Distinctive Characteristics of Entities with an Internal Audit Department and the Association of the Quality of such Departments with

Errors Abstract. This research identifies those characteristics that could potentially influence a choice to create an internal audit department and tests via discriminant analysis to evaluate whether such attributes significantly distinguish between companies with and without an internal audit department. In addition, qualitative characteristics of such departments are described, as is the association of such traits with errors and the overall control environment. A sample of 260 companies is examined. Companies with internal audit departments are observed to be significantly larger, more highly regulated, more competitive, more profitable, more liquid, more conservative in accounting policies, more competent in their management and accounting personnel, and subject to better management controls. Key discriminant variables are the degree of regulation, decentralization, size, the duration of association with present auditors, the existence of an audit committee, EDP control, and pressures by external parties on management to achieve budgetary goals. Qualitative attributes of internal audit are systematically associated with the overall quality of the control environment, as well as errors. The most important attribute appears to be the independence of internal audit in terms of the propriety of the reporting level. An advantage of internal auditing is that external auditors report a 10 percent reduction in the number of hours incurred and greater flexibility appears to exist in the proportion of work performed in off-peak periods.

Factors Affecting Auditors' Perceptions of Applicable Decision Aids for Various Audit Tasks Abstract. Forty-nine audit partners and managers were provided with a comprehensive list of audit tasks. Having been provided with definitions and instructions, the auditors were asked to identify the primary decision aid (automation, decision support systems, knowledge-based expert systems, and strictly human processing) applicable for each of the audit tasks. The results indicate that although the effect of audit methodology of the firm (structured, semistructured, and unstructured) on decision aid choices is mixed, the complexity of the audit tasks (structured, semistructured, and unstructured), auditor rank, and auditor specialty have significant impact on the decision aid choices of the participants. Implications for research and practice are discussed.

Auditor Evaluation of Loss Contingencies Abstract. This paper examines the probability judgments made by auditors for their financial statement footnote disclosure decisions and their audit report additional paragraph decisions in the presence of material loss contingencies. In the United States these judgments are governed by SFAS No. 5 and SAS No. 58. Two prior studies have reported inconsistent results pertaining to the degree of compliance of auditors with the judgment and decision-making process implied by SFAS No. 5. In contrast, SAS No. 58 has not previously been examined with respect to auditor compliance. Results from an experiment with 64 audit partners from six firms were consistent with the hypothesis that audit partners employ the same (compensatory) judgment process when making footnote disclosure decisions as when making additional paragraph decisions. This process led the partners to make judgments for the additional paragraph decision that were in accordance with SAS No. 58. In contrast, their judgments for the footnote disclosure decision were consistent with a decision theory model of auditor behavior rather than the noncompensatory process implied by SFAS No. 5. Additional aspects of the study pertain to the additional paragraph decision of auditors. Observed judgments for these decisions are consistent with the hypothesis that additional information is conveyed beyond that provided by only a footnote disclosure. This is contrary to some recent discussions of the standards.

Selected Auditor Communications and Perceptions of Legal Liability Abstract. The definition of auditing calls for the communication of the degree of correspondence between assertions and established criteria (AAA. 1972). At present, there continues to be no precise scale for measuring the degree of credibility lent to financial statements by the auditor. Don Leslie recently recommended adoption of a standard requiring auditors to disclose their operational materiality levels [Leslie, 1985]. No serious research has examined this proposal. The American Auditing Standards Board recently modified the standard form auditor's report in the United States. Neither Leslie's recommendation nor universal definitions of materiality were adopted. Among the objectives of report revision are better auditor-user communication and abridgment of auditor legal liability. Few empirical studies have considered the former; none that we know of have examined the latter. This study enters that void and examines whether selected report modifications including explicit disclosure of the working materiality thresholds underlying preparation and audit of the financial statements serve to mitigate auditor liability. A behavioral experiment was conducted with 77 general jurisdiction judges serving as subjects. Findings support the potential for meaningful modifications to the standard auditor's report to abridge auditor liability.