Are Auditor Opinions on Internal Control Effectiveness Influenced by Corporate Social Responsibility?

Abstract

We investigate the relation between corporate social responsibility and auditors’ perception of internal control effectiveness under the Sarbanes Oxley Act, 404 Section. Previous studies find that the management or the quality of the board of directors is associated with the strength of internal controls. We contribute to the existing literature by identifying that the mechanisms managers use to improve the perception of internal control effectiveness are related to internally-oriented social responsible engagement and, in particular, to the enhancement of employee issues. We observe that corporate social responsibility strengths lead to an improvement of the auditors’ perception of effective internal control while corporate social responsibility concerns do not seem to diminish the perception of effectiveness. We also examine the nature of the weaknesses, which leads to adverse auditor opinions and note that, while the presence of company-level weaknesses is negatively associated with corporate social responsibility, the presence of accounting-level weaknesses is not. Moreover, we find that both the quality of information reported and corporate governance affect the relation between corporate social responsibility and the perception of internal control effectiveness. Our results hold for alternative proxies of internal controls and after controlling for potential endogeneity issues.

Keywords: auditing; internal control, material weaknesses, CSR, earnings quality