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Corporate Governance, Audit Quality and the Sarbanes-Oxley Act: Evidence from Internal Audit Outsourcing

Posted: 26 Jul 2005 Last revised: 13 Oct 2015

Lawrence J. Abbott

University of Memphis

Susan Parker

Santa Clara University

Gary F. Peters

University of Arkansas at Fayetteville

Dasaratha V. Rama

Florida International University (FIU)

Multiple version iconThere are 2 versions of this paper

Date Written: August 31, 2005

Abstract

The objective of this study is to extend the current literature related to non-audit services by investigating the area of internal audit outsourcing to the external auditor. We posit that certain types of internal audit outsourcing (i.e. those which are non-routine, and thus tend to be non-recurring in nature) are unlikely to lead to economic bonding, while offering significant potential for improvements in audit coverage and scope when provided by the external auditor. Alternatively, outsourcing routine internal audit tasks is more likely to lead to economic bonding, as well as creating disincentives for internal auditor independence. We obtain data from a survey of 219 Chief Internal Auditors and from relevant proxy statements in the year 2000, prior to the Sarbanes-Oxley Act. Our results are consistent with firms with strong audit committee governance being less likely to outsource routine internal auditing activities to the external auditor. The audit committee's authority to dismiss the chief internal auditor enhances this effect. However, the outsourcing of non-routine internal audit activities such as special projects and EDP consulting are not negatively related to audit committee effectiveness. Additionally, outsourcing of either type of internal audit activity to an outside service provider other than the external auditor is not related to audit committee effectiveness. Collectively, we interpret these findings as supportive of an effective audit committee's ability to monitor the sourcing of the firm's total (i.e. internal and external) audit coverage, while simultaneously exhibiting concern for external auditor independence. Our findings call into question the need for the existing restrictions on some types of internal audit outsourcing to the external auditor, particularly in light of other corporate reporting environment changes enacted by the SOX.

Keywords: Audit committees, internal audit outsourcing, non-audit services

JEL Classification: M41, M49, G34, G38

Suggested Citation

Abbott, Lawrence J. and Parker, Susan and Peters, Gary F. and Rama, Dasaratha V., Corporate Governance, Audit Quality and the Sarbanes-Oxley Act: Evidence from Internal Audit Outsourcing (August 31, 2005). Accounting Review, Vol. 82, No. 4, 2007. Available at SSRN: https://ssrn.com/abstract=759864 or http://dx.doi.org/10.2139/ssrn.759864

Lawrence J. Abbott

University of Memphis ( email )

Department of Accounting
Memphis, TN 38152
United States
901-678-4576 (Phone)
901-678-2685 (Fax)

Susan Parker (Contact Author)

Santa Clara University ( email )

Leavey School of Business 500 El Camino Real
Santa Clara, CA 95053
United States
(408) 554-4899 (Phone)
(408) 554-5193 (Fax)

Gary F. Peters

University of Arkansas at Fayetteville ( email )

Sam M. Walton College of Business
Department of Accounting
Fayetteville, AR 72701

Dasaratha Rama

Florida International University (FIU) ( email )

University Park
11200 SW 8th Street
Miami, FL 33199
United States

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