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The Costs of Waiving Audit Adjustments

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  • PREETI CHOUDHARY
  • KENNETH MERKLEY
  • KATHERINE SCHIPPER

Abstract

We analyze the disposition of auditor‐proposed adjustments to financial statements. Our analyses address concerns, expressed by regulators and others, that auditors and their clients fixate on quantitative thresholds and overlook qualitative factors in assessing the materiality of discovered misstatements. Using a large sample of Public Company Accounting Oversight Board (PCAOB)‐inspected audits, we examine the frequency with which management records versus waives auditor‐proposed adjustments and whether waiving‐proposed adjustments ha consequences for reporting reliability and the audit process. We find waived adjustments are linked to lower financial reporting quality measured by material misstatements, to incentives to meet/beat earnings targets, and to the audit process, as measured by higher next‐period audit effort and fees and higher next‐period proposed adjustments. These effects on the audit process are consistent with auditors responding to the increased risk associated with waived adjustments. In an exploratory analysis, we find that controlling for the amount of proposed adjustments, auditor resignations are negatively associated with waived adjustments.

Suggested Citation

  • Preeti Choudhary & Kenneth Merkley & Katherine Schipper, 2022. "The Costs of Waiving Audit Adjustments," Journal of Accounting Research, Wiley Blackwell, vol. 60(5), pages 1813-1857, December.
    • Handle: RePEc:bla:joares:v:60:y:2022:i:5:p:1813-1857
    DOI: 10.1111/1475-679X.12453
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    1. Lennox, Clive & Wang, Chunfei & Wu, Xi, 2023. "Delegated leadership at public accounting firms," Journal of Accounting and Economics, Elsevier, vol. 76(1).
    2. Mahdi Salehi & Mohammed Ibrahim Jebur & Saleh Orfizadeh & Ali Mohammed Abbas Aljahnabi, 2022. "The Relationship between Audit Adjustments and Audit Quality in Iraq," JRFM, MDPI, vol. 15(8), pages 1-17, July.

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