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The Role of Auditing in Investor Protection

45 Pages Posted: 10 Aug 2003  

Paul Newman

University of Texas at Austin - Department of Accounting

Evelyn Patterson

Indiana University-Kelley School of Business

Reed Smith

Indiana University - Kelley School of Business - Department of Accounting

Date Written: July 2003

Abstract

Protection of outside investors depends on the detection and punishment of resource diversion by managers and controlling shareholders. We focus on the role played in investor protection by self-interested auditors operating in a competitive audit market. In our setting, auditors represent the mechanism whereby detection of diversion occurs. We show that markets with relatively greater auditor penalties for audit failures and greater insider penalties for detected resource diversion have larger total investment levels, a higher proportion of the firm held by outsiders, higher audit effort, higher audit fees, and higher expected payoffs for both auditors and insiders.

Keywords: investor protection, strategic auditing, insider diversion, insider

JEL Classification: C72, G32, G34, M49

Suggested Citation

Newman, Paul and Patterson, Evelyn and Smith, Reed, The Role of Auditing in Investor Protection (July 2003). Available at SSRN: https://ssrn.com/abstract=421660 or http://dx.doi.org/10.2139/ssrn.421660

Donald Paul Newman (Contact Author)

University of Texas at Austin - Department of Accounting ( email )

Austin, TX 78712
United States

Evelyn Patterson

Indiana University-Kelley School of Business ( email )

801 West Michigan
Indianapolis, IN 46202
United States
317-278-7843 (Phone)

HOME PAGE: http://kelley.iupui.edu/faculty/FacultyProfile.cfm?netid=evpatter

J. Reed Smith

Indiana University - Kelley School of Business - Department of Accounting ( email )

1309 E. 10th Street
Bloomington, IN 47405
United States
317-274-0867 (Phone)
317-274-3312 (Fax)

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