Internal Controls Quality and Audit Pricing Under the Sarbanes-Oxley Act

Posted: 25 Jul 2007

See all articles by Rani Hoitash

Rani Hoitash

Bentley University - Department of Accountancy

Udi Hoitash

Northeastern University - Accounting Group

Jean C. Bedard

Bentley University - Department of Accountancy

Abstract

This paper extends prior research on audit risk adjustment by examining the association of audit pricing with problems in internal control over financial reporting, disclosed under Sections 404 and 302 of the Sarbanes-Oxley Act. While studies of auditors' responses to internal control risk provide mixed evidence, it is important to re-examine this issue using data on specific client problems not available prior to SOX. As a baseline, we first establish a strong association of audit fees with internal control problems disclosed in the first year of implementation of Section 404, consistent with prior research (e.g., Raghunandan and Rama 2006). We then address two issues on which prior results are contradictory. In a broadly-based sample of accelerated filers, we find that audit pricing for companies with internal control problems varies by problem severity, when severity is measured either as material weaknesses vs. significant deficiencies, or by nature of the problem. Also, while audit fees increase during the 404 period, our tests show less relative risk adjustment under Section 404 than under Section 302 in the prior year. Further examining intertemporal effects, we find that companies disclosing internal control problems under Section 302 continue to pay higher fees the following year, even if no problems are disclosed under Section 404. Overall, our findings provide detailed insight into audit risk adjustment during the initial period of SOX implementation.

Keywords: Internal control, Audit effort, Audit planning, Audit pricing

JEL Classification: M41, M49, G34, G38

Suggested Citation

Hoitash, Rani and Hoitash, Udi and Bedard, Jean C., Internal Controls Quality and Audit Pricing Under the Sarbanes-Oxley Act. Auditing: A Journal of Practice & Theory, Forthcoming, Available at SSRN: https://ssrn.com/abstract=1002629

Rani Hoitash (Contact Author)

Bentley University - Department of Accountancy ( email )

175 Forest Street
Waltham, MA 02452-4705
United States

HOME PAGE: http://www.xbrlresearch.com

Udi Hoitash

Northeastern University - Accounting Group ( email )

360 Huntington Ave.
Boston, MA 02115
United States
671-373-5839 (Phone)

Jean C. Bedard

Bentley University - Department of Accountancy ( email )

175 Forest Street
Waltham, MA 02452
United States
781-891-2410 (Phone)
781-891-2896 (Fax)

Do you have negative results from your research you’d like to share?

Paper statistics

Abstract Views
1,634
PlumX Metrics