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Auditor client specific knowledge and internal control weakness: Some evidence on the role of auditor tenure and geographic distance

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  • Chen, Yangyang
  • Gul, Ferdinand A.
  • Truong, Cameron
  • Veeraraghavan, Madhu

Abstract

In this paper we draw on the audit quality and cluster theory literature to examine whether auditor tenure and auditor's geographic proximity to the client (proxies for auditor client specific knowledge) are associated with the incidence of Section 404 internal control weakness (ICW) under the Sarbanes–Oxley Act (2002). Using a large sample of 24,217 firm-year observations for the period 2004–2012, we show that firms with long auditor tenure and in closer geographic proximity to auditors have lower incidence of ICW. Furthermore, we find that the positive association between auditor–client geographic distance and ICW is weaker for firms with longer auditor tenure. Our results suggest that auditor rotation policies could deprive the auditor of client specific knowledge, especially for auditors located further away from their clients. Our results are robust to propensity score matching method and endogenous effects.

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  • Chen, Yangyang & Gul, Ferdinand A. & Truong, Cameron & Veeraraghavan, Madhu, 2016. "Auditor client specific knowledge and internal control weakness: Some evidence on the role of auditor tenure and geographic distance," Journal of Contemporary Accounting and Economics, Elsevier, vol. 12(2), pages 121-140.
    • Handle: RePEc:eee:jocaae:v:12:y:2016:i:2:p:121-140
    DOI: 10.1016/j.jcae.2016.03.001
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    3. Dang, Man & Puwanenthiren, Premkanth & Truong, Cameron & Henry, Darren & Vo, Xuan Vinh, 2022. "Audit quality and seasoned equity offerings methods," International Review of Financial Analysis, Elsevier, vol. 83(C).
    4. Liu, Wu-Po & Huang, Hua-Wei, 2020. "Auditor realignment, voluntary SOX 404 adoption, and internal control material weakness remediation: Further evidence from U.S.-listed foreign firms," International Business Review, Elsevier, vol. 29(5).
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