Risk Disclosure Preceding Negative Outcomes: The Effects of Reporting Critical Audit Matters on Judgments of Auditor Liability

• In Event: Auditor Liability

Abstract

Audit practitioners, academics and attorneys have all expressed concern that the PCAOB’s proposed requirement for auditors to disclose critical audit matters (CAMs) will increase auditors’ litigation exposure. This study examines whether, and under which conditions, such concern is warranted. Decision affect theory suggests that when auditors fail to detect misstatements, evaluators will experience less negative emotional reactions to the auditors when the auditors previously disclosed a CAM that relates to the undetected misstatement. Therefore, we do not expect disclosing CAMs that relate to undetected misstatements to increase evaluators’ auditor liability assessments. Experimental results consistently support these expectations, and also indicate that disclosing CAMs can, in certain contexts, decrease auditor liability assessments. Further, disclosing CAMs that are unrelated to undetected misstatements do not increase evaluators’ auditor liability assessments. Overall, results indicate that disclosing CAMs likely will not increase, and could decrease auditors’ litigation exposure. Implications for auditing and beyond are discussed.

Authors

• Kelsey R. Brasel, Ball State University

• Marcus M. Doxey, The University of Alabama

• Jonathan H. Grenier, Miami University

• Andrew Buthod Reffett, Miami University