The Effect of Misstatements of Varying Magnitude on the Decisions of Financial Statement Users: An Experimental Investigation of Materiality Thresholds

Posted: 28 Sep 2001

See all articles by Brad Tuttle

Brad Tuttle

University of South Carolina - Department of Accounting

Maribeth Coller

affiliation not provided to SSRN

R. David Plumlee

University of Utah - School of Accounting and Information Systems

Abstract

Auditors are faced with the dilemma of inferring materiality based, in part, on whether a given level of financial misstatement will affect the decisions of statement users. Misstatements in accounting information that are below the materiality threshold are not expected to change users' assessments of a company's economic condition. While the auditing profession accepts materiality in concept, its application in practice is more controversial. In certain settings, the nature of a misstatement, such as changing a small profit into a loss, may affect an auditor's materiality judgment. However, in many cases the magnitude of the misstatement is a critical factor in judging materiality. We focus solely on the issue of magnitude and examine whether financial misstatements that are at or below commonly applied materiality thresholds result in market prices that differ from those resulting from correctly stated information. We conduct a series of twelve experimental asset markets each consisting of twelve independent three-minute trading periods with six traders in each market. We then compare prices for companies generated by markets that are provided either correctly stated information, information containing misstatements that would typically be considered immaterial, or information containing material misstatements. Results indicate that undisclosed misstatements within materiality thresholds that are consistent with current audit practice do not affect market prices, while misstatements well above these thresholds do.

JEL Classification: M49, M41, G12

Suggested Citation

Tuttle, Brad and Coller, Maribeth S. and Plumlee, R. David, The Effect of Misstatements of Varying Magnitude on the Decisions of Financial Statement Users: An Experimental Investigation of Materiality Thresholds. Available at SSRN: https://ssrn.com/abstract=285353

Brad Tuttle (Contact Author)

University of South Carolina - Department of Accounting ( email )

The Francis M. Hipp Building
1705 College Street
Columbia, SC 29208
United States
803-777-6639 (Phone)
803-777-6876 (Fax)

Maribeth S. Coller

affiliation not provided to SSRN ( email )

R. David Plumlee

University of Utah - School of Accounting and Information Systems ( email )

1645 Campus Center Drive
Salt Lake City, UT 84112
United States
801-585-9466 (Phone)

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