How do various forms of auditor rotation affect audit quality? Evidence from China

Michael Arthur FIRTH, Oliver M. RUI, Xi WU

Research output: Journal PublicationsJournal Article (refereed)Researchpeer-review

37 Citations (Scopus)

Abstract

The Enron/Arthur Andersen scandal has raised concerns internationally about auditor independence, audit quality, and the need for regulatory action such as mandatory auditor rotation. China's unique institutional features provide a setting in which we can compare comprehensively the various forms of auditor rotation at different levels (partner vs. firm) and in different settings (voluntary vs. mandatory). In addition, institutional conditions vary dramatically across China, which provides us with an opportunity to test whether the development of market and legal institutions affects the impact of rotation on audit quality. We expect that auditors are less (more) constrained by market forces and less (more) self-disciplined to maintain audit quality in regions with less (more) developed market and legal institutions. Therefore, mandatory rotation may play a more (less) important role in less (more) developed regions. Using auditors' propensity to issue a modified audit opinion (MAO) as a proxy for audit quality, we find that firms with mandatory audit partner rotations are associated with a significantly higher likelihood of an MAO than are no-rotation firms. However, this effect is restricted to firms located in less developed regions. We find similar evidence for voluntary audit firm rotation although the significance level is much weaker than for mandatory partner rotation. Other forms of auditor rotations (i.e., mandatory audit firm rotation and voluntary audit partner rotation), have no effect on MAOs.
Original languageEnglish
Pages (from-to)109-138
Number of pages30
JournalThe International Journal of Accounting
Volume47
Issue number1
DOIs
Publication statusPublished - 1 Mar 2012

Fingerprint

Audit quality
Auditors
China
Audit firms
Legal institutions
Audit
Audit opinion
Arthur Andersen
Auditor independence
Scandal
Enron
Propensity
Market forces

Keywords

  • Mandatory audit partner rotation; Mandatory audit firm rotation; Voluntary rotation; Market and legal institutions; Modified audit opinion

Cite this

FIRTH, Michael Arthur ; RUI, Oliver M. ; WU, Xi. / How do various forms of auditor rotation affect audit quality? Evidence from China. In: The International Journal of Accounting. 2012 ; Vol. 47, No. 1. pp. 109-138.
@article{a4a3eb0f3cd64b0198a00ab714b63e8d,
title = "How do various forms of auditor rotation affect audit quality? Evidence from China",
abstract = "The Enron/Arthur Andersen scandal has raised concerns internationally about auditor independence, audit quality, and the need for regulatory action such as mandatory auditor rotation. China's unique institutional features provide a setting in which we can compare comprehensively the various forms of auditor rotation at different levels (partner vs. firm) and in different settings (voluntary vs. mandatory). In addition, institutional conditions vary dramatically across China, which provides us with an opportunity to test whether the development of market and legal institutions affects the impact of rotation on audit quality. We expect that auditors are less (more) constrained by market forces and less (more) self-disciplined to maintain audit quality in regions with less (more) developed market and legal institutions. Therefore, mandatory rotation may play a more (less) important role in less (more) developed regions. Using auditors' propensity to issue a modified audit opinion (MAO) as a proxy for audit quality, we find that firms with mandatory audit partner rotations are associated with a significantly higher likelihood of an MAO than are no-rotation firms. However, this effect is restricted to firms located in less developed regions. We find similar evidence for voluntary audit firm rotation although the significance level is much weaker than for mandatory partner rotation. Other forms of auditor rotations (i.e., mandatory audit firm rotation and voluntary audit partner rotation), have no effect on MAOs.",
keywords = "Mandatory audit partner rotation; Mandatory audit firm rotation; Voluntary rotation; Market and legal institutions; Modified audit opinion",
author = "FIRTH, {Michael Arthur} and RUI, {Oliver M.} and Xi WU",
year = "2012",
month = "3",
day = "1",
doi = "10.1016/j.intacc.2011.12.006",
language = "English",
volume = "47",
pages = "109--138",
journal = "International Journal of Accounting",
issn = "1094-4060",
publisher = "Elsevier BV",
number = "1",

}

How do various forms of auditor rotation affect audit quality? Evidence from China. / FIRTH, Michael Arthur; RUI, Oliver M.; WU, Xi.

In: The International Journal of Accounting, Vol. 47, No. 1, 01.03.2012, p. 109-138.

Research output: Journal PublicationsJournal Article (refereed)Researchpeer-review

TY - JOUR

T1 - How do various forms of auditor rotation affect audit quality? Evidence from China

AU - FIRTH, Michael Arthur

AU - RUI, Oliver M.

AU - WU, Xi

PY - 2012/3/1

Y1 - 2012/3/1

N2 - The Enron/Arthur Andersen scandal has raised concerns internationally about auditor independence, audit quality, and the need for regulatory action such as mandatory auditor rotation. China's unique institutional features provide a setting in which we can compare comprehensively the various forms of auditor rotation at different levels (partner vs. firm) and in different settings (voluntary vs. mandatory). In addition, institutional conditions vary dramatically across China, which provides us with an opportunity to test whether the development of market and legal institutions affects the impact of rotation on audit quality. We expect that auditors are less (more) constrained by market forces and less (more) self-disciplined to maintain audit quality in regions with less (more) developed market and legal institutions. Therefore, mandatory rotation may play a more (less) important role in less (more) developed regions. Using auditors' propensity to issue a modified audit opinion (MAO) as a proxy for audit quality, we find that firms with mandatory audit partner rotations are associated with a significantly higher likelihood of an MAO than are no-rotation firms. However, this effect is restricted to firms located in less developed regions. We find similar evidence for voluntary audit firm rotation although the significance level is much weaker than for mandatory partner rotation. Other forms of auditor rotations (i.e., mandatory audit firm rotation and voluntary audit partner rotation), have no effect on MAOs.

AB - The Enron/Arthur Andersen scandal has raised concerns internationally about auditor independence, audit quality, and the need for regulatory action such as mandatory auditor rotation. China's unique institutional features provide a setting in which we can compare comprehensively the various forms of auditor rotation at different levels (partner vs. firm) and in different settings (voluntary vs. mandatory). In addition, institutional conditions vary dramatically across China, which provides us with an opportunity to test whether the development of market and legal institutions affects the impact of rotation on audit quality. We expect that auditors are less (more) constrained by market forces and less (more) self-disciplined to maintain audit quality in regions with less (more) developed market and legal institutions. Therefore, mandatory rotation may play a more (less) important role in less (more) developed regions. Using auditors' propensity to issue a modified audit opinion (MAO) as a proxy for audit quality, we find that firms with mandatory audit partner rotations are associated with a significantly higher likelihood of an MAO than are no-rotation firms. However, this effect is restricted to firms located in less developed regions. We find similar evidence for voluntary audit firm rotation although the significance level is much weaker than for mandatory partner rotation. Other forms of auditor rotations (i.e., mandatory audit firm rotation and voluntary audit partner rotation), have no effect on MAOs.

KW - Mandatory audit partner rotation; Mandatory audit firm rotation; Voluntary rotation; Market and legal institutions; Modified audit opinion

UR - http://commons.ln.edu.hk/sw_master/1645

U2 - 10.1016/j.intacc.2011.12.006

DO - 10.1016/j.intacc.2011.12.006

M3 - Journal Article (refereed)

VL - 47

SP - 109

EP - 138

JO - International Journal of Accounting

JF - International Journal of Accounting

SN - 1094-4060

IS - 1

ER -