Review Journal "A Continuous Relation between Audit Firm Size and Audit Opinions: Evidence from China"

Title	A Continuous Relation between Audit Firm Size and Audit Opinions: Evidence from China
Autor	Chuntao Li, Frank M. Song and Sonia M. L. Wong
Year	2008

Introduction

The issues and concerns relating to audit as well as the role of external auditors as endorsers of company systems, procedures, controls and records has been called into question. The auditors’ report plays a significant role in corporate governance mechanism as it minimizes information asymmetry risk by attesting to the reliability of a company’s published financial information, thereby safeguarding the interests of investors and other stakeholders.

Literature Review

1. Auditors’ Opinion Decision

A wealth of auditing and accounting literature tries to explain that both financial and nonfinancial factors affect the audit opinion decision. Prior studies have also found that auditor’s going-concern assessments are related to company’s financial condition, company size, dividend payout, default status, audit firm choice, and audit fees.

2. Audit Quality

Some authors take the perspective that an auditor should evaluate the corporate governance structure of its clients and incorporate such evaluation in their audit planning and in the associated risk.

Proposition

Extensive review of the extant literature has resulted in the formulation of two propositions.

P1. Corporate financial and non-financial information can be used to predict audit opinion.

P2. Audit quality can be enhanced through effective oversight function of the audit committee.

Research Design

1. Sample Selection and Data

Sources From the 100 companies comprising the BSE 100 Index as of March 31, 2010 a sample was selected comprising 59 companies.

2. Variable Selection and Description

The analysis resulted in extraction of seven variables – four financial metrics, one audit committee attribute and two audit engagement measures – which provide meaningful and non-overlapping information.

3. Framework of Analysis

Identify companies complying with the corporate governance norms as stipulated under Clause 49 of the Listing Agreement, the Certificate of Corporate Governance Compliance as issued by the statutory auditors of the company were also scanned for the financial year 2009-10.

Descriptive Statistics

presents three panels of descriptive information for the sample companies. Panel A provides means, medians, standard deviations, and maximum and minimum values for the key variables. The average company had liquidity of 2.84 times.

Factors influencing Auditors’ Opinion

Table III reports the results for the logistic regression model. According to the results, the overall percent of correct classification is 80 percent. Therelationship between the outcome and the predictor variables is significant (χ2 = 14.535, df = 7, p < 0.05). The RL 2 = 29.1 percent (pseudo R2), indicates a medium strong relationship between outcome and the predictor variables. The results indicate that only two variables with significant coefficients were included in the model.

Empirical Results and Discussion

The objective was to develop a model(s) using the metrics identified as predictor variables. As discussed earlier, two models were developed, one for logistic regression and one for linear regression. Table III reports the results for the logistic regression model. According to the results, the overall percent of correct classification is 80 percent.

Conclusions and Implications

Results of the present study should be interpreted with caution due to certain limitations. First, the sample constitutes the shares of top hundred companies being traded on the BSE with an acceptable track record. Second, the data has been collected from databases like Prowess. The validity of the results drawn primarily depends on the nature of the database. Further, the information relating to audit committee characteristics were as mentioned in the corporate governance reports which are a part of the annual reports. Finally, a longitudinal research design would have allowed for a more rigorous analysis. Notwithstanding these limitations, the study is timely and relevant given the renewed interest in the relationship between auditors and audit committees. The present study contributes to accounting and governance research by examining variables that can best differentiate cases of audit opinion. The proposed methodological framework could be of assistance to practitioners for assessing the likelihood of qualified audit reports for businesses in India.