Non‐audit service fees, auditor characteristics and earnings restatements

Abstract

PurposeThe objective of the study is to provide empirical evidence of the impact of non‐audit services (NAS) as well as other auditor characteristics on auditor independence by testing the relationship of NAS fees to the occurrence of financial statement restatements.Design/methodology/approachThe authors tested whether firms that restate their financial statements have higher levels of total service fees or higher levels of NAS fees than non‐restatement firms. The testing also includes an examination of the relationship between the audit firm size and the audit firm industry specialization to financial statement restatements.FindingsThe study found only limited evidence to support the concept that firms with higher NAS fees are more likely to restate earnings, thereby casting doubt on the public perception that NAS impairs auditor independence and the legislative approval of Section 201 of the Sarbanes‐Oxley Act prohibiting external auditors from providing certain NAS to audit clients as necessary to preserve auditor independence. The study did find stronger evidence that the level of total fees paid to the audit firm is significant in the predictability of a restatement. In addition, the study also found stronger and more conclusive evidence of a negative association to audit firm industry specialization and a strong positive association to Big 5 audit firms.Practical implicationsResults demonstrate the necessity of regulations concerning NAS and conflict of interest.Originality/valueThis paper is an original contribution that demonstrates the importance of auditor characteristics over audit fees in predicting earnings management.

Future Nonaudit Service Fees and Audit Quality

“…; Chung and Kallapur ), going‐concern opinions (DeFond, Raghunandan, and Subramanyam ; Geiger and Rama ; and Callaghan, Parkash, and Singhal ), restatements (Kinney, Palmrose, and Scholz ; Raghunandan, Read, and Whisenant ), and earnings conservatism (Ruddock, Taylor, and Taylor ). Overall, the consensus derived from prior research suggests that the level of NAS fees does not, in general, have an adverse impact on audit quality (DeFond and Francis ; Francis ; Schneider, Church, and Ely ; Bloomfield and Shackman ; Lim and Tan ; Habib ).…”

Abnormal Audit Fees and Restatements

“…For example, various empirical studies have investigated the influence of earnings management (Ettredge et al 2010;Callan et al 2008;Choi et al 2010), CEO compensation (Efendi et al 2007), CFO characteristics (Aier et al 2005), audit committee characteristics (Abbott et al 2004), internal errors or ambiguous accounting standards (Plumlee and Yohn 2010), auditor industry expertise (Romanus et al 2008), and nonaudit-fees (Bloomfield and Shackman 2008;Kinney et al 2004;Raghunandan et al 2003) on the likelihood of a restatement. Research into the consequences of restatements has largely focused on evaluating the market or analyst responses (Barniv and Cao 2009;Akhigbe and Madura 2008;Griffin et al 2004;Hribar and Jenkins 2004;Griffin 2003), the effect on executive turnover or reputation (Leone and Liu 2010;Feldmann et al 2009;Collins et al 2009;Cheng and Farber 2008;Hennes et al 2008;Desai et al 2006), the likelihood of future litigation , or other effects on corporate governance (Srinivasan 2005).…”

The determinants of non-audit fees in French firms

“…The literature on the non-audit fees can be divided on three views. The first one examined the impact of non-audit fees on the added value especially on discretionary accruals (Francis & Ke, 2003;Frankel et al, 2002;Ashbaugh et al, 2003;Reynolds et al, 2004;Lim & Tan, 2008), on the propensity to issue notices of the continuity (Defond et al, 2002), on the conservatism gains (Ruddock et al, 2005), on the real bonds' estimates (Brandon et al, 2004), on response benefit coefficients (Francis & Ke, 2006) and on the cases of earnings restatements (Kinney et al, 2004), Bloomfield and Shackman (2008). For the most of these studies, the results suggest that non-audit fees appear to have a negative effect on the audit quality (Defond & Francis, 2005).…”