A Comparison of Nearest Neighbours, Discriminant and Logit Models for Auditing Decisions
University of Crete - Faculty of Social Sciences - Department of Economics
University of Surrey - Surrey Business School; Technical University of Crete; Coventry University - Faculty of Business, Environment & Society; Centre for Financial and Risk Management, Audencia Nantes School of Management; Centre for Governance & Regulations
Aristotle University of Thessaloniki - Department of Economics
Technical University of Crete (TUC) - Department of Production Engineering and Management
Intelligent Systems in Accounting, Finance and Management, Vol. 15, pp. 23-40, 2007
This study investigates the efficiency of k-Nearest Neighbours (k-NN) in developing models for estimating auditors' opinion, as opposed to models developed with discriminant and logit analyses. The sample consists of 5,276 financial statements, out of which 980 received a qualified audit opinion, obtained from 1,455 private and public UK companies operating in the manufacturing and trade sectors. We develop two industry-specific models and a general one using data from the period 1998-2001, which are then tested over the period 2002-2003. In each case, two versions of the models are developed. The first includes only financial variables. The second includes both financial and non-financial variables. The results indicate that the inclusion of credit rating in the models results in a considerable increase both in terms of goodness of fit and classification accuracies. The comparison of the methods reveals that the k-NN models can be more efficient, in terms of average classification accuracy, than the discriminant and logit models. Finally, the results are mixed as it concerns the development of industry-specific models as opposed to general ones.
Keywords: auditing, classification, nearest neighbours, discriminant, logit
JEL Classification: M41, M49, C63Accepted Paper Series
Date posted: May 21, 2007
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