A Review On Audit Fees Accounting Essay

Chapter 2

Soltani ( 2007 ) defined Audit fees as the costs associated with an hearer executing an audit to organize an sentiment on whether a client ‘s overall fiscal statements are prepared, in all stuff respects, in conformity with by and large accepted accounting rules ( GAAP ) . Simunic ( 1980 ) defined audit fees as a merchandise of unit monetary value and measure of audit services provided by audit houses on demand by the direction of audited company.

Chow ( 1982 ) observed that the demand for audit services arises in a house either due to undertaking or institutional demands. Earlier literature finds the directors desire to cut down bureau cost as a chief determiner of audit fees. DeAngelo ( 1981 ) and Watts & A ; Zimmerman ( 1983 ) considered the proviso of audited fiscal statements under undertaking between management-shareholder as a cost effectual contractual response to bureau cost. However, the ulterior literature suggests a figure of variables that cover corporate demands, good corporate administration and judicial proceeding costs. The audit houses determine the audit fees of a house based on different factors like the company size, complexness of the concern and factors that contribute to different facets of audit hazard etc.

Corporate administration and audit fees

The information spread created as a consequence of the separation of corporate ownership from direction necessitated the demand for signifiers of control and supervising both internally and externally. Monitoring & A ; control is done internally through the board of managers and externally through the study of the external hearers every bit good as through the market for control. Soltani ( 2007 ) states that corporate administration is related to the monitoring map of the board of managers and the audit commission. Corporate administration ensures dependable fiscal coverage of a house by direction. Assorted corporate administration steps related to scrutinizing minimise the opportunities of revelation of fiscal restatements to protect the company against negative effects.

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Quality of corporate administration construction has an consequence on the audit fees of a house through control hazard appraisal by its hearer. The strong corporate administration construction signaled decreased built-in hazard of the house therefore the sum paid to the external hearer will be lowers. Griffin et Al. ( 2008 ) province that corporate administration can hold both audit fees increasing and diminishing effects. On one side, Better administration steps increase the audit cost of the house. On the other side, they besides enhance the quality of fiscal coverage and internal control which consequences in decreased audit fees and audit hazard.

Corporate administration quality influences the audit fees in assorted ways. Cohen & A ; Hanno ( 2000 ) examine the influence of corporate administration quality on client- credence procedure. Their findings province that hearers more likely accept a client that has high corporate administration quality. In the presence of high corporate administration quality, Bell et al. , ( 2001 ) find decrease in substantial testing at audit planning phase. This decrease leads to distill audit hours and decreased audit fee.

Corporate Governance and scrutinizing in Pakistan

Determinants of Audit Fees

There are assorted determiners of audit fees in a house. Earlier surveies suggest that the size of the house, complexness of the audit and the hazard associated with the audit are chief determiner of the audit fee in a house. Most of the earlier surveies identified size, complexness of operations, industry and operational hazards as important factors that affect the audit fees of a house. Audit houses normally charge more audit fees from houses which have big size, audit is complex and audit hazard is higher. The undermentioned treatment is based on these variables.

Audited account Committees

Audited account Committees are sub commissions of the board. Abbott et Al. ( 2003 ) mentioned in their survey that Securities and Exchange Commission ( SEC ) , the Public Oversight Board ( POB 1993 ) and the National Association of Corporate Directors ( NACD 2000 ) emphasized the function of audit commission. Harmonizing to them, audit commission provides active supervising of the fiscal coverage procedure and besides monitors the relationship between a house ‘s direction and its external hearer. Hence, the audit commission plays an of import function in the finding of audit fees.

In the presence of audit commissions, direction can non act upon the hearer to O.K. questionable accounting patterns. In the instance of gaining use, audit commission can back up hearer and inquiry direction. Audit committees normally take three types of action for the confidence of higher degree of audit quality. First, commission members can convert direction for the choice of an hearer with greater repute and more cognition. Secondly Simunic & A ; Stein ( 1996 ) province that the audit commission can besides demand bigger audit attempt from the bing hearers of the house. Third, audit commission through indirect agencies influence the degree of audit coverage by palliating menaces to replace the hearer ( Knapp, 1985 ) .

The debut of corporate administration codifications has required the hearers to look into assorted factors like audit commission independency, audit commission expertness, audit commission size etc. for rating of their audit hazard and audit fees. Audit commission members convince direction for the assignment of hearers with appropriate cognition and higher repute. They can besides demand greater audit attempt from the external hearers. Goodwin-Stewart and Kent ( 2006 ) in their survey on Australian houses with higher audit fees observe that these houses are largely expected to hold an audit commission and stronger internal control steps. On the other manus, Bedard et Al. ( 2004 ) suggest that strong audit commission may consequences in decreased hearer ‘s work load that leads to cut down audit fees of the house.

Features of Audit Committees

Krishnan and Visvanathan ( 2006 ) examine that hearer ‘s monetary value the efficaciousness of the audit commission by associating it to the control hazard and therefore, on the whole audit hazard. They observe a negative association between audit pricing and fiscal expertness of audit commission members. Furthermore, they besides observe that there is no important relation between audit fees and fiscal expertness for houses with weak administration agreements. The deficiency of important relationship between non-financial expertness and audit fees advocate the position that hearers perceive that merely fiscal expertness significantly contributes to the audit commission ‘s effectivity.

Abbott et Al. ( 2003 ) happen a positive relationship of audit commission independency and fiscal expertness with audit fees, but non between audit commission diligence and audit fees. The findings of Abbott et Al. are up to certain extent supported by the findings of Carcello et Al. ( 2002 ) . The difference is due to alterations in regulative environment and the late 1990s fluctuations in audit commission features. Vafeas and Waegelein ( 2007 ) suggest that audit commission features such as size, member expertness and member independency are positively related with audit fees. They argue that audit commissions bring into line the external auditing in supervising direction.

Rainsbury et Al. ( 2009 ) in their survey on New Zealand houses for the twelvemonth 2001 in the pre-SOX period examined no important association between the features of effectual audit commission and audit fees.

Executive Compensation

Executive compensation in the house normally refers to the general signifier of base wage and inducements of CEO or top executives. Executive directors are the persons who manage the personal businesss of the house. Shareholder and bondholders pay an attractive salary bundle to these executives for guaranting the protection of their investing and returns on their investings. Since the ownership is separate from direction, these directors may hold conflicting involvement with stockholders. Agency theory provides a model for cut downing the struggle of involvement among the directors and stockholders. Jensen and Meckling ( 1976 ) provide illustrations of monitoring/bonding contracts that mitigate the manager-shareholder struggles. Kannan ( 2009 ) province the ground of board of manager ‘s involvement in the association between audit fees and CEO compensation contracts. He proposed that consequences of this association may act upon the compensation commissions ‘ program of future compensation understandings.

Executives Incentive Based Compensation and audit fees

Executives incentive based compensation can be of short term or long term. The payments of these inducements are either made in the signifier of hard currency or in sort of stock options. Vafeas & A ; Waegelein ( 2007 ) province that well-structured compensation contracts non merely supply directors with an inducement to put to death their monitoring map good but besides act as a surrogate for monitoring services provided by external hearers. Incentives in CEO compensation are fundamentally planned for minimising the bureau conflicts between directors and stockholders. These compensation programs will consequences in bureau cost decreases and stockholder wealth maximization.

Conversely, Executive inducement plans enhance the hazard of net incomes use by direction. Healy ( 1985 ) and Holthausen ( 1995 ) papers that bonuses influence managerial accounting and coverage procedures by promoting directors to pull strings net incomes in order to gain their fillips. Furthermore, these incentive wage are dearly-won to the house as the cost of fiscal statement restatement or fraud claim besides increases. These inducement based strategies raise the possible audit hazard. For the rating of this hazard, hearers appoint skilled forces that lead to increase in audit fees for houses.

Vafeas and Waegelein ( 2007 ) in their survey on the association between audit commissions, compensation inducements, and corporate audit fees province that board of managers prefer external hearers of higher quality that charge high fees. This is done to command direction from unneeded gaining use to increase their compensation. Wysocki ( 2010 ) happen a positive and important association between CEO entire compensation and audit fees.