SHIFTING FEES AND INCREASING RESTATEMENTS

The Sarbanes-Oxley Act (SOX) was enacted in 2002 after Enron, WorldCom and a spate of other ethics scandals shook financial markets and gave corporate America a giant black eye. In part, SOX sought to reestablish public trust in the accuracy and transparency of corporate financial statements by restricting the amount of non-audit services an accounting firm can provide.

But now, there seems to be a shift occurring, according to new research by Erik Beardsley, assistant professor of accountancy at Mendoza. “Some firms seem to be focusing on non-auditing services again, and our study suggests that this could be due in part to the reduced profitability of audit engagements,” he said. The result, however, might not bode well for audit quality.

Since the economic downturn especially, companies have pressured auditors to lower their fees as a way to reduce costs. Auditors, in turn, place greater emphasis on more profitable non-audit services, such as consulting. But this can negatively impact audit quality, according to Beardsley’s study “How Do Audit Offices Respond to Audit Fee Pressure? Evidence of Increased Focus on Non-Audit Services and Their Impact on Audit Quality.”

Beardsley and his co-authors examined the audit fees, non-audit fees and client misstatement rates of 561 audit offices from 2004 to 2013. It found that as audit fees decreased, the accounting firms focused more on providing other services. When that happened, audit quality, as evidenced by financial restatements, suffered.

Beardsley says firms and investors should be wary of auditors trying to sell more non-audit services, which has been an ongoing concern for the Public Company Accounting Oversight Board. The board has focused on whether non-audit services impair auditor independence and whether it has an effect on audit quality.

The research, co-authored by Dennis Lassila of Texas A&M University and Thomas Omer from the University of Nebraska-Lincoln, is forthcoming in Contemporary Accounting Research.

Erik Beardsley is an assistant professor of accountancy whose research interests include managerial incentives and tax strategies, and the determinants of audit quality. He earned bachelor’s and master’s degrees from the University of Wisconsin - Milwaukee and his doctorate from Texas A&M University.