Do Firms Respond to Auditors’ Red Flags? Evidence from the Expanded Audit Report

45 Pages Posted: 28 Jul 2020

See all articles by Ionela Andreicovici

Ionela Andreicovici

Frankfurt School of Finance & Management

Anne Jeny

IESEG School of Management

Daphne Lui

ESSEC Business School

Date Written: June 24, 2020

Abstract

We investigate the impact of the expanded audit report on firm disclosure, focusing on auditors’ mentions of goodwill impairment as a risk of material misstatement. Using a sample of U.K. Premium listed companies with goodwill on their balance sheets, we identify instances where goodwill impairment is (versus is not) flagged as a risk and contrast firms’ disclosure level on goodwill impairment. We find that managers increase goodwill impairment disclosure when auditors initiate the mention of this risk but do not react to the elimination of the mention. The increase in disclosure is stronger when firms are perceived to be riskier, and firms make more timely goodwill impairment decisions when auditors mention goodwill impairment as a risk. Overall, this paper establishes the role of the expanded audit report as a credible channel for revealing corporate financial reporting risks to financial statement users, as well as a trigger of enhanced corporate disclosure.

Keywords: disclosure, goodwill impairment, expanded audit report

JEL Classification: M41, M42, M48

Suggested Citation

Andreicovici, Ionela and Jeny, Anne and Lui, Daphne, Do Firms Respond to Auditors’ Red Flags? Evidence from the Expanded Audit Report (June 24, 2020). Available at SSRN: https://ssrn.com/abstract=3634479 or http://dx.doi.org/10.2139/ssrn.3634479

Ionela Andreicovici (Contact Author)

Frankfurt School of Finance & Management ( email )

Adickesallee, 32-34
32-34
Frankfurt am Main, 60322
Germany

Anne Jeny

IESEG School of Management ( email )

Socle de la Grande Arche
1 Parvis de la Defense
Puteaux, Paris 92800
France

Daphne Lui

ESSEC Business School ( email )

Av Bernard Hirsch
Cergy-Pontoise 95021
France

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