Frances Ball 1 Nov 2019 12:28pm

Companies benefit when auditor's alumni sits on board

When a member of the board is an alumnus of the audit firm scrutinising their company, the arrangement has often been seen as a suspiciously cosy threat to quality. Research now suggests that the opposite is true

The study, published in the American paper Auditing: A Journal of Practice and Theory, investigated the effect of past ties between board members and their audit firms in a large sample group of former Big Four audit partners.

Those partners, the study found “acquit themselves admirably”.

In America, the 2002 Sarbanes-Oxley Act handed responsibility for the quality of financial reporting to a company’s audit committee. The study found that in “affiliated audit committees”, those that contain a former member of the audit firm contracted to the company, actually improved the quality of reports.

The committees produced “a combination of higher quality, lower fees, more timely audits, and more effective auditor efforts … [which] help improve both the quality and efficiency of the audit”, the researchers found.

Admittedly, affiliated audit committees are less likely to dismiss their former audit firm. While that is the case, those committees still do not treat the firms with undue preference in a way that would compromise the integrity of the audit itself.

Companies with affiliated audit committees are 21% less likely on average to misstate their financial results, and 26% less likely to be late in announcing material weaknesses in their financial reports.

“Concerns about a loss of auditor objectivity should be lower when the affiliated partner serves on the audit committee because the committee’s financial reporting quality objectives align with the audit firm,” researchers wrote.

The key, they said, was that “affiliated audit committee members … improve audit quality by working with the audit firm to perform the appropriate audit procedures, not merely more tests … thus improving quality while reducing working hours (i.e. audit fees)”.

Their findings should be of interest not just to scholars, but also regulators and practitioners, researchers said.