ASSESSMENT OF AUDIT TENURE ON QUALITY OF FINANCIAL REPORTING IN NIGERIA

CHAPTER ONE

INTRODUCTION

1. 1. Background to the Study

In the past few years, auditors had been blamed due to their role in the mega corporate scandals such as Enron, WorldCom, Global crossing, Imclone system and Tyco international and in Nigeria such as Cadbury (Nig) Plc, African Petroleum (Nig) Plc. The criticism had raised lot of questions regarding auditors’ independence, such criticism leveled against auditors because they have be auditing their clients for a long time and subsequently concentrated more on non-audit services rather than audit.

The familiarity that exists between the auditors and their clients as a result of long audit tenure encourages failure in auditor independence. Though, there has been a call for sweeping changes in the auditing profession to ensure independence and therefore improved their audit quality (“Auditing profession,” 2002).

The term audit is derived from the Latin word ‘audire’ which means to hear. In early days an auditor used to listen to the accounts read over by an accountant in order to check them. It was in use in all ancient countries such as Mesopotamia, Greece, Egypt, Rome, U.K and auditing.

Auditing evolved and grew rapidly after the industrial revolution in the 18th century with the growth of the joint stock companies the ownership management became separate. The shareholders who were the owners needed a report form an independent expert on the accounts of the company managed by the board of director’s who were the employees. The purpose for this is to ascertain whether the account was true and fair rather than detection of errors and frauds. (Petersen, 2005).

With increase in the size of companies and the volume of transaction the main objective of audit shifted to ascertaining whether the accounts were true and fair rather than true and correct. Hence, the emphasis was not on arithmetic accuracy but on a fair presentation of financial reporting. Accounting and auditing play significant role in principal-agent relationship (i.e. agency relationship). The agency relationship between owners and manager in a firm creates a natural conflict of interest because of the information asymmetry that exists between managers and the owners. This information asymmetry means that manager generally has more information about “true” financial position (shown by a balance sheet), and results of operations (in a profit and loss account) of the enterprise than the absentee owner does. This contract relationship between the shareholders and managers in a firm lead to the demand for firm auditing.

Auditing has a significant effect to firms, it helps to determine whether the overall financial statement present fairly in accordance with the established criteria, the extent to which rules, policies, laws audit and tracing funds or assets identification and recovery, investigating the existence, nature., extent and identification of employee who misappropriate asset.

Long term audit tenure has created some expectation gap this gap has led to failure of the auditor, to carryout is duty effectively. This is due, to the fact that the expectation of the auditors are not met because of the familiarity that exist between the auditors and their clients, this familiarity has made the auditors to fail in their area of independence, credibility and confidentiality because during long term audit tenure, auditors focus on non-audit service than audit services, and this led to many corporate scandal.

1. 1. Statement of Problem

Several studies have attempted to evaluate possible explanatory variables for the state of audit quality. In the light of these studies, auditor tenure has become the focus of much debate. Should a firm replace its auditor’s on a regular basis, or should the auditor be allowed to build long-term relationship with the client? Studies on the effect of audit tenure on the quality of financial reporting are at polarity. A considerable number of these studies considered the rotation of audit firm as a way improving the quality of financial reporting. This is because familiarity with the client has the effect of reducing the fresh point of view auditors have in the point of view auditors have in the early years of engagement. The Sarbanes-Oxley Act of 2002 consolidates this view as it requires rotation of the lead audit partner every five years so that the engagement can be viewed “with fresh and skeptical eyes”. The argument basically is that longer audit tenure trends to result in an opportunity cost of auditor independence, conversely, other studies also argue that longer auditor tenure improve auditor quality as auditor may need time to expertise in the business they audit and acquires client-specific knowledge overtime. This implies that audit quality is lower during the early year of the Auditor-client relationship, and the audit quality increases with length of the auditor-tenure due to the reduction in information asymmetry between auditor and client.

1. 1. Research Questions

The research questions formulated from this research work are:

1. Is there any significant relationship between the duration of the auditor and the quality of financial reporting?
2. Does audit tenure improve the quality of financial reporting in achieving organizational objective?
3. Does audit objective help in maintaining accountability?
4. Does audit tenure help to reduces fraud in the organization?
   1. Objectives of the Study

The main of objective of the study is to examine the effect of audit tenure on the quality of financial reporting; others include;

1. To examine the relationship between audit tenure and the quality of financial reporting.
2. To examine if audit tenure help to improve the credibility of financial reporting.
3. To determine whether audit tenure has significant influence in the role of financial reporting in an organization.
4. To examine the role of audit tenure in fraud central and detection.
   1. Statement of Hypotheses

In order to achieve the stated objectives of this study, the following hypothesis were formulated in null and alternative basis.

Hypothesis 1

HO:   There is no significant relationship between the duration of auditor and the quality of financial reporting.

HI:    There is a significant relationship between the duration of auditor and the quality of financial reporting.

Hypothesis 2

HO:   There is no significant difference between audit objective and ability to maintain accountability by firms.

HI:    There is significant difference between audit objective and ability to maintain accountability by firms.

Hypothesis 3

HO:   There is no significant relationship between audit rotation and fraud detection.

HI:    There is significant relationship between audit rotation and fraud detection.

1.6   Significance of the Study

This study is relevance in all human endeavors as listed below;

1. Academic relevance
2. National relevance
3. Accounting relevance

Academic relevance: This research work will instill in the students to have a general insight into the effect of audit tenure on the quality of financial reporting, which will enable us to make useful suggestions and contributions on topic under survey.

National relevance: This research work is relevance to the nation in the following ways;

a.     It will serve as a referenced point to management awards achieving their organizational goal and objective.

b.     It will enable the investors to carry out a check and balance between the auditors and the companies to determine the extent to which audit tenure has influence the quality of financial reporting for the purpose of investment decision.

c.     Since the government is also interested in the financial statement of every company, for the purpose of taxation, it will be relevance to the government to see how audit tenure has influence the quality of financial reporting.

d.     It will enable the public and researchers to make useful suggestions and contributions on the topic under review.

Accounting profession: This research work is relevance to the accounting profession in the following ways.

a.     To encourage the profession to lend increased credibility to financial statement.

b.     To encourage auditor standard to provide detailed guidance on risk factors that auditor should considered in assessing whether financial statements may contain material misstatements caused by fraud and irregularities.

c.     To instill into the profession, the sense of responsibility, the essence of professionalism, independence and confidentiality.

1.7   Scope of the study

This research work is to observe the impact of audit tenure on quality financial reporting of auditors on quality of audit in southern Nigeria. The researcher focus is on the qualified accountants both in the public sector and private sector, those in the public sector shall comprise of qualified lectures in the accounting, banking, management and economics departments while the private sectors shall comprise of selected accredited auditing firms in Abia State, Edo State and Lagos State respectively. A total of five hundred (500) consultants, lecturers accountants and auditors are examined upon which questionnaires are administered.  

1.8   Limitations of the study

There are many constraints which often hinder the successful completion of a research work; it is designed to provide reasonable assurance not absolute assurance. In view of these, there is lack of adequate data on specific areas of investigation this cause some limitation to researcher. Unwillingness of staff to release some vital information due to overriding, duty of secrecy militated against the information; this is because staff regards that as confidential.

1. 1. Definition of Terms

Auditing: Auditing is a systematic process of objectively obtaining and evaluating evidence regarding as sections about economic actions and events to ascertain the degree of correspondence between those assertions and established criteria and communicating the result to interest users.

Directors: These are a group of senior managers who run a company.

Internal Control: Internal control is the examination, monitoring and analysis of activities related to a company’s operation, including its business structure employee behaviour and information systems.