Audit fees and pricing strategy: Do restatements of internal control reports and earnings matter

Risk Governance and Control: Financial Markets & Institutions

11 Pages Posted: 16 Mar 2022

See all articles by Alexandros Garefalakis

Alexandros Garefalakis

Hellenic Mediterranean University; Hellenic Open University

Christos Lemonakis

Hellenic Mediterranean University; Hellenic Mediterranean University

Panagiotis Ballas

Technological Educational Institute of Crete

Vassiliki Balla

affiliation not provided to SSRN

Date Written: July 19, 2018

Abstract

Under Sarbanes-Oxley (SOX) Act Section 302, management should, from one hand, certify and disclose in reports the effectiveness of internal controls applied to processes and procedures followed by a listed entity and, on the other, highlight potential deficiencies and provide information on potential frauds or sources of risk that could negatively impact on the effectiveness of the internal controls in place. Building on the above, SOX Act Section 404 requires that
management should report information in its annual reports regarding the adequacy and effectiveness of the system of internal controls, which affects the procedures of financial reporting. These internal control reports, as part of the internal audit system within an organization, they undergo a review initially by the internal audit department and then by external auditors. The external auditors’ comments may dictate certain changes to be made, which could inevitably lead to refinements, which are then depicted to the adjusted internal control reports. The need for restatements of internal control reports is definitely associated with additional work
from the side of the external auditor and may initiate more extensive audit work. Hence, the aim of the particular study is to investigate to what extent the audit fees paid to external auditors
(i.e. the audit firm) are affected by such restatements to the internal control reports and whether the entity’s earnings and book value of equity have a mediating role to the above relationship. The innovativeness of the current research lies at the fact that it is the first time that a research focuses on “Restatements of Internal Control Reports” (RICR) and “Firm’s Earnings” (FE) as significant determinants of “Audit Fees” (AF) paid to external auditors, providing materially useful evidence about the behavioral profile of audit firms concerning their pricing strategy. Employing a dataset
that captures the period before and during the global financial crisis of 2007-2008, we use RICR as control variable to assess not only the effectiveness of internal controls, but also the performance
of the selected financial institutions and to what extent do the above influence the pricing strategy adopted by audit firms. In methodological terms, we apply Multiple Regression Analysis to a data set that consists of 2.878 observations, which stem from 300 US financial institutions and are recorded for a period of seven years that range from 2004 to 2010. The selection of the specific
period facilitates comparisons between the period before and during global financial crisis. These findings are then contrasted with the results that cover the whole 2004-2010 period

Keywords: Audit Fees, Restatements of Internal Control Report, Earnings, Book Value, Banking Sector, Financial Institutions, Pricing Strategy

Suggested Citation

Garefalakis, Alexandros and Lemonakis, Christos and Lemonakis, Christos and Ballas, Panagiotis and Balla, Vassiliki, Audit fees and pricing strategy: Do restatements of internal control reports and earnings matter (July 19, 2018). Risk Governance and Control: Financial Markets & Institutions, Available at SSRN: https://ssrn.com/abstract=4005181

Alexandros Garefalakis (Contact Author)

Hellenic Mediterranean University ( email )

Estavromenos, P.O. Box 1939
Heraklion, Crete GR71004
Greece
2810379646 (Phone)

Hellenic Open University ( email )

Parodos Aristotelous 18
Patra, 26335
Greece

Christos Lemonakis

Hellenic Mediterranean University ( email )

Lakonia
Agios Nikolaos, Crete 72100
Greece
+30 28410 91202 (Phone)

HOME PAGE: http://https://www.hmu.gr/

Hellenic Mediterranean University ( email )

Lakonia, Ag. Nikolaos, Crete, Greece
Agios Nikolaos, Crete 72100
Greece
72100 (Fax)

Panagiotis Ballas

Technological Educational Institute of Crete ( email )

Greece

Vassiliki Balla

affiliation not provided to SSRN

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