The recent accounting scandals have raised concerns regarding the closeness of auditor–client relationships. Critics argue that as the relationship lengthens a bond develops and auditors’ professional skepticism may be replaced with trust. However, Statement on Auditing Standards No. 99 states that auditors “should conduct the engagement with a mindset that recognizes the possibility that a material misstatement due to fraud could be present, regardless of any past experience with the entity and regardless of the auditor’s belief about management’s honesty and (...) integrity” (AICPA 2002, Statement on Auditing Standards No. 99, paragraph 13, p. 10). The purpose of this study is to investigate whether auditors develop trust in a client’s management and whether this trust affects auditors’ decisions. Specifically, this study examines whether auditors’ satisfaction with a client’s management during a prior audit engagement affects auditors’ self-reported trust in that client’s management and whether that trust affects their fraud risk assessment. The decision to trust a client’s management should be an ethical decision because excessive trust may impair auditors’ skepticism, which auditors are required to maintain by their professional responsibilities. We therefore also investigate whether auditors’ trust is affected by their moral reasoning. An experimental case was completed by 89 professional auditors, all with experience assessing the risk of fraud. The results suggest auditors’ satisfaction with the client affects their trust in the client (higher satisfaction associated with higher trust and lower satisfaction associated with lower trust). Further, after an overall unsatisfying experience, auditors’ trust affects their fraud risk assessments. However, after an overall satisfying experience, their trust does not affect their fraud risk assessments. The results indicate auditors are able to maintain their professional skepticism after satisfying past experiences with the client regardless of their beliefs about the honesty and trustworthiness of the client’s management. Lastly, auditors’ moral reasoning was not related to their trust in the client’s management. (shrink)

This study examines the impact of the strength of an accounting firm's ethical environment on the quality of auditor judgment, across different levels of audit expertise. Using a 2 × 2 full factorial 'between subjects' experimental design, with audit managers and audit seniors, the impact of different levels of strength of the ethical environment on auditor judgments was assessed with a realistic audit scenario, requiring participants to make judgments in respect of an inventory writedown. Based on prior research, and as (...) hypothesized, participants possessing greater auditing experience made higher quality technical judgments. While there were no significant differences between the quality of audit judgments made by participants in the stronger ethical environment, over-all results indicate that managers are more sensitive to differences in the strength of the ethical environment than seniors. This is consistent with the hypothesis, and with prior research which suggests that the impact of the code will only be significant if it has been bilaterally internalized by individuals. This has important implications for accounting firms and regulators, given that the International Standard on Quality Control 1, requires the communication and reinforcement of ethical principles as part of firms' quality control processes. It suggests that firms will need to carefully consider the means by which they communicate and reinforce ethical principles, as it is possible to differentially impact auditors of different rank. (shrink)

Ethics has been identified as an important factor that potentially affects auditors’ professional skepticism. For example, prior research finds that auditors who are more concerned with professional ethics exhibit greater professional skepticism. Further, the literature suggests that professional skepticism may lead the auditor to more vigilantly resist the client’s position in financial reporting disputes. These reporting disputes are generally resolved through negotiations between the auditor and client to arrive at the final reported amounts. To date, the role that professional skepticism (...) potentially plays in the negotiation process has been relatively unexplored. The literature prior to the enactment of Sarbanes–Oxley (SOX) suggests that auditors are more likely to approve a client position when the matter in dispute is relatively ambiguous and when changing the client’s position will result in the client failing to meet analysts’ expectations. However, changes resulting from SOX have led auditors to be more vigilant and therefore results found in the pre-SOX environment may not hold in the current environment where auditors are held more accountable for their actions. Results from an experiment with experienced audit managers and partners suggest that in the post-SOX climate, auditors’ negotiations do not appear to be substantively influenced by management being able to meet or beat forecasts. Moreover, we find that when auditors exhibit heightened professional skepticism, they are more ethical by being conservative and they stand more resolute than when auditors do not exhibit heightened professional skepticism. Finally, although we do not find a main effect for the influence of earnings forecast, we do find a significant interaction between earnings forecast and heightened professional skepticism. Implications for practice and research are then presented. (shrink)