviors of auditors and ultimately the quality of the audit. Our study addresses this issue.
4 In our study, the AC initiates an additional, non-routine meeting with the auditor.
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III. THEORY AND DEVELOPMENT OF HYPOTHESES
Predictions Based on Auditor’s Process Accountability
First, we examine the impact of AC effectiveness on audit effort through the lens of
accountability theory. This lens of examination emphasizes the AC’s oversight role over the
auditor and focuses on the fact that, in the process of overseeing the financial reporting and
auditing process, the AC essentially holds auditors accountable for their judgment and decision
processes regarding significant accounting issues (Audit Committee Collaboration Group 2012;
Fornelli and Cobb 2013; PwC 2013).
Psychology research distinguishes between two types of accountability: process
accountability and outcome accountability. In contrast to outcome accountability, process
accountability implies that decision makers are held accountable for the quality of their decision
processes, regardless of the outcome of their decisions (Tetlock 1983, 1985; Lerner and Tetlock
1999). Process accountability has many positive effects on judgment quality. Specifically,
studies find that process accountability increases the integrative, complexity of thought (Tetlock
1983; Tetlock and Boettger 1989; Suedfeld et al. 1992).5 Siegel-Jacobs and Yates (1996) also
find that process accountability encourages decision makers to incorporate all relevant
information into their decisions, and that it reduces the variability of individual judgments. Other
studies show process accountability also increases cognitive effort, improves calibration, and
reduces decision biases (Tetlock1992; Tetlock et al. 1989; Tetlock and Kim 1987; Siegel-Jacobs
and Yates 1996). Individuals who are held process accountable are also more likely to attend to
critical decision information (Tetlock, 1992).
5Integrative complexity of thought is defined as both perceiving various perspectives of an issue [differentiation] and
identifying cognitive connections that synthesize these perspectives [integration](Tetlock and Boettger 1989).
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Auditing research also documents beneficial effects of process accountability on auditors’
judgment. Process accountability improves auditors’ decision accuracy (Ashton 1990, 1992) and
efforts to justify their decisions (Koonce et al. 1995). Process accountability also increases audit
effort, and decreases the variance in auditors’ judgments (Johnson and Kaplan 1991; DeZoort et
al. 2006). Peecher et al. (2013) extend these findings and propose that, in order to improve audit
quality, regulators should shift their emphasis toward greater process accountability. With their
oversight and responsibility for auditor appointment and dismissal, ACs can serve as a critical
source of accountability pressure for the auditor (Cohen et al. 2010; Fiolleau et al. 2013). Under
this perspective, a more effective AC will be more likely to ask auditors to justify their
judgments and decisions and thereby, facilitate greater accountability pressure.
Process accountability theory predicts that the greater accountability pressure resulting from
greater AC effectiveness will motivate auditors to increase their audit effort. Since ACs that ask
probing questions and are more proactive in their meeting behavior are likely to be perceived as
more effective compared to ACs only exerting one of the two behaviors or those that show
neither of the two behaviors, such ACs should induce the highest level of accountability pressure.
In other words, the theory of process accountability holds that audit effort will be greatest when
the AC engages in both probing questioning and proactive meeting behavior by inducing the
highest level of accountability. This predicted interaction based on the theory of process
accountability is hypothesized below as H1a. H1b further describes the predicted mechanism
(i.e., process accountability) that underlies the hypothesized effect of AC effectiveness on audit
effort in H1a.
H1a: Audit effort will be highest under probing AC questioning and AC proactive meeting
behavior.
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H1b: Process accountability will mediate the effect of AC effectiveness on audit effort.
Predictions Based on the ARM
Contrary to the predictions laid out in the prior section based on the theory of process
accountability, the well-known ARM predicts an alternative and contrasting possible effect of
AC effectiveness on audit effort. Specifically, the ARM predicts that the use of probing
questions and proactive meeting behavior by the AC may lead to lower audit effort.
The ARM was developed as a planning tool to help auditors assess audit risk (AICPA 1983;
Cushing et al. 1995). The model decomposes audit risk into three components: control risk,
inherent risk, and detection risk. Auditing standards require auditors to use the ARM in planning
their required audit effort as a function of the assessed risk of material misstatement on the audit
(AICPA 1983; Houston et al. 1999; Kizirian et al. 2005). Given a certain level of acceptable
audit risk, audit effort is determined based on auditors’ assessments of the control risk and
inherent risk elements of ARM (Libby et al. 1985; Houston et al. 1999; Bell et al. 2005; Budescu
et al. 2012). For example, if auditors assess control risk as high, they can increase audit effort –
the extent and nature of audit procedures performed – to achieve the desired low level of
detection risk. In this study, we focus on one important element of control risk: tone at the top
(COSO 1992, 2013).
Tone at the top is an essential component of the COSO framework (COSO 1992, 2013;
Kizirian et al. 2005). Establishing and maintaining a strong tone at the top is one of the most
important governance tasks of ACs (Vera-Muñoz 2005; KPMG ACI 2013; Center for Audit
Quality 2010). AC members view setting a strong tone at the top as their principal responsibility
(Beasley et al. 2009). Therefore, auditors are likely to view AC’s setting of a strong tone at the
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top in the organization as a signal to AC effectiveness. Consistent with the theoretical predictions
of the ARM, this signal about tone at the top should in turn affect audit effort.
Specifically, we expect that when the AC engages in probing questioning and/or is proactive
in its meeting behavior, auditors will perceive the AC as an effective monitor and will assess its
tone at the top as strong. The ARM suggests that the auditor’s assessment of a stronger tone at
the top will lead the auditor to reduce audit effort. In contrast, when the AC is not probing in its
questioning behavior and is not proactive in its meeting behavior, auditors will assess tone at the
top as being the weakest compared to situations where the AC engages in one of the two
behaviors or both. The ARM predicts that the auditor should increase audit effort in this situation.
This predicted interaction based on the ARM is hypothesized below as H2a. H2b further
describes the predicted mechanism (i.e., auditors’ assessment of tone at the top) that underlies
the hypothesized effect of greater AC effectiveness on audit effort in H2a.
H2a: Audit effort will be highest under non-probing AC questioning and less proactive AC
meeting behavior.
H2b: Auditors’ assessment of tone at the top mediates the effect of AC effectiveness on audit
effort.
IV. METHOD
Participants
Participants in the study were 133 senior and staff auditors from a Big 4 audit firm. The
experiment was conducted during training sessions of the firm. From the original sample of 133
auditors to whom the study was distributed, we excluded two participants who provided
incomplete instruments, as well as four experienced manager participants, who were the
instructors of the training sessions at which the study was conducted. Our tests are conducted
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with the remaining sample of 127 auditors: 67% associates and 33% senior associates.
Participants had a mean of 17 months of audit experience (std. dev. = 8.16), with a mean age of
24 years (std. dev. = 2.39); 47% of the participants were male, and 89% of participants reported
they had experience in auditing inventory.6
Experimental Design
Independent Variables
We employ a 2 × 2 between-participants design to examine our research question with the
extent to which the AC engages in questioning behavior and AC proactive behavior as
manipulated variables. The first factor, AC questioning behavior is manipulated at two levels
(probing vs. non-probing) using information regarding the questioning behavior of the AC in a
previous meeting with the auditors. The participants in the probing condition see a list of
questions that are probing in nature while the participants in the non-probing condition see a list
of general non-probing comments given by the AC. The list of questions/comments was based
on actual responses from AC members who participated in the Kang (2014) study and was
subsequently reviewed by one of the two audit experts described below. Exhibit 1 provides the
details of this manipulation.
The second factor, AC proactive behavior, is also manipulated at two levels. In the less
proactive AC condition, participants were informed that scheduled meetings with the AC occur
every quarter, and the upcoming meeting with the AC is described as a routine, previously
scheduled quarterly meeting. In the more proactive AC condition, auditors were informed that
scheduled meetings the AC occur every quarter, and the first quarterly meeting with the AC had
6 We use staff level auditors as our participants as they are the ones primarily responsible for planning the audit and
executing day-to-day audit procedures. As Cohen et al. (2002) note, “if they (staff level auditors) do not have a
comprehensive understanding of governance factors, they may be insufficiently impounding information on
governance.”
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occurred in the previous month. Participants were next informed that the chair of the AC
requested an additional, previously unscheduled, meeting with the audit team, for the purpose of
further discussing the AC’s general expectations for this year’s audit, and reviewing the audit
team’s planning for the audit. It is important to note that it was made clear to the participants that
the additional meeting in our experiment did not imply any additional risk being present as the
purpose of the meeting was to simply discuss the AC’s expectations for the current audit year.
Exhibit 2 provides the details of this manipulation.
The AC’s independence and competence characteristics were kept constant across all
conditions. Participants were informed that all five members of SCA’s AC qualify as
independent directors, and that two AC members qualify as financial experts, as defined by the
SEC. Participants were further informed that their client – a publicly-traded company and an
accelerated filer – had been a client of their audit firm for the past 9 years, and had always
received unqualified opinions on its financial statements and on its internal control over financial
reporting.
Dependent Variables
Our primary dependent variable is audit effort. We define audit effort in terms of inputs, with
a specific focus on the audit procedures performed by the auditor (IAASB 2011; PCAOB 2013).
Generally accepted auditing standards require that the auditor perform appropriate audit
procedures to gather sufficient and appropriate audit evidence (IAASB 2011; PCAOB 2013; AS
15). Specifically, the PCAOB emphasizes the importance of both the nature and the extent of
audit procedures (e.g., PCAOB 2013; AS 5, 11, 12). Consistent with the PCAOB’s emphasis, our
measure of audit effort incorporates the diagnosticity as well as the quantity of audit procedures
designed by the auditor.
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Audit effort was measured by a factor score composed of two variables: the number of audit
procedures and the diagnosticity of audit procedures.7 After examining the experimental case,
participants were informed that their audit team had decided to perform three basic audit
procedures.8 Participants were then instructed to assess whether additional procedures need to be
performed, and to list any additional procedures they deem necessary (up to five), in order of
importance. These lists were used to develop the measure of the number of audit procedures (one
component of audit effort).
The second component of audit effort, diagnosticity of audit procedures, was measured by
examining the procedures proposed and assigning a diagnosticity score to the set of procedures
proposed by each participant. Two highly experienced audit partners, who were blind to the
hypotheses and experimental conditions, reviewed the procedures proposed by the participants
and coded their overall diagnosticity on a scale of 0 to 10.9 The task consisted of re-assessing the
adequacy of an inventory obsolescence reserve that had been assessed in the prior-year audit.
The company had recently implemented a new and successful business strategy, and the slow-
moving inventory related to the old business strategy. Thus, proposed procedures such as
“observe annual physical count of inventory”, “cut-off procedure” or “physical inspection of a
sample of inventory” were deemed non-diagnostic to the task in question. Procedures such as
“verify saleable price with market”, “perform analytical procedures over selling prices vs.
historical information, demand for products and market share”, “LCM analysis comparing the
7The factor score was obtained using principal components analysis; the two variables loaded on a single factor with
eigenvalue of 1.50; the factor explained 75% of the variance in the data. 8 The three procedures were: (1) Inquire with financial management regarding possible obsolescence of inventory; (2)
Discuss possible obsolescence and overstock of inventory with operating personnel; (3) Obtain an understanding of
the company’s methodology for establishing the obsolescence reserve. 9 One of the audit partners was an expert with over 15 years of field audit experience and over 20 years of
experience at the National Office of a Big 4 firm as a leader in the areas of audit policy, audit quality, and risk
management. The other audit partner had over 20 years of audit experience and was a member of the National
Professional Standards group of one of the second-tier international audit firms.
15
cost to last sold price”, or “obtain industry reports to gain understanding of valuation issues”,
were deemed diagnostic to the task at hand. Any disagreement with respect to procedure
diagnosticity was discussed and resolved between the coders.
Case Materials and Procedures
The case used in this study relates to inventory obsolescence and is based on Kang (2014).
The participants are asked to assume the role of a senior in charge of the audit. Participants first
review the background information about the audit client which includes details regarding the
client’s industry, the auditor-client relationship, and information regarding the nature of the
upcoming meeting with the AC (routine vs. non-routine). To ensure participants are attentive of
the information regarding the meeting with the AC, auditors are asked to mark the day of the
described meeting on a calendar provided to them as part of the case materials. After reviewing
the background information, participants are provided with audit results and AC communication
details regarding the past year’s audit in order to prepare for the upcoming AC meeting. The
previous year’s audit results provide a description of a significant accounting estimate related to
inventory, management’s initial judgment of the write-down, and the audit team’s conclusion
regarding the write-down.
The communication with the AC on the inventory obsolescence issue includes
questions/comments that are said to be representative of the types of questions/comments that the
AC typically asks in meetings with the audit team. Participants in the probing (non-probing)
condition receive questions outlined in Exhibit 1. To ensure participants carefully consider these
communication details, participants are asked to summarize what is required to satisfy the
questions/comments of the AC. Subsequently, participants review information (materiality
information, inventory levels, and management’s estimated write-down) in preparation for
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planning the current year audit of inventory. This information outlines the details of a possible
inventory obsolescence issue for the current year. After reviewing this information, participants
respond to a set of dependent measures (discussed above). The experiment concludes by asking
several process measures questions, manipulation check questions, and demographic questions.
As described earlier in the theory and hypotheses development section, our two process
measures of interest are tone at the top and process accountability. We measure tone at the top by
explicitly asking the participants to rate the AC’s tone at the top on a scale of -3 (extremely weak)
to +3 (extremely strong). We measure process accountability using questions that are commonly
used in process accountability manipulations in psychology literature (Tetlock and Boettger 1989;
Tetlock and Kim 1987; Markman and Tetlock 2000; Siegel-Jacobs and Yates 1996; Brtek and
Motowidlo 2002; Tetlock et al. 1989; Kennedy 1993). Specifically, we ask the participants to
rate on a scale of -3 (extremely less than average) to +3 (extremely more than average), (i) the
extent to which they believed the AC would require them to justify their responses, (ii) the extent
to which they believed the AC would evaluate the quality of their decisions, and (iii) the extent
to which they believed the AC would require them to explain the process they followed in
making their judgments and decisions (italics added). The responses to these three questions are
converted to a scale (Cronbach’s alpha = 0.87), to examine whether process accountability
mediates the effect of AC effectiveness on overall audit effort.
(Insert Exhibit 1 Here)
V. RESULTS
Manipulation Checks
We tested the effectiveness of the AC questioning behavior manipulation with two questions
which asked participants to what extent they believe the questions/comments from SCA’s AC
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were (1) challenging, and (b) scrutinizing. Responses were measured on 7-point scales (0 = not
at all; 6 = extremely). Results from t-tests (t = 3.14, p = 0.002; t = 3.36; p = 0.001) showed that
participants in the probing condition believed the AC’s questions/comments were both more
challenging (mean = 2.65, std. dev. = 1.31) and more scrutinizing (mean = 2.27, std. dev. = 1.39)
than participants in the non-probing condition (mean = 1.84, std. dev. = 1.58; mean = 1.36, std.
dev. = 1.65). The effectiveness of the AC proactive behavior manipulation was tested with
participants’ agreement with the statement that this year, SCA’s AC had requested an additional
meeting with the audit team (-3 = strongly disagree, 3 = strongly agree). A t-test (t = 9.21, p <
0.001) showed that participants in the more proactive condition agreed more with this statement
(mean = 2.42; std. dev. = 1.01) than participants in the less proactive condition (mean = -0.17,
std. dev. = 2.03). The manipulations of AC proactive behavior and questioning behavior were
therefore successful.
Descriptive Statistics and Covariates
Panel A of Table 1 shows descriptive statistics for audit effort. As discussed in the Method
section, audit effort was measured with a factor score composed of two variables: number of
audit procedures and audit procedure diagnosticity. Panel B of Table 1 shows descriptive
statistics for the number of audit procedures, and Panel C shows descriptive statistics for audit
procedure diagnosticity. We observe the highest audit effort (mean = 0.308, std. dev. = 1.050) in
the condition in which the AC’s questioning behavior is non-probing and the AC is less
proactive in its meeting behavior.
(insert Table 1 here)
We conducted separate linear regressions for audit effort on demographic variables. While
participants’ age and gender were not significant predictors of audit effort, participants’ audit
18
experience (measured in months) was a significant predictor of audit effort (t = 2.55, p = 0.012).
We therefore included audit experience as a covariate in the ANCOVA conducted for audit
effort.
AC Effectiveness and Audit Effort
Panel A of Table 2 shows the ANCOVA of audit effort on AC questioning behavior, AC
proactive behavior, and audit experience included as a covariate. We observe that AC
questioning behavior and audit experience have significant, but opposite in direction, effects on
audit effort. While audit experience increases audit effort (F = 6.96, p = 0.009), probing
questioning behavior of the AC leads to a significantly lower audit effort (F = 4.59, p = 0.034).
The effects of AC proactive behavior and the interaction are not significant.
(insert Table 2 here)
Planned Contrasts
H1a proposed that audit effort will be highest under probing AC questioning and proactive
meeting behavior, and H2a proposed that audit effort will be highest under non-probing AC
questioning and less proactive meeting behavior. Panel B of Table 2 shows results from the
planned contrasts testing H1a and H2a. The planned contrast testing H1a (-1, -1, -1, 3) is not
significant (t = 0.16, p = 0.873), and H1a is not supported. However, the planned contrast testing
H2a (3, -1, -1, -1) is significant (t = 2.04, p = 0.022). H2a is therefore supported.
AC Effectiveness and Auditor Process Accountability
We next examine the effects of AC questioning behavior and AC proactive behavior on
auditors’ process accountability. Descriptive statistics for auditor process accountability
assessments are shown in Panel A of Table 3, and the ANCOVA is shown in Panel B. We
observe a main effect of AC questioning behavior on auditor process accountability: Probing
19
questioning behavior by the AC induces greater process accountability in auditors (mean = 1.26,
std. dev. = 0.88) than non-probing AC behavior (mean = 0.77, std. dev. = 1.20), and the effect is
significant F = 6.52, p = 0.012). However, no significant effects are observed for AC proactive
behavior, the interaction, or audit experience. Hence, H1b is not supported.
(insert Table 3 here)
AC Effectiveness and Tone at the Top
Table 4 shows results for AC tone at the top. Panel A shows descriptive statistics for AC tone
at the top. As expected, participants assessed AC tone at the top to be weakest when the AC is
both non-probing in its questioning behavior and less proactive (mean = -1.13, std. dev. = 1.23).
AC tone at the top is assessed as strongest when the AC is both probing in its questioning
behavior and proactive (mean = 1.09, std. dev. = 0.98).
Panel B of Table 4 shows the ANCOVA for AC tone at the top. Both AC questioning
behavior (F = 68.41, p < 0.001) and AC proactive behavior (F = 5.69, p = 0.019) significantly
increase auditor assessment of the strength of AC tone at the top. The interaction term and the
audit experience covariate are not significant.
(insert Table 4 here)
Effects of Tone at the Top and Auditor Process Accountability on Audit Effort
Table 5 shows the ANCOVA of in a model that includes audit effort as the dependent
variable and AC questioning behavior, AC proactive behavior, AC tone at the top and auditor
process accountability as independent variables, as well as the audit experience covariate. We
observe that, while the manipulated variables are no longer significant, stronger AC tone at the
top has a significant negative effect on audit effort (F = 6.69, p = 0.011). Further, auditor process
accountability does not have a significant effect on audit effort (F = 0.14, p = 0.711).
20
(insert Table 5 here)
Mediation Tests
We conduct mediation tests (Baron and Kenny 1986) for the effect of auditor process
accountability and AC tone at the top on audit effort. We first examine H1b, which proposed that
process accountability mediates the effect of AC questioning behavior on audit effort. Although
we found that AC effectiveness increases auditor process accountability (see Table 3), AC
effectiveness did not increase audit effort (see Table 2), and process accountability had no
significant effect on audit effort (see Table 5). H1b is therefore not supported.
We next examine whether, as proposed in H2b, AC tone at the top mediates the effect of AC
questioning behavior on audit effort. We follow Baron and Kenny’s (1986) four steps for testing
of mediation. In a series of linear regressions, we find that: (step 1) AC questioning behavior is a
significant predictor of audit effort (b = -0.65, p = 0.005, one-tailed); (step 2) AC questioning
behavior is a significant predictor of tone at the top (b = 1.86, p < 0.001, one-tailed); and finally,
in a regression including both AC questioning behavior and tone at the top as predictor for audit
effort, (step 3) tone at the top is significant (b = -0.20, p = 0.004, one-tailed), but (step 4) AC
questioning behavior is no longer significant (b = -0.28, p = 0.155, one-tailed). A Sobel test
(Sobel 1982) provides further evidence that tone at the top mediates the effect of AC questioning
behavior on audit effort (Sobel z = -2.45, p = 0.007, one-tailed).
VI. CONCLUSION
Using the theory of process accountability and the ARM, this study predicts and tests two
competing hypotheses on how AC effectiveness impacts audit effort. Specifically, based on the
theory of process accountability, we predict that audit effort will be highest when the AC is most
effective (i.e., asks probing questions and is more proactive). In contrast, based on the ARM, we
21
predict that when the auditors view AC tone at the top as a signal of AC effectiveness and
decreased control risk, audit effort will be highest when the AC is least effective (i.e., asks non-
probing questions and is less proactive).
Results show support for the predictions based on the ARM framework. Specifically,
auditors exerted the greatest amount of audit effort when the AC does not ask probing questions
and does not engage in proactive meeting behavior (i.e., least effective). Moreover, we find that
this effect is mediated by auditors’ assessment of tone at the top. Specifically, a more effective
AC that is more proactive or asks probing questions, leads auditors to assess tone at the top as
strong. This leads to a reduction in audit effort.
Interestingly, we also find that an AC that is more proactive and asks probing questions
increases auditors’ process accountability. However, we do not find evidence that an increase in
process accountability results in greater audit effort as process accountability theory suggests.
Together, the findings suggest that while a more effective AC increases both auditors’ perceived
accountability pressure and auditors’ assessment of a strong tone at the top, the effect of tone at
the top assessment dominates over the effect of accountability pressure in determining auditors’
behavior. These results are likely to be of interest to regulators, investors, and corporate boards,
especially given the passage of AS 16 Communications with the AC which encourages two way
communications between the AC and auditors.
Our research makes several contributions to the accounting and auditing literature. First,
broadly, our study adds to the limited line of literature on ACs and how they affect the financial
reporting process (Cohen et al. 2002, 2010; Beasley et al. 2009; Gendron and Bédard 2006).
Second, we contribute to the sparse literature on tone at the top, by providing evidence that the
effect of AC effectiveness on audit effort is mediated by auditors’ assessment of tone at the top.
22
Third, while prior research shows that AC attitudes affect how auditors communicate with the
AC (e.g., Fiolleau et al. 2013), we show how AC effectiveness impacts audit effort, which has
implications for the quality of the audit. Moreover, while regulators and standard setters seem to
believe greater AC effectiveness will lead to greater audit effort and ultimately higher audit
quality (e.g., AS 16), our study shows that greater AC effectiveness may actually lead to lower
audit effort due to auditor’s assessment of tone at the top.
This study also provides a basis for future research aimed toward obtaining a deeper
understanding of how AC effectiveness affects auditors’ judgment and decision making process.
While the current study focuses on the effect of AC’s questioning behavior and proactive
meeting behavior, future research could examine the impact of other characteristics of the AC
(e.g., financial expertise) on audit effort.
23
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27
EXHIBIT 1.Manipulation of Questioning Behavior
Panel A: Probing
What was your initial reaction when you saw management’s original estimate?
What was the key factor that led to the estimate changing from $4 million to only $970,000?
Exactly what type of supporting documentation did you gather to become comfortable with the
new estimate? How did you test that supporting documentation?
When you asked management to justify their new estimate, how did they react? Were they
willing to work with you on the issue or did they come across as being defensive?
Were there any other significant estimates that were modified during the audit process as a
result of the discussion with management?
Panel B: Non-Probing
It’s comforting to know you reached an agreement with management on the estimate.
It’s certainly a relief that the estimate wasn’t what management originally estimated it to be.
It’s good to know management was able to come up with a plan to sell the old inventory.
This is a good example of why management should always double-check their estimates.
We hope management’s strategy to sell the old inventory works out as they planned.
28
EXHIBIT 2.Manipulation of Proactive Behavior
Panel A. More Proactive
The first quarterly meeting with the audit committee occurred last month where you discussed
general planning for the audit. A week ago, the Chair of SCA’s audit committee requested an
additional meeting with your audit team. This meeting had not been previously scheduled.
During this additional meeting, SCA’s audit committee plans to further discuss their general
expectations for this year’s audit, as well as review your audit team’s planning for the audit.
The additional meeting is on November 7, 2012 at 2:00 pm. Please make a note of this meeting
on your calendar below. You may need to review this information later.
OCTOBER 2012
MONDAY TUESDAY WEDNESDAY THURSDAY FRIDAY
1 2 3 4 5
Previously
Scheduled
Quarterly
Meeting with
the Audit
Committee
NOVEMBER 2012
MONDAY TUESDAY WEDNESDAY THURSDAY FRIDAY
3 4 5 6 7
29
Panel B. Less Proactive
The first quarterly meeting is on November 7, 2012 at 2:00 pm. Please make a note of this
meeting on your calendar below. You may need to review this information later.
OCTOBER 2012
MONDAY TUESDAY WEDNESDAY THURSDAY FRIDAY
1 2 3 4 5
NOVEMBER 2012
MONDAY TUESDAY WEDNESDAY THURSDAY FRIDAY
3 4 5 6 7
30
FIGURE 1.Proposed Effects of AC Effectiveness and Audit Effort
Auditor
Process
Accountability
Probing
Audit Procedures
Diagnosticity
Audit Effort
Auditor
Assessment of
AC
Tone at the Top
Proactive
Number of Audit
Procedures
AC Effectiveness
+
+
–
+
31
FIGURE 2.Observed Effects of AC Effectiveness on Audit Effort
Probing
Audit Procedure
Diagnosticity
Audit Effort
Auditor
Assessment of
AC
Tone at the TopProactive
Number of Audit
Procedures
AC Effectiveness
+ –
32
TABLE 1. Descriptive Statistics
PANEL A. Audit Efforta
Mean (Std. Dev.)
AC Questioning Behaviorb
Non-probing Probing
Collapsed Across AC
Questioning Behavior
AC Proactive
Behaviorc
Less Proactive
0.31
(1.05)
n=31
-0.33
(0.79)
n=30
-0.01
(0.98)
n=61
More Proactive
0.04
(0.93)
n=33
-0.27
(1.13)
n=33
0.01
(1.03)
n=66
Collapsed Across
AC Proactive
Behavior
0.17
(0.99)
n=64
-0.17
(0.98)
n=63
PANEL B. Number of Audit Proceduresd
Mean (Std. Dev.)
AC Questioning Behaviorb
Non-probing Probing
Collapsed Across AC
Questioning Behavior
AC Proactive
Behaviorc
Less Proactive
2.00
(0.93)
n=31
1.43
(0.73)
n=30
1.72
(0.88)
n=61
More Proactive
1.76
(0.83)
n=33
1.88
(1.14)
n=33
1.82
(0.99)
n=66
Collapsed Across
AC Proactive
Behavior
1.88
(0.88)
n=64
1.67
(0.98)
n=63
33
PANEL C. Audit Procedure Diagnosticitye
Mean (Std. Dev.)
AC Questioning Behaviorb
Non-probing Probing
Collapsed Across AC
Questioning Behavior
AC Proactive
Behaviorc
Less Proactive
3.87
(2.35)
n=31
2.93
(1.39)
n=30
3.41
(1.98)
n=61
More Proactive
3.48
(1.86)
n=33
3.03
(1.67)
n=33
3.26
(1.77)
n=66
Collapsed Across
AC Proactive
Behavior
3.67
(2.10)
n=64
2.98
(1.52)
n=63
a Audit effort was measured with the factor composed of the measures for number of audit
procedures and audit procedure diagnosticity. b AC questioning behavior was manipulated at two levels: probing vs. non-probing.
c AC proactive behavior was manipulated at two levels: more proactive vs. less proactive.
d Number of audit procedures was measured by the sum of additional procedures deemed
necessary by participants. e
Audit procedure diagnosticity was measured on a 10-point scale, based on the assessment
made by a panel of two independent audit partners, about the diagnosticity of the additional
procedures that auditors deemed necessary.
34
TABLE 2. Effects of AC Questioning Behaviora and AC Proactive Behavior
b on Audit
Effortc
PANEL A. ANOVA of Audit Effortc
Source df MS F Sig.d
AC Questioning Behavior 1 4.26 4.59 0.034
AC Proactive Behavior 1 0.03 0.03 0.859
AC Questioning Behavior * Proactive
Behavior
1 2.53 2.73 0.101
Audit Experiencee
1 6.46 6.96 0.009
Error 122
PANEL B. Planned Contrasts
t Sig.d
H1a: Audit effort will be highest under probing AC questioning
and proactive meeting behavior.
0.16
0.873
H2a: Audit effort will be highest under non-probing AC
questioning and less proactive AC meeting behavior.
2.04
0.022
a AC questioning behavior was manipulated at two levels: probing vs. non-probing.
b AC proactive behavior was manipulated at two levels: more proactive vs. less proactive.
c Audit effort was measured with the factor composed of the measures for number of audit
procedures and audit procedure diagnosticity. d
ANOVA p-values are two-tailed, and contrast tests p-values are one-tailed if results are
directionally consistent with the hypothesis. e
Audit experience was measured in months..
35
TABLE 3.Effect of AC Questioning Behaviora and AC Proactive Behavior
b on Auditor
Process Accountabilityc
PANEL A. Descriptive Statistics
Mean (Std. Dev.)
AC Questioning Behavior
Non-probing Probing
Collapsed Across AC
Questioning Behavior
AC Proactive
Behavior
Less Proactive
0.80
(1.20)
n=31
1.16
(1.03)
n=30
0.97
(1.12)
n=61
More Proactive
0.74
(1.21)
n=33
1.35
(0.73)
n=33
1.04
(1.04)
n=66
Collapsed Across
AC Proactive
behavior
0.77
(1.20)
n=64
1.26
(0.88)
n=63
PANEL B. ANOVA of Auditor Process Accountability
Source df MS F Sig.
AC Questioning Behavior 1 7.29 6.52 0.012
AC Proactive Behavior 1 0.07 0.06 0.802
AC Questioning Behavior * Proactive
Behavior
1 0.49 0.43 0.511
Audit Experienced
1 1.09 0.98 0.325
Error 122
a AC questioning behavior was manipulated at two levels: probing vs. non-probing.
b AC proactive behavior was manipulated at two levels: more proactive vs. less proactive.
c Auditor process accountability was measured with a scale composed of the following three
questions. “To what extent do you believe SCA’s audit committee will: (a) require you to
justify your responses, (b) evaluate the quality of your decision processes, (c) require you to
explain to them the process you followed in making your judgments and decisions.” Responses
to the three questions were measured on 7-point scales (-3 = extremely less than average, 3 =
extremely more than average). d
Audit experience was measured in months.
36
TABLE 4.Effect of AC Questioning Behaviora and AC Proactive Behavior
b on AC Tone at
the Topc
PANEL A. Descriptive Statistics
Mean (Std. Dev.)
AC Questioning Behavior
Non-probing Probing
Collapsed Across AC
Questioning Behavior
AC Proactive
Behavior
Less Proactive
-1.13
(1.23)
n=31
0.73
(1.11)
n=30
-0.21
(1.50)
n=61
More Proactive
-0.46
(1.28)
n=33
1.09
(0.98)
n=33
0.32
(1.38)
n=66
Collapsed Across
AC Proactive
Behavior
-0.78
(1.29)
n=64
0.92
(1.05)
n=63
PANEL B. ANOVA of AC Tone at the Top
Source df MS F Sig.
AC Questioning Behavior 1 91.22 68.41 <0.001
AC Proactive Behavior 1 7.59 5.69 0.019
AC Questioning Behavior * Proactive
Behavior
1 0.82 0.61 0.435
Audit Experienced
1 1.57 1.18 0.280
Error 122
a AC questioning behavior was manipulated at two levels: probing vs. non-probing.
b AC proactive behavior was manipulated at two levels: more proactive vs. less proactive.
c AC tone at the top was measured on a 7-point scale (-3 to 3) with participants’ responses to the
question: “As a member of the audit team, how do you rate SCA audit committee’s tone at the
top?” (-3 = extremely weak, 3 = extremely strong). d
Audit experience was measured in months.
37
TABLE 5.Effects of AC Questioning Behaviora, AC Proactive Behavior
b, AC Tone at the
Topc, and Auditor Process Accountability
d
PANEL A. ANOVA of Audit Efforte
Source df MS F Sig.
AC Questioning Behavior 1 0.02 0.02 0.898
AC Proactive Behavior 1 0.15 0.17 0.682
AC Questioning Behavior * Proactive
Behavior
1 1.87 2.10 0.150
AC Tone at the Top 1 5.95 6.69 0.011
Auditor Process Accountability 1 0.12 0.14 0.711
Audit Experiencef
1 7.58 8.52 0.004
Error 120
a AC questioning behavior was manipulated at two levels: probing vs. non-probing.
b AC proactive behavior was manipulated at two levels: more proactive vs. less proactive.
c AC tone at the top was measured on a 7-point scale (-3 to 3) with participants’ responses to the
question: “As a member of the audit team, how do you rate SCA audit committee’s tone at the
top?” (-3 = extremely weak, 3 = extremely strong). d
Auditor process accountability was measured with a scale composed of the following three
questions. “To what extent do you believe SCA’s audit committee will: (a) require you to
justify your responses, (b) evaluate the quality of your decision processes, (c) require you to
explain to them the process you followed in making your judgments and decisions.” Responses
to the three questions were measured on 7-point scales (-3 = extremely less than average, 3 =
extremely more than average). e
Audit effort was measured with the factor composed of the measures for number of audit
procedures and audit procedure diagnosticity. f
Audit experience was measured in months.