Timothy A. Seidel

Does the Timing of Auditor Changes Affect Audit Quality? Evidence from the Initial Year of the Audit Engagement

We focus on the first year of the auditor-client relationship and investigate whether audit quality varies with the timing of the new auditor’s appointment. We find that audit quality is not lower for companies that engage new auditors before the end of the third fiscal quarter than for companies that do not change auditors. However, companies that engage new auditors during or after the fourth fiscal quarter are more likely to misstate their audited financial statements than companies that engage new auditors earlier in the year and companies that do not change auditors. In additional tests, we find that the decrease in audit quality associated with late auditor changes is more pronounced for companies with complex operations (i.e., more operating segments). These results suggest that the extent to which audit quality suffers in the first year of audit engagements is affected by both the amount of time required to understand the client’s business, assess risks, and perform the audit (all of which are driven by client complexity), as well as the amount of time available for auditors to perform these tasks.

Do Accounting Firm Consulting Revenues Affect Audit Quality? Evidence from the Pre- and Post-SOX Eras

The Big 4 accounting firms have experienced a steady increase in the proportion of their revenues generated by providing consulting services post-SOX, primarily to nonaudit clients. Regulators have expressed concerns about the potential implications of this increase for audit quality. In contrast, the accounting firms assert that the expertise developed by their consulting professionals helps them to provide better quality audits. We examine the relation between the proportion of accounting firm consulting revenue to total revenue and audit quality, measured using financial statement misstatements. Our results suggest that, on average, higher consulting revenues are not associated with impaired audit quality. However, higher consulting revenues are associated with reduced audit quality among clients with lower litigation risk. These results support the argument that a cultural shift associated with the provision of more consulting services, even to nonaudit clients, can adversely affect audit quality in some circumstances (e.g., when litigation risk-related incentives for high audit quality are weaker). In addition, although the effect of higher consulting revenues only impacts audit quality among low litigation risk clients, results of earnings response coefficient tests suggest that investors perceive a deterioration in audit quality when a higher proportion of accounting firm revenue is generated from consulting services regardless of the client’s level of litigation risk. These results suggest that regulator and investor concerns about the provision of consulting services (at least at the levels we observe) may be warranted, but only among clients where opposing incentives to provide high audit quality are weaker.

Management Bias Across Multiple Accounting Estimates

We examine whether managers appear to aggregate bias in multiple subjective accrual estimates to meet or just beat analyst expectations. We also consider whether the updated language in recent PCAOB auditing standards, focusing auditors on the potential for bias across multiple estimates, impacted this method of managing earnings. Using hand-collected data from a sample of manufacturing firms, we find that meeting or just beating the most recent consensus analyst earnings forecast is positively associated with income-increasing bias aggregated from multiple accounting estimates. We also find that this relation attenuates in the years following the issuance of PCAOB auditing standards focusing auditors on this issue. Further analyses reveal that after these standards were released, firms increased the use of income-increasing, unexpected non-GAAP exclusions to meet or just beat expectations, an alternative technique subject to less auditor scrutiny. Additionally, firms using bias from multiple accounting estimates after the updated guidance in these PCAOB standards do so using bias spread in smaller amounts across more individual estimates. These findings provide important insight into how managers use accruals to meet or just beat an important benchmark as well as the impact of PCAOB auditing standard updates on this earnings management practice.

Auditors' Response to Assessments of High Control Risk: Further Insights

I examine whether auditors effectively respond to an assessment of high control risk at the account level. The audit risk model assumes that auditors alter their audit procedures to compensate for a greater risk of material misstatement to maintain a low risk of audit failure (i.e., low audit risk). I use internal control weakness disclosures in interim and annual filings to identify assessments of high control risk within specific accounts, and restatements of these specific accounts to identify account-level audit failures. I find an increased incidence of account-level misstatements when control risk within that particular account is high, suggesting that, on average, auditors do not maintain a consistent level of audit risk at the account level in the presence of high control risk. In further analyses, I examine whether the effectiveness of the auditor’s response varies as auditor effort (measured using excess audit fees) increases. For certain accounts, I find that additional auditor effort mitigates the likelihood of an ineffective response to high control risk, but that this mitigating effect occurs only at high levels of auditor effort. The results of this study provide insight into the effectiveness of auditors’ use of the audit risk model at the account level and suggest areas of the audit where auditors can improve the link between account-level risk assessments and the design, performance, and evaluation of substantive audit tests. ACKNOWLEDGEMENTS This dissertation is the culmination of four years of work and effort to achieve my goal of earning a doctorate degree. Foremost, I want to thank my dissertation committee chair, Dr. Linda Myers, for the mentorship, guidance, patience, and continuous support she provided me throughout the doctoral program. She went to great lengths to help me develop research skills and sharpen my communication. I truly hope the quality of this research reflects on her outstanding mentorship. I would also like to thank Dr. Cory Cassell for the outstanding mentorship, direction, and support he provided me throughout the doctoral program. I am grateful for his honest feedback and guidance. In addition, I would like to thank Dr. Gary Peters Dr. Junhee Han for their helpful comments and suggestions. Finally, I would like to thank my wife, Cheyenne, for her willingness and sacrifice to let me pursue this degree and dream. TABLE OF CONTENTS

Should Auditors Be Concerned About Pleasing the Client? An Examination of Auditor Changes Subsequent to Earnings Adjustments

In this paper, we investigate the consequences that auditors and their clients face when earnings announced in an unaudited earnings release are subsequently revised, presumably as a result of year-end audit procedures, so that earnings as reported in the 10-K differ from earnings as previously announced. Specifically, we examine whether the likelihood of an auditor ‘losing the client’ is greater following such revisions, and whether the likelihood of dismissal is influenced by revisions that more negatively impact earnings, that cause the client to miss important earnings benchmarks, by greater local auditor competition, or by auditor characteristics. We also examine audit pricing subsequent to audit-related earnings revisions for evidence of pricing concessions to retain the client. Finally, we examine whether client executives experience a greater likelihood of turnover following an audit-related earnings revision, and whether this varies by the type of revision. Consistent with expectations, we find that auditor dismissals are more likely following audit-related earnings revisions. We also find that dismissals are more likely when revisions cause clients to miss important benchmarks and when there is greater local auditor competition. Among non-dismissing clients, we find that future audit fees are lower when the effect of the revision on earnings is more negative, consistent with auditors offering price concessions to retain clients when revisions are more displeasing. We also find a greater likelihood of future chief financial officer (CFO) turnover as the effect of the revision worsens. Our findings offer important insights into the consequences that auditors face when balancing their responsibility for high audit quality and client satisfaction, as well as into the consequences that CFOs face when releasing inflated but not fully audited earnings.