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Audit Committee Characteristics and Audit Quality


Content

Abstract

This study examined the effect of audit committee characteristics and audit quality. The broad objective of this study was to examine the impact of audit committee features on audit quality of Nigerian listed firms. It made use of thirty (30) firms quoted on the Nigerian Stock Exchange between 2006 and 2015. Descriptive statistics, correlation analysis as well as regression techniques were used to analyze the data used for the study. The study revealed that audit committee independence, audit committee size and frequency of audit committee meetings had a significant relationship with audit quality, while financial expertise of audit committee had an insignificant relationship with audit quality. The study concludes that effective corporate governance mechanisms put in place in a firm help guarantees audit quality by effectively monitoring the activities of auditors. The study recommends that firms should ensure that the independence of their audit committee is guaranteed and also should be composed of men and women with sound knowledge in accounting and audit related matters.


TABLE OF CONTENTS

Title Page                                                                                 i

Certification                                                                           ii

Dedication                                                                              iii

Acknowledgments                                                                  iv

Abstract                                                                                  v

Table of Contents                                                                   vi

Chapter One: Introduction                                       

1.1    Background to the Study                                                      1

1.2    Statement of Problem                                                            4

1.3    Research Questions                                                              6

1.4    Objectives of the Study                                                          7

1.5    Statement of Hypotheses                                                       7

1.6    Significance of the Study                                                        9

1.7    Scope of the Study                                                                 10

1.8    Limitations of the Study                                                         10

1.9    Definition of Terms                                                                 11

Chapter Two: Review of Related Literature

2.1    Introduction                                                                           12

2.2   Literature Review                                                     12

2.2.1        Audit quality                                                            12

2.3   Relationship between Independent Variables and Dependent Variable                                                         18

2.3.1        Independent directors in audit committee and

audit quality                                                            8

2.3.2        Presence of financial expertise in audit committee and audit quality                                                             24

2.3.3        Frequency of audit committee meetings and audit

quality                                                                     30

2.3.4        Audit committee’s size and audit quality                 34

2.4   Theoretical Underpinning for the Study                   37

2.4.1        Stakeholder theory                                                  37

Chapter Three: Research Methods and Design  

3.1    Introduction                                                                           41

3.2    Research design                                                                     41

3.3    Description of the Population of the Study                           41

3.4    Sample Size                                                                            42

3.5    Sampling Techniques                                                            42

3.6    Sources of Data Collection                                                    42

3.7    Method of Data Presentation                                                43

3.8    Method of Data Analysis                                                       43

Chapter Four: Data Presentation, Analysis and Hypotheses Testing                                     

4.1    Introduction                                                                           45

4.2    Presentation of Data                                                              45

4.3    Data Analysis                                                                         47

4.4    Hypothesis Testing                                                                 54

          Chapter Five: Summary of Findings, Conclusion

and Recommendations                                                

5.1    Introduction                                                                           57

5.2    Summary of Findings                                                            57

5.3    Conclusion                                                                             57

5.4    Recommendations                                                                 58

References                                                                              60

                                                                  


CHAPTER ONE

INTRODUCTION

1.1   Background to the study

The turbulent effects of the global financial crisis have highlighted the critical importance of credible high quality financial reporting. Achieving quality financial reporting depends on the role that the external audit plays in supporting the quality of financial reporting of quoted companies. Audit quality is one of the most important issues in audit practice today. Several individuals and groups both internal and external, have interest in the quality of audited financial information (Hundal, 2013; Antle & Zhou, 2006; Karami & Ahkagar, 2014). The financial statement audit is a monitoring mechanism that helps reduce information asymmetry and protect the interests of the various stakeholders by providing reasonable assurance that the management’s financial statements are free from material misstatements. The societal role of auditors should be a key contribution to quality of audit of firms, in terms of reducing the risks of significant misstatements and by ensuring that the financial statements are elaborated according to preset rules and regulations. Lower risks on misstatements increase confidence in capital markets, which in turn lowers the cost of capital for firms (Karami & Ahkagar, 2014).

There have been concerns about audit quality in the present environment, where severe failures have come to light, for example; Enron scandal of 2001; Parmalat in 2003; Cadbury Nigeria Plc in 2006 and Afribank Nigeria Plc in 2009 (Ajani, 2012; Miettinen, 2011). These highly publicized accounting scandals have greatly shaken the investors’ confidence and the integrity of the corporate financial reporting in the world. In order to restore the investors’ confidence, a number of efforts have been taken to reform the corporate governance. The cases of accounting improprieties on those giant and international companies also indirectly captured the attention of investors and regulators in other developing countries. The search for mechanisms to ensure reliable, high quality financial reporting has largely focused on the structure of audit committees, whose function is to oversee the financial reporting process as well as the audit of financial statements (Adeyemi, Okpala & Dabor, 2012). Quite understandably, expectations will be high on the audit committees to be more active and participative in ensuring the proper management of the companies. Audit committees are expected to resolve the agency conflicts and thus enhance the quality audit. Given the importance of audit committee, listed companies in Nigeria are required to include in their annual reports, a report on the composition, frequency and attendance of meeting, terms of reference and summary of activities carried out by the audit committee and summary of internal audit activities (Abbott & Parker, 2000).

 Madawaki and Amran (2013) reported that lack of effective audit committee practice is a factor behind rigorous financial problems of companies. A system of good corporate governance fosters a system of accountability. The essence of the audit committee is based on two strands of accountability; first, management’s accountability to the board, second, board’s accountability to the shareholders. The audit committee’s role stems directly from the board’s oversight function as it oversees, both, internal as well as external, audit processes of the firm (Bédard, Chtourou & Courteau, 2004; Lee, Mande, & Ortman, 2004).

1.2   Statement of Problem

One of the foremost functions of the audit committee is to review the financial data of the company on continuous basis and strengthen internal accounting controls, in order to enhance reliability and integrity of financial reporting. A good system of corporate governance requires a thorough co-ordination among the three constituents of audit viz. the board, the internal auditors and the external auditors (Hundal, 2013). The audit committee participates, not only in the process whereby management disseminate information to the auditors and releasing unbiased information reducing information asymmetry between insiders and outsiders; but also play an important role in ensuring that statutory auditors are not in the influence of management (Hundal, 2013). Therefore audit committees can be used as a mechanism to reduce agency problems faced by firms. The composition and functioning of the audit committee play significant role in influencing quality of audit (Krishnan & Lee, 2009).

Several studies (Karami & Akhgar, 2014; Jaggi & Leung, 2007; Dopuch, King & Schwartiz, 2001; Mgbame, Eragbha & Osazuwa, 2012; Healey & Kim, 2003) have attempted to analyze some explanatory variables for the state of audit quality. In view of these studies, audit committee attributes has become the focus of much debate. Studies on the effect of audit committee characteristics on audit quality are at divergent. The spate of audit failure in the world, especially in Nigeria, has brought great disappointments to the users of financial reports. The bane of the problem has been linked to lack of effective oversight of audit committee which has also been linked with creative accounting. In Nigeria audit setting, the challenge of audit committee and audit quality reporting has not attracted much empirical studies beyond mere anecdotal opinions (Mgbame, Eragbha & Osazuwa, 2012).

Given the above scenario, the major problem of this study is to determine whether audit quality can significantly be influenced by audit committee characteristics of Nigerian Listed firms. The study attempts to ascertain and establish whether there are significant relationships between audit committee characteristics and Audit quality in Nigerian Listed firms.

1.3   Research Questions

In light of the above, this study seeks to address the following research questions.

1.     Does independent director in audit committee have impact on audit quality of Nigerian Listed Firms?     

2.     What is the relationship between audit committee’s size and audit quality of Nigerian Listed Firms?

3.     What is the relationship between financial expertise of audit committee and audit quality of Nigerian Listed Firms?

4.     Does frequency of audit committee meetings impact audit quality of Nigerian Listed Firms?


1.4   Objective of the Study

The broad objective of this study was to examine the impact of audit committee features on audit quality of Nigerian listed firms. The specific objectives were to:

1.     examine whether independent directors in audit committee have impact on audit quality of Nigerian listed firms.

2.     ascertain the relationship between audit committee’s size and audit quality of Nigerian listed firms.

3.     determine the relationship between financial expertise of audit committee and audit quality of Nigerian listed firms.

4.     evaluate the impact of  the frequency of audit committee meetings on audit quality of Nigerian Listed Firms.

1.5   Statement of Hypotheses

In carrying out this study, the following hypotheses were tested and they were stated in a null and alternate forms.


Hypothesis One

HO:   Independent director in audit committee has no significant impact on audit quality of Nigerian Listed Firms.     

HI:    Independent director in audit committee has significant impact on audit quality of Nigerian Listed Firms.     

Hypothesis Two

HO:   There is no significant relationship between audit committee’s size and audit quality of Nigerian Listed Firms.

HI:    There is significant relationship between audit committee’s size and audit quality of Nigerian Listed Firms.

Hypothesis Three

HO:   There is no significant relationship between financial expertise of Audit Committee and audit quality of Nigerian Listed Firms.

HI:    There is significant relationship between financial expertise of Audit Committee and audit quality of Nigerian Listed Firms.

Hypothesis Four

HO:   The frequency of audit committee meetings has no significant impact on audit quality of Nigerian Listed Firms.

HI:    The frequency of audit committee meetings has significant impact on audit quality of Nigerian Listed Firms.

1.6   Significance of the study

The importance of auditing can be illustrated under the principal-agent relationship. The demand for external audits is directly related to the fact that it is the directors (the agents) who prepare the financial statements, which is primarily based on cost reasons. Therefore, this study is expected to provide useful insight into improving audit quality. This study will contributes to the audit literature as it provides additional empirical evidence on the impact of audit committee on audit quality of Nigerian listed firms. This study will be useful to stakeholders in the Nigerian Stock Exchange (NSE) as it provides evidence on the relationship between audit quality and therefore instituted by them in formulating the Code of Corporate Governance for listed companies in Nigeria.

1.7   Scope of the Study

The study is premised on audit committee characteristics and audit quality of Nigerian listed firms. The study made use of 2006 to 2015 data from the Nigerian Stock Exchange. Emphasis was placed on all the companies listed on the first tier market (main market) of the Stock Exchange with data during the period under review. A sample size of thirty (30) companies quoted on the Nigeria Stock Exchange was used for effective correlation.

1.8   Limitations of the study

The major limitation of the study as it was with several studies in developing economies was data accessibility and accuracy. Also, there was the challenge of inappropriate measurement of variables. Another challenge faced in the course of this field work was time factor and inadequate funds.


1.9   Definition of Terms

1.     Audit: This is a formal examination of an organization or individual’s account or financial situation.

2.     Quality: A distinctive attribute or characteristic possessed by someone or something.

3.     Finance: This studies and address the ways in which individuals, businesses and organizations raise, allocate and uses monetary resources over time, taking into account the risks entailed in their projects.

4.     Committee: A group of people who are chosen to do a particular job or to make decisions about something.

5.     Company size: This is the operational scale of a business that determine the organizational structure that optimizes efficiency and managerial capacity.

6.     Auditor Independence: It refers to the independence of the internal auditor or of the external auditor from parties that may have a financial interest in the business being audited.

 

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