The Effects of the Auditor's Insurance Role on Reporting Conservatism and Audit Quality
Liao, Pei-Cheng, Radhakrishnan, Suresh
The Accounting Review · 2016 · Volume 91 · Issue 2
Abstract
We examine the effects of the auditor's insurance role on audit quality and reporting conservatism. The investor pays for the auditor's penalty through the audit fees and expects to collect a portion of it—when the investor recovers the entire expected penalty, the insurance role is perfect. When the investment is exogenous, consistent with Watts' (2003a, 2003b) argument, we find that an increase in the auditor's insurance role improves audit quality and conservatism, because conservatism helps to reduce the auditor's legal liability. However, when the investment level is endogenous, we find that the investment level and conservatism decrease with increases in the auditor's insurance role, because conservatism helps to mitigate the deadweight loss of the legal liability cost.
Keywords
auditor's insurance role, conservatism, audit quality, legal liability, private and public actions
Enable JavaScript for citation tools and additional paper interactions.