ABSTRACT
In this paper, we examine whether the economic bond between an individual engagement partner and client threatens auditor independence and thus audit quality. We also investigate if auditor’s good economic position acts as a safeguard against this economic bond. Using a sample of peer reviewed individual audit engagements of 264 Finnish auditors we examine whether the client’s economic size is likely to affect audit quality as measured by the degree of compliance with audit standards (peer review). Furthermore, using taxable earned (salaries) and unearned (capital gains) income information of auditors we investigate if high income level of an auditor diminishes the risk of financial self-interest threat. Our results provide evidence that Finnish auditors show a very high independence although big client’s economic size (turnover) weakly affects audit quality. There is weak evidence that auditors are likely to show higher quality for larger clients. Our results also suggest that this financial self-interest threat can be safeguarded by auditor’s high unearned income level diluting the economic bond with the client. Unearned income acts here as a proxy for economic wealth.
INTRODUCTION
It is important that an auditor provides all customers with equal quality.In this paper, we examine whether the economic bond between an individual engagement partner and the client threatens auditor independence and thus audit quality. Furthermore, we investigate if auditor’s high income acts as a safeguard diluting this economic bond. Since the risk of audit quality impairment is higher when auditor’s independence is impaired (DeAngelo 1981), we investigate if client’s economic size has an influence on audit quality (as measured by peer review). When literature presents several safeguards (financial independence) to inhibit the self-interest threats (dependence on total fees from an assurance client, concern about the possibility of losing the engagement, or contingent fees) relating to assurance engagement affecting audit quality, we examine whether the audit quality can be improved by using one of these safeguards (earned and unearned income as a measure of economic independence of an auditor).
