Importance of Auditing

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Does Auditing Matter?

Janice Rhodora P. Carpentero
La Salle University

and

Eljoy Delos Santos
La Salle University

May 22, 2013
Does Auditing Matter?

SUMMARY: The scrutiny auditing has received post-Enron provides compelling evidence that auditing does matter, to answer the rhetorical question posed by the paper’s title. What is unclear, however, is whether auditing was sufficiently “broken” in the first place to warrant the radical reforms and changes effected by the Sarbanes-Oxley Act (SOX). Despite a relatively small number of high profile corporate failures and accounting scandals such as Enron and WorldCom, the number of demonstrated audit failures as evidenced by successful litigation or SEC sanctions approaches an annual failure rate of close to zero. In addition, our interpretation of the academic research suggests that many of the “solutions” embodied in SOX are not only unlikely to solve the profession’s alleged “problems,” they may well have serious unintended negative consequences. So the disconnect is large between the scientific evidence on audit quality and institutional changes premised on the assumption that auditing is broken. This paper attempts to stimulate research into some of the important questions implicitly raised by SOX regarding the audit profession’s potential failings. An outline of our primary observations and suggestions are presented in the paper’s Introduction.

Does Auditing Matter?

INTRODUCTION
While the beginning of the 21st century has been marked by accounting scandals, a major stock market crash, and the most sweeping securities market reforms since the 1930’s, one unexpected consequence of these events is an increased awareness that auditing “matters.” In particular, regulators, market participants, and the public all seem to have a greater appreciation for the critical role auditing plays in the successful functioning of the U.S. financial markets. Along with this greater appreciation, however, is also widespread criticism that many aspects of auditing are “broken” and in need of fundamental reform. This combination of a greater appreciation for auditing and a call for auditing reforms provides an opportunity for auditing researchers to help shape the future of auditing. The purpose of this paper is to identify some of the key areas in which auditing reforms have been made, discuss some of the research issues that have been identified in these areas, and provide suggestions for researchers in addressing the critical research questions in these areas. The outline below summarizes our primary observations along with some suggestions for future research in each of the areas we discuss. 1. While historically the auditing profession is often intensely criticized following boom-bust economic cycles, the criticism embodied in SOX is unusually intense, and appears to be partially motivated by political expediency and often based on anecdotes. Thus, we strongly encourage researchers to use their training in the scientific method to bring rigor and discipline to address the criticism implicit in SOX. We caution, however, that auditing researchers must take great care to maintain their “independence” from the auditing profession. If we become apologists for the auditing profession we not only lose our credibility, we also do great harm to those who put their trust in us (including our students and the profession itself). 2. SOX makes dramatic changes to some of the fundamental institutions that define auditing in the U.S. In particular, SOX transforms auditing from a self-regulated industry that is overseen by a government agency (the SEC), to an industry that is now directly controlled by a quasi-governmental agency (the PCAOB). We encourage researchers to investigate issues related to this fundamental change in institutional arrangements and provide the following suggestions: a. Looking back, is there any direct...
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