Financial statement users’ understanding of the messages in the audit report
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The value relevance of auditors’ communications Financial statement users’ understanding of the messages in the audit report ERASMUS UNIVERSITEIT ROTTERDAM Erasmus School of Economics MSc in Accounting, Auditing and Control Author : F. Kaars Sijpesteijn (336762) Thesis supervisor : E.A. de Knecht RA Co-reader : Dr.Sc.Ind. A.H. van der Boom April 11, 2011 Preface In the public debate on the causes, the accountability, and the solutions concerning the global financial crisis, the role of the auditor has been widely discussed and criticized: ‘Where were the auditors?’ The global financial crisis was not prompted by an audit failure, however the auditor was at the center of the financial meltdown, and failed to fulfill its social responsibility to provide a clear and adequate clarification on the financial statements of financial corporations, especially on the uncertainties concerning the valuation of financial assets. The value of the audit report, and the demand for audit services depend on public confidence in the independence and integrity of auditors. This master’s research was aimed at understanding the effectiveness of auditors’ communications, that is, the ‘value relevance’ of the audit report. This research assessed the effectiveness of the audit report in communicating on the audit process, the auditor’s responsibilities, and the nature of assurances provided. This master’s thesis is the result of a research project, which has been performed as a part of the Master’s degree program ‘Economics and Business’, master specialization ‘Accounting, Auditing and Control’ of the Erasmus School of Economics. The main personal goal in writing this thesis was to learn to accomplish such a long-term process, with all difficulties: to hit upon an idea, and translate it into a research proposal, the development of a theoretical framework, conducting an empirical research, analyzing the research results, and formulating an answer to the main research question. Through this preface, I would like to thank all people who contributed in completing this research, especially Mr. De Knecht for coaching during this process and commenting upon the research progression, the questionnaire respondents for participating in this research, and my family for their unceasing support. Floor Table of Contents List of abbreviations 5 1. Introduction 7 1.1 Background 7 1.2 Objectives 8 1.3 Problem definition 9 1.4 Methodology 9 1.5 Structure 10 2. Theoretical framework for auditing 12 2.1 Theories of auditing 12 2.1.1 Limperg’s Theory of Inspired Confidence 12 2.1.2 The information theory 13 2.1.3 The insurance theory 13 2.1.4 The agency theory 14 2.1.5 The assurance theory 16 2.2 Other theories 18 2.2.1 Positive Accounting Theory (PAT) 18 2.2.2 Legitimacy theory 19 2.2.3 Stewardship theory 19 2.3 Summary 21 3. The contents of auditing and the audit report 22 3.1 Auditing and assurance services 22 3.1.1 Introduction to auditing and assurance services 22 3.1.2 Audit services 23 3.1.3 The audit process 24 3.2 Introduction to the audit report 24 3.3 Development standard audit report 25 3.4 Form and contents standard audit report 27 3.5 Shortcomings standard audit report 30 3.5.1 Early criticisms short form audit report 30 3.5.2 Principal shortcomings standard audit report 31 3.6 Summary 33 4. Prior research on development audit report (1968 – 2009) 35 4.1 Value relevance standard audit report 35 4.2 Present-day’s recommendations on the audit report 41 4.3 European Commission Green Paper on Audit Policy 43 4.4 The ‘De Wit’ committee report (“Credit Lost”) 47 4.5 Summary 47 5. Outline of the empirical research 48 5.1 Characteristics of the research 48 5.2 Units of analyses 50 5.3 Sampling and data collection 51 5.4 Questionnaire design and data analysis 52 5.5 Summary 53 6. Research results and analyses 54 6.1 The results of the questionnaire 54 6.1.1 The research respondents 54 6.1.2 Audit report - general 56 6.1.3 The nature and scope of the auditor’s work 58 6.1.4 The audit opinion 59 6.1.5 The auditor and auditors’ responsibilities 60 6.1.6 Clarified ISA’s 62 6.1.7 Changes or additions to the audit report 63 6.2 Analyzing the research results 64 6.2.1 Audit report - general 64 6.2.2 The nature and scope of the auditor’s work 64 6.2.3 The audit opinion 65 6.2.4 The auditor and auditors’ responsibilities 66 6.2.5 Changes or additions to the audit report 67 6.3 Summary 68 7. Conclusions 69 7.1 Recapitulation 69 7.2 Comparison with prior studies 70 7.2.1 European Commission Green Paper on Audit Policy 71 7.2.2 Comparison with the research results 72 7.3 Limitations 75 7.4 Recommendations 75 76 1 References 77 Appendix 1: illustrations on audit reports 81 Illustration 1: comparison of old form and new form (SAS No. 58) audit report 81 Illustration 3: ISA (UK and Ireland) 700 (revised) 84 Illustration 4: controleverklaring bij een jaarrekening (Standaard 700) 86 Appendix 2: questionnaire on ISA 700 unqualified audit reports 88 Appendix 3: results of the questionnaire 99 Appendix 4: representation of empirical research literature 101
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