Investor Sentiment, Misstatements, and Auditor Behavior

63 Pages Posted: 11 Jan 2020

See all articles by Keval Amin

Keval Amin

Stony Brook University

John Daniel Eshleman

Rutgers - Camden

Peng Guo

Rutgers Business School - Camden

Multiple version iconThere are 2 versions of this paper

Date Written: November 20, 2016

Abstract

Although higher investor sentiment has been linked with opportunistic managerial behavior in the face of more optimistic investors and analysts, its impact on external auditors’ risk assessment has yet to be examined. As such, we examine how firms’ external auditors react to investor sentiment. We document that although the likelihood of misstatements is higher when sentiment is high, suggesting elevated audit risk, auditors charge lower audit fees and report going concern opinions (GCO) less conservatively during such periods. This reduction in reporting conservatism is unwarranted; results reveal that auditors are less likely to issue GCOs to clients which subsequently file for bankruptcy (Type II error) during high sentiment periods. We conjecture and find that auditors’ response to high sentiment is best explained by a reduction in auditors’ litigation risk. Specifically, we document that auditors are less likely to be sued and the market reacts less negatively to misstatement announcements when sentiment is high. Collectively, our findings suggest that, although misstatement risk is increasing with sentiment, auditors’ legal risk actually declines, prompting a conflict between auditors’ professional and commercial incentives.

Keywords: Audit fees, Misstatements, Investor sentiment, Going concern opinions

JEL Classification: M41, M42.

Suggested Citation

Amin, Keval and Eshleman, John Daniel and Guo, Peng, Investor Sentiment, Misstatements, and Auditor Behavior (November 20, 2016). Available at SSRN: https://ssrn.com/abstract=3507628 or http://dx.doi.org/10.2139/ssrn.3507628

Keval Amin

Stony Brook University ( email )

John S. Toll Drive
Stony Brook, NY 11794
United States

John Daniel Eshleman (Contact Author)

Rutgers - Camden ( email )

Camden, NJ 08102
United States

Peng Guo

Rutgers Business School - Camden ( email )

227 Penn Street
Camden, NJ 08102
United States

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