AUDIT TENURE AND QUALITY OF FINANCIAL REPORTING IN NIGERIA

Abstract

Measurement of audit quality over the years has been treated thoroughly. The relationship between audit tenure and audit quality is treated in this research. The research instrument used in collecting data is the questionnaire, which is a primary method of data collection. The analytical instrument used is the Pearson’s correlation technique. The co-efficient observed are weak negative (-0.149), weak positive (0.026) and weak negative (-0.059) for the three research questions used in the study. The values are deemed to be non significant which hold that there is no significant relationship between the duration of auditor and the quality of financial reporting, there is no significant difference between audit objective and ability to maintain accountability by firms and that there is no significant relationship between audit rotation and fraud detection. The research recommends that short audit tenure should be discouraged and long audit tenure should be accepted which leads to higher financial reporting quality. The research also recommends the monitoring of audit firms by regulatory bodies to improve efficiency and transparency in financial reporting.                         

TABLE OF CONTENTS

Title Page                                                                                i

Certification                                                                            ii       

Dedication                                                                    iii

Acknowledgements                                                                iv

Table of Contents                                                                   v

Abstract                                                                                  vii

Chapter One: Introduction                                        1

1. Background to the Study                                                      1
2. Statement of Problem                                                             4
3. Research Questions                                                               5
4. Objectives of the Study                                                          6
5. Statement of Hypothesis                                                       6
6. Significance of the Study                                                       7
7. Scope of the Study                                                                 9
8. Limitations of the Study                                                        10
9. Definition of Terms                                                                10

Chapter Two: Review of Related Literature               12

2.1    Introduction                                                                           12

2.2    Concept of Auditing                                                               13

2.3    Enduring principles of auditing                                            19

2.4    Postulate of Auditing                                                              20

2.5    Demand and supply of audit services                                  21

2.5.1   Ways to reduce information risk                                         25

2.5.2     Theories on the Demand and Supply of Audit Service                   25

2.6    Types of Audit                                                                        26

2.7    Advantages of Audit to Various Groups                     29

2.8    Internal Audit as a Tool of Ensuring Accountability

in an Organization                                                                 33

2.8.1  Limitation of Auditing                                                 36

2.8.2 Functions of the Internal Audit                                             37

2.8.3 The Differences Between Internal and External Auditing         38

1. Auditors’ Tenure and Perceived Credibility of

Financial Reporting                                                               40

Chapter Three: Research Method and Design             43

1. Introduction                                                                           43
2. Research Design                                                                     43
3. Description of Population of the Study                                 43
4. Sample/Sampling Technique                                                43
5. Method of Data Collection                                                     44
6. Method of Data Analysis                                                        45

Chapter Four: Data Presentation, Analysis and Interpretation                                                            48

4.1    Data Presentation                                                                  48

4.2    Data Analysis                                                                         66

4.3    Hypothesis Testing                                                                 67

4.5    Interpretation of Test Results                                                69

Chapter Five: Summary, Conclusion and Recommendations

5.1    Summary                                                                                71

5.2    Conclusion                                                                             71

5.3    Recommendations                                                                 72

References                                                                              75

CHAPTER ONE

INTRODUCTION

Background to the Study

In the past few years, auditors had been blamed due to their role in the mega corporate scandals such as Enron, WorldCom, Global crossing, Imclone system and Tyco international and in Nigeria such as Cadbury (Nig) Plc, African Petroleum (Nig) Plc. The criticism had raised lot of questions regarding auditors’ independence, such criticism leveled against auditors because they have be auditing their clients for a long time and subsequently concentrated more on non-audit services rather than audit.

The familiarity that exists between the auditors and their clients as a result of long audit tenure encourages failure in auditor independence. Though, there has been a call for sweeping changes in the auditing profession to ensure independence and therefore improved their audit quality (Palmrose, 2006).

The term audit is derived from the Latin word ‘audire’ which means to hear. In early days an auditor used to listen to the accounts read over by an accountant in order to check them. It was in use in all ancient countries such as Mesopotamia, Greece, Egypt, Rome, U.K and auditing (Ojo, 2009).

Auditing evolved and grew rapidly after the industrial revolution in the 18th century with the growth of the joint stock companies the ownership management became separate. The shareholders who were the owners needed a report from an independent expert on the accounts of the company managed by the board of director’s who were the employees. The purpose for this is to ascertain whether the account was true and fair rather than detection of errors and frauds (Petersen, 2005).

With increase in the size of companies and the volume of transaction the main objective of audit shifted to ascertaining whether the accounts were true and fair rather than true and correct. Hence, the emphasis was not on arithmetic accuracy but on a fair presentation of financial reporting (Lennox, 2005). Accounting and auditing play significant role in principal-agent relationship (i.e. agency relationship). The agency relationship between owners and manager in a firm creates a natural conflict of interest because of the information asymmetry that exists between managers and the owners. This information asymmetry means that manager generally has more information about “true” financial position (shown by statement of financial position), and results of operations (in a statement of comprehensive incomes) of the enterprise than the absentee owner does. This contract relationship between the shareholders and managers in a firm lead to the demand for firm auditing.

Auditing has a significant effect on firms, it helps to determine whether the overall financial statement present fairly in accordance with the established criteria, the extent to which rules, policies, laws audit and tracing funds or assets identification and recovery, investigating the existence, nature., extent and identification of employee who misappropriate asset.

Long term audit tenure has created some expectation gap this gap has led to failure of the auditor, to carryout is duty effectively. This is due, to the fact that the expectation of the auditors are not met because of the familiarity that exist between the auditors and their clients, this familiarity has made the auditors to fail in their area of independence, credibility and confidentiality because during long term audit tenure, auditors focus on non-audit service than audit services, and this led to many corporate scandal.

Statement of Problem

Several studies have attempted to evaluate possible explanatory variables for the state of audit quality. In the light of these studies, auditor tenure has become the focus of much debate. Should a firm replace its auditor’s on a regular basis, or should the auditor be allowed to build long-term relationship with the client? Studies on the effect of audit tenure on the quality of financial reporting are at polarity. A considerable number of these studies considered the rotation of audit firm as a way improving the quality of financial reporting. This is because familiarity with the client has the effect of reducing the fresh point of view auditors have in the early years of engagement. The Sarbanes-Oxley Act of 2002 consolidates this view as it requires rotation of the lead audit partner every five years so that the engagement can be viewed “with fresh and skeptical eyes”. The argument basically is that longer audit tenure trends to result in an opportunity cost of auditor independence, conversely, other studies also argue that longer auditor tenure improve auditor quality as auditor may need time to expertise in the business they audit and acquires client-specific knowledge overtime. This implies that audit quality is lower during the early year of the Auditor-client relationship, and the audit quality increases with length of the auditor-tenure due to the reduction in information asymmetry between auditor and client.

Research Questions

The research questions formulated from this research work are:

i.      Is there any significant relationship between the duration of auditor and the quality of financial reporting?

ii.     Does audit tenure improve the quality of financial reporting in achieving organizational objectives?

iii.    Does audit objective help in maintaining accountability?

Objectives of the Study

The main of objective of the study is to examine the effect of audit tenure on the quality of financial reporting; others include;

i.      To examine the relationship between the duration of auditor and the quality of financial reporting.

2.     To examine if audit tenure help to improve the quality of financial reporting.

3.     To determine whether  audit tenure help in maintaining accountability of financial reporting in an organization.

Statement of Hypothesis

In order to achieve the stated objectives of this study, the following hypothesis were formulated in null and alternative basis.

Hypothesis 1

HO:   There is no significant relationship between the duration of auditor and the quality of financial reporting.

HI:    There is a significant relationship between the duration of auditor and the quality of financial reporting.

Hypothesis 2

HO:   There is no significant difference between audit objective and ability to maintain accountability by firms.

HI:    There is significant difference between audit objective and ability to maintain accountability by firms.

Hypothesis 3

HO:   There is no significant relationship between audit rotation and fraud detection.

HI:    There is significant relationship between audit rotation and fraud detection.

Significance of the Study

This study is relevance in all human endeavors as listed below;

1. Academic relevance
2. National relevance
3. Accounting relevance

Academic relevance: This research work will instill in the students to have a general insight into the effect of audit tenure on the quality of financial reporting, which will enable students to make useful suggestions and contributions on topic under survey.

National relevance: This research work is relevance to the nation in the following ways;

a.     It will serve as a referenced point to management awards achieving their organizational goal and objective.

b.     It will enable the investors to carry out a check and balance between the auditors and the companies to determine the extent to which audit tenure has influence the quality of financial reporting for the purpose of investment decision.

c.     Since the government is also interested in the financial statement of every company, for the purpose of taxation, it will be relevance to the government to see how audit tenure has influence the quality of financial reporting.

d.     It will enable the public and researchers to make useful suggestions and contributions on the topic under review.

Accounting profession: This research work is relevance to the accounting profession in the following ways.

a.     To encourage the profession to help increase credibility to financial statement.

b.     To encourage auditor standard to provide detailed guidance on risk factors that auditor should considered in assessing whether financial statements may contain material misstatements caused by fraud and irregularities.

c.     To instill into the profession, the sense of responsibility, the essence of professionalism, independence and confidentiality.

 Scope of the study

This research work is to observe the impact of audit tenure on quality financial reporting of auditors on quality of audit in southern Nigeria. The researcher focus is on the qualified accountants both in the public sector and private sector, those in the public sector shall comprise of qualified lectures in the accounting, banking, management and economics departments while the private sectors shall comprise of selected accredited auditing firms in Ondo State, Edo State and Kogi State respectively.    

1.8   Limitations of the study

Some factors limit the extent and depth of this research work. These limitations include non-availability of adequate literature and the refusal of management to furnish some important documents/data for more detailed analysis on grounds of confidentiality.

Again, the unavailability of textbooks that deals on relevant areas of the study is another constraint. There were only few, textbooks to consult in the school library and most of them are obsolete. The researcher had to look outside the polytechnic library for relevant materials such as journals write-up etc.

Since the research work was done during the normal course of study, it was not possible to undertake an elaborate study.

Definition of Terms

Tenure: The period of time when somebody holds an important job.

Financial statement: A structured representation of the financial position, financial performance and cashflow of an entity.

Financial reporting: It has to do with making financial norms to the public and the public in return provides capital to the company with hope of receiving further benefit.

Auditing: Auditing can be defined as an independent examination of the expression of opinion on a set of financial statement by an appointed person in compliance with all statutory obligation.

Statutory obligation: This refers to the legal laws governing the job, duties or rights of auditing