The Effects of Disclosing Critical Audit Matters and Auditor Tenure on Investors’ Judgments
48 Pages Posted: 19 Dec 2018
Date Written: December 1, 2018
The Public Company Accounting Oversight Board (PCAOB) recently adopted sweeping changes to the audit report, requiring the audit firm to disclose whether or not it identified a critical audit matter (CAM), and its tenure with the client. To our knowledge, this is the first study to (1) provide experimental evidence on the effects of a CAM disclosure or an explicit statement that the auditor did not identify a CAM on investor judgments, and (2) examine whether auditor tenure disclosure influences investors’ judgments. We find that, relative to disclosing that no CAMs were identified, disclosing a CAM reduces nonprofessional investors’ investment intentions. Concerning investors’ cognitive processes, CAM disclosure negatively impacts perceptions of management’s influence on financial reporting quality, which mediates the relationship between CAM disclosure and investment intentions. Additionally, CAM disclosure also has an indirect effect on investment intentions through its positive effect on perceptions of the auditor’s influence on financial reporting quality. We do not find a significant effect of tenure disclosure on investment intentions. Our contributions include furthering the understanding of cognitive mechanisms through which CAM disclosure influences investment intentions, identifying a relatively unique setting in which management’s and the auditor’s influences on financial reporting quality move in opposite directions, and documenting that tenure disclosure requirement does not appear to affect investment intentions.
Keywords: Critical audit matters, auditor tenure, nonprofessional investors, financial reporting quality
JEL Classification: M40, M41, M42
Suggested Citation: Suggested Citation