Does Internal Audit Function Quality Deter Management Misconduct?

Posted: 21 Feb 2014 Last revised: 22 Jul 2014

See all articles by Matthew Ege

Matthew Ege

Texas A&M University - Department of Accounting

Date Written: May 28, 2014

Abstract

Standard-setters believe high-quality internal audit functions (IAFs) serve as a key resource to audit committees for monitoring senior management. However, regulators do not enforce IAF quality or require disclosures relating to IAF quality, which is in stark contrast to regulatory requirements placed on boards, audit committees, and external auditors. Using proprietary data, I find that a composite measure of IAF quality is negatively associated with the likelihood of management misconduct even after controlling for board, audit committee, and external auditor quality. This result is robust to a variety of other specifications including controlling for internal control quality and separate estimation during the pre- and post-SOX time periods. A difference-in-differences analysis indicates that misconduct firms have low IAF quality and competence during misconduct years and improve IAF quality and competence in the post-misconduct years. These findings suggest that regulators, audit committees, and other stakeholders should consider ways to improve IAF quality.

Keywords: Internal audit function; internal audit quality; management misconduct; corporate governance

JEL Classification: M41

Suggested Citation

Ege, Matthew, Does Internal Audit Function Quality Deter Management Misconduct? (May 28, 2014). Accounting Review, Forthcoming, Available at SSRN: https://ssrn.com/abstract=2398552 or http://dx.doi.org/10.2139/ssrn.2398552

Matthew Ege (Contact Author)

Texas A&M University - Department of Accounting ( email )

430 Wehner
College Station, TX 77843-4353
United States

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