Big 4 Auditors, Corporate Governance, and Earnings Management under Principles and Rule-Based Reporting Regimes: Cross-Country Empirical Evidence

• In Event: Big N Quality Effects

Abstract

Summary: Extant research suggests that Big 4 auditors are more able to curb earnings management than non-Big 4 auditors. However, few studies have addressed the ability of the auditor to curb earnings management for firms reporting under principle-based versus rules-based regimes. We also examine the role of corporate governance in financial reporting quality by including a corporate governance score. Consistent with other studies, we find that in general Big 4 auditors are better able to curb earnings management. We also find that earnings management is greater for principles-based reporting regimes. However, when supported by the client’s strong corporate governance mechanisms, Big 4 auditors’ ability to curb earnings management under principles-based standards is enhanced. We provide empirical results suggesting that with principles-based reporting, the effect on reporting quality from good corporate governance takes on an additional significance beyond that for firms reporting under rules-based standards. This finding, which is based on over 22,000 firm year observations from 25 countries over a 7 year period, has implications as to auditing standards and procedures.

Authors

• Carol E Vann, University of South Alabama

• Theresa Presley, Pittsburg State University