Does the Presence of Highly Compensated General Counsel Affect Audit Quality and Audit Outcomes?

• In Event: Continental Breakfast - Research and Education Forum
  In Roundtable Session: Table 6: Determinants of Audit Quality

Abstract

General counsel are commonly involved in important and complex business transactions, and thus have a direct impact on financial reporting quality and financial disclosures. These factors directly influence the probability of audit failure, and thus the litigation risk faced by external auditors. Although prior literature has linked general counsel to financial reporting and disclosure quality, none (to the best of our knowledge) has examined how external auditors respond to the presence of highly compensated general counsel. As such, in this study we examine we examine how the presence of highly compensated general counsel affects the clients external audit market through audit quality and audit opinions. We find that highly compensated general counsel is positively associated with audit quality, and that firms with highly compensated general counsel are less likely to receive unqualified audit opinions and more likely to report material weaknesses in internal controls than firms without general counsel. These results suggest that as a result of misaligned incentive structure, highly compensated general do not serve as monitors and allow management to engage in aggressive financial reporting. Our findings are valuable to auditors in evaluating audit risk related to clients with highly compensated general counsel, firm managers considering the costs and benefits of hiring general counsel, and investors in evaluating the reliability of financial reporting in firms with highly compensated general counsel.

Authors

• Stephanie Antionette Hairston, Georgia Southern University

• Ji Woo Ryou, The University of Memphis