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Fraud Detection and Financial Reporting and Audit Delay


  • Yim, Andrew


I formulate a model to emphasize the fraud detection role of auditors in the financial market, providing a theoretical framework to examine the likelihood of and market reaction to a financial reporting and audit delay. The model has an auditor considering whether to perform extended audit procedures after observing a red flag generated from regular audit procedures. An audit delay is represented by the event of extending audit procedures and manifested as a financial reporting delay observed by the market. I find that the equilibrium likelihood of a delay decreases when the reliability of regular and extended audit procedures improves and/or when the ex ante probability of fraud reduces. My result on the market reaction to a delay suggests that while a negative average reaction is intuitive and has been documented, the reaction can be positive for an individual firm. I derive a closed-form condition indicating when a positive reaction is possible. Specifically, a delay can be good news to the market when the ex ante probability of fraud, the imprecision of a red flag, and the effectiveness of extended audit procedures for detecting fraud are all high. The result is new in the literature. I also discuss the model's empirical implications with suggestions for regression equation specifications.

Suggested Citation

  • Yim, Andrew, 2010. "Fraud Detection and Financial Reporting and Audit Delay," MPRA Paper 27857, University Library of Munich, Germany.
  • Handle: RePEc:pra:mprapa:27857

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    References listed on IDEAS

    1. Shleifer, Andrei & Wolfenzon, Daniel, 2002. "Investor protection and equity markets," Journal of Financial Economics, Elsevier, vol. 66(1), pages 3-27, October.
    2. Navin Kartik, 2009. "Strategic Communication with Lying Costs," Review of Economic Studies, Oxford University Press, vol. 76(4), pages 1359-1395.
    3. Wilcox, Nathaniel T., 2011. "'Stochastically more risk averse:' A contextual theory of stochastic discrete choice under risk," Journal of Econometrics, Elsevier, vol. 162(1), pages 89-104, May.
    4. Graham Loomes, 2005. "Modelling the Stochastic Component of Behaviour in Experiments: Some Issues for the Interpretation of Data," Experimental Economics, Springer;Economic Science Association, vol. 8(4), pages 301-323, December.
    5. McLelland, Andrew J. & Giroux, Gary, 2000. "An empirical analysis of auditor report timing by large municipalities," Journal of Accounting and Public Policy, Elsevier, vol. 19(3), pages 263-281.
    6. Johnson, Laurence E. & Davies, Stephen P. & Freeman, Robert J., 2002. "The effect of seasonal variations in auditor workload on local government audit fees and audit delay," Journal of Accounting and Public Policy, Elsevier, vol. 21(4-5), pages 395-422.
    7. Sengupta, Partha, 2004. "Disclosure timing: Determinants of quarterly earnings release dates," Journal of Accounting and Public Policy, Elsevier, vol. 23(6), pages 457-482.
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    More about this item


    Audit delay; financial reporting lag; extended audit procedures; red flag; fraud detection; SAS 82; SAS 99; business ethics;

    JEL classification:

    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • M42 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Auditing
    • K42 - Law and Economics - - Legal Procedure, the Legal System, and Illegal Behavior - - - Illegal Behavior and the Enforcement of Law
    • M21 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Business Economics - - - Business Economics


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