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Course: ACT 330 (Intermediate Financial Accounting)

Section: 1

Group Project

Table of Contents
Articles

Page No

Executive Summary

02

Summary on Audit and Non-Audit Fees in Germany

03

The Impact of Audit Market Characteristics

Summary on The Impact of Mandatory IFRS Adoption

06

on Audit Fees: Theory and Evidence

Summary on Corporate Governance Quality, Audit Fees

09

and Non-Audit Services Fees

Overall Summary

12

Executive Summary

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We have selected three more (most recent) recent articles for further research. The three selected
articles are as follows:
1. Annette G. Kohler/Nicole V. S. Ratzinger-Sakel October 2012: Audit and Non-Audit
Fees in Germany The Impact of Audit Market Characteristics, sbr 64 2012 I S S N : 281307
2. Jeong-Bon Kim, Xiaohong Liu, Liu Zheng (2 0 1 2 ) The Impact of Mandatory IFRS
Adoption on Audit Fees: Theory and Evidence Vol. 87, No. 6, pp. 20612094
3. MAHBUB ZAMAN, MOHAMMED HUDAIB, AND ROSZAINI HANIFFA (2011).
Corporate Governance Quality, Audit Fees, and Non-Audit Services Fees. Journal of
Business Finance & Accounting,Vol. 38, NO. 1-2, pp. 165197
For convenience we have divided every summary into six specific sections. We are:
1) Introduction
2) Methodology
3) Major Findings
4) Conclusion
In the section Introduction the research topic of the journal has been described. In the
Methodology section systematic study methods of the journal has been described which
includes data collection method, timeframe for collection of data, variables of the study along
with their characteristics. The Major Findings section describes the major outcomes and
findings from the study of the journal. The last section Conclusion describes how the outcomes
of the study will help managers or concerned persons in future by developing better strategic
decision making capabilities in different scenarios.

Summary of the Journal Audit and Non-Audit Fees in Germany The

Impact of Audit Market Characteristics (2012)

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1. Introduction: The main aim of this paper is to offer some practical support whether audit
and non-audit fees in Germany are jointly determined for a sample of 1,345 observations.
We explore the contact of three German audit markets distinctive on audit and non-audit
fees for the years 2005-2007. We discover no relation between audit and non-audit fees,
which suggests that audit and non-audit fee determination in Germany does not specify any
particular impairment of auditor independence.
2. Methodology:
Data Type & Hypothesis: For the purpose of the research, firms in financial sector, banking
and finance, insurance, leasing, business service, renting and other services were excluded
from the sample. The time dimension of panel data was form 2005 to 2007. To make easy
comparability, we basis their analysis on IFRS consolidated financial statements. We used
three hypothetical analyses to justify our research

H1: There is a positive relation between audit and non-audit fees in the German audit
Market
H2: Fee-cutting related to auditor changes in the small client segment is higher than in
the large client segment in the German audit market.
H3: There is a negative relation between the existence of foreign client subsidiaries and
audit fees in the German audit market.

3. Major Findings:
We enlarge prior German audit market research from both an empirical and a
methodological perspective. To survey endogeneity effects, we test for a positive relation
between audit and non-audit fees. We discover no confirmation of a relation between audit

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and non-audit fees. We find that variables such as client size, client complexity, client risk,
audit committee existence, and stock exchange listing determine both audit fees as well as
non-audit fees. This result holds for both the small and the large client segments; the
coefficient on LN (NF) is no significant for both segments. Therefore, we find no support
for Hypothesis 1. The supplementary analysis supports finding of no relation between audit
and non-audit fees. Thus, we add to the German literature on audit and non-audit fees by
providing empirical findings that shows the relation between audit and non-audit fees
depends to a large extent on model specification.

We check for whether the distinction between small and large audit clients can justify the
extent of fee-cutting in initial audit engagements with respect to audit market segment
effects. We find no evidence of significant fee-cutting for the small client segment but some
evidence of significant fee-cutting for the large client segment. For the large client segment
the results show significant fee-cutting. The exceptions are for changes from a Big Four to a
non-Big Four audit firm and nB4toB4 are significant and negative. In compare to our
Hypothesis 2, the results of the two-stage least squares approach shows that in Germany,
cost and reputation effects dictate market structure effects. After scheming for timeinvariant individual-specific effects, we come across that fee cutting for small, audit
engagements is bigger than that for big audit engagements. Hence, we put in to the
literature by providing data of differences in audit firms pricing strategies across small
versus large client segments.

While considering institutional setting effects, we assess whether described fees for audit
and non-audit services are systematically prejudiced. We come across non-significant results
on INT for both segments. Quite the opposite of our Hypothesis 3, we do not locate any

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confirmation of a negative relation between the existence of foreign subsidiaries and audit
fees in Germany.
To inspect the model, we perform several statistical tests as follows. First, we perform a
Chow test (1960) to determine whether the model is consistent over time, that is, over the
three-year sample period. We then evaluate the residuals of the full sample to test whether
further regression assumptions are valid.

4. Conclusion:
The outcomes above are vigorous to numerous statistical tests and supported by extremely
high coefficients of fortitude. Nevertheless, our results are subject to limitations. First, our
sample is narrowed to listed companies. Second, we examine a time series of three years.
Third, accessing to companies specific information on one-off event is limited. Fourth, the
results on fee-cutting are based on a small number of cases that are distinctive to the current
situation on the German audit market. Finally, fee reporting biases can also result from
misclassifications of reported audit fees and non-audit fees.

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Summary of the Journal The Impact of Mandatory IFRS Adoption on

Audit Fees: Theory and Evidence
1. Introduction: Here, we study the influence of International Financial Reporting Standards
(IFRS) adoption on audit fees. First, we construct an analytical audit fee model which is
brought about by IFRS adoption. We then assess the models predictions using audit fee
data from European Union countries that mandated IFRS adoption in 2005. We come across
that the IFRS-related audit fee premium increases with the increase in audit complexity and
decreases with the enhancement in financial reporting quality. Both are arising from IFRS
adoption. Finally, we attain that countries with stronger legal rule have lower IFRS-related
audit fee premium.
2. Methodology:
Data Type & Hypothesis: We develop four hypotheses to emphasize our research. Those
are
H1: IFRS adoption has no impact on audit fees.
H2: Ceteris paribus, the audit fee premium associated with IFRS adoption is increasing
with the increase in audit complexity brought about by IFRS adoption.
H3: Ceteris paribus, the audit fee premium associated with IFRS adoption is decreasing
with the improvement in financial reporting quality brought about by IFRS adoption.
H4: The audit fee premium associated with IFRS adoption in countries with strong legal
regimes is the same as that in countries with weak legal regimes.
To test our hypotheses, we exclude firm-year observations missing audit fee data, banking,
insurance, or other financial industries etc. The final action sample consists of 3,693 (2,860)
firm-year observations for 11 EU countries.

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3. Major Findings:
H1 is concerned with the overall impact of IFRS adoption on audit fees. The coefficient of
POST is positive and weakly significant where as the coefficient of POST*TREAT is
significantly positive. These results suggest that a representative firm in countries that
mandated IFRS adoption experienced increase in audit fees. These results lead us to reject
the null hypothesis. We locate that the market-to-book ratio (MB) is positively linked with
audit fees, consistent with the notion that firms with high MB values are associated with
greater audit complexity or high client-specific risk. We also find that MERGE is certainly
associated with audit fees. Finally, there exist audit fee premiums for Big 4 client firms and
cross-listed companies.

To test H2 through H4, we assess the power of legal regime using the natural log of the
Wingate index (WINGATE), the transform in audit complexity (DCOMPLEXITY) using the
natural log of the sum of Absence and Divergence, and the change in reporting quality
(DQUALITY)

using

three

alternative

measures.

The

coefficient

of

POST*TREAT*DCOMPLEXITY is notably positive telling that the audit fee premium

associated with IFRS adoption is positively associated with the increase in audit complexity
brought about by IFRS adoption in a particular country. On the other hand, the coefficient of
POST*TREAT*DQUALITY is significantly negative indicating that the greater the expansion
in financial reporting quality carried by IFRS adoption, the lower the audit fee premium
allied with IFRS adoption. Conversely, the coefficient of POST*TREAT*WINGATE is
negative representing that the approval of IFRS results in a smaller IFRS related audit fee
premium in countries with a strong legal regime than in countries with a feeble legal
regime.

Together with the beginning of fixed IFRS reporting, the EU also made concurrent efforts to
regularize accounting and auditing practices and to boost enforcement and governance
mechanisms. This survey is intended to compute issues of competitiveness such as
management practices, labor relations, and corruption. Among other questions, the survey

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asks respondents to appraise the extent to which auditing and accounting practices are
employed to supervise company management effectively. We then raise our measure of
concurrent reform by estimating equation with POST*TREAT*REFORM being added. The
outcomes explain that the coefficient of this additional variable is insignificant signifying
that our main results are unlikely to be obsessed by concurrent reforms.

4. Conclusion:
Our survey presents a theory and sustaining evidence for grasping the impact of accounting
standards, and their changes, on audit pricing. Especially, our consequences provide handy
approaching into the channels of audit convolution and financial reporting quality through
which the implementation of new accounting standards inspires audit pricing. To further
understand the impact of IFRS on the auditing profession, we suggest that forthcoming
study observe the audit fee effect of IFRS adoption on client companies as well as how IFRS
affects the connections between real activities operation and accrual-based earnings
management.

Summary on Corporate Governance Quality, Audit Fees and Non-Audit

Services Fees

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1. Introduction:
This research is based on the relationship between governance quality and auditor
remuneration and it tries to show how audit committee effectiveness (ACE) influences audit
fees (AF) and non-audit services fees (NASF). Audit committees play a very important role
in monitoring and assuring the quality of financial reports. The potential judicial proceeding
risk and reputation damage faced by audit committee members pressurizes them to
discharge their responsibilities. Thus, it is expected that firms with high-quality audit
committees are more likely to monitor the external audit process than firms with lowquality audit committees. So, it can be expected that audit fees would increase. And it is
further expected that firms with high-quality audit committees would enhance auditor
independence. The results provide evidence of audit committee effectiveness (ACE) having
a positive significant effect on AF. We will try to explore these two propositions in this
paper.

2. Methodology:
Data Type & Hypothesis: In order to investigate the influence of ACE on AF and NASF, a
sample of 540 company-year observations for the period 20012004 of 135 UK FTSE-350
non-financial companies has been used. Two main hypotheses are developed in order to
emphasize the research.
H1: Ceteris paribus, there is a positive relationship between audit committee
effectiveness (ACE) and the level of audit fees (AF).
H2: Ceteris paribus, there is a negative relationship between ACE and the level of nonaudit services fees (NASF).
3. Major Findings: The means related to frequency of meetings of audit committees (ACM)
have improved from 2.6 to 3.4 times and 8.7 to 9 times respectively from 2001 to 2004. This
implies that both audit committees and boards have become more enthusiastic in the latter
years. The mean size of the audit committees (ACS) has shrunk considerably from 3.4 to 3.1.
The means for the other two audit committee characteristics and financial expertise (ACX),

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have both increased. This point out that almost all audit committee members were selfreliant non-executive directors in 2004 and that the number of audit committees with at least
one member having financial expertise had increased largely in 2004. Barely 16% of the
circumstances in our sample are confidential as having effective audit committees. The
research illustrates that three audit committee effectiveness appraises viz. diligence (ACM),
size (ACS) and independence (ACI) are all significantly correlated with both AF and NASF
with the exception of audit committee expertise (ACX). We analyze the association between
audit fees and the multiple measure of ACE, board effectiveness and company-related
control variables. lnAF is definitely and extensively associated to ACE (at the 1% level), thus
supporting our first hypothesis . This recommend that companies with audit committees
consist of all independent non-executive directors, have at least one member with financial
expertise, assemble at least three times a year and have as a minimum three members, tend
to pay advanced audit fees probably due to enhance in the scope of audit demanded by
such an audit committee to enhance audit quality.
On the other hand NNASF is significantly connected to ACE (at the 1% level) but this is
contradictory to the predicted direction. Consequently, the upshot does not support our
second hypothesis (H2). The consequence mean that companies encounter high NASF when
audit committees are comprised of all independent non-executive directors, have at least
one member with financial expertise, meet at least three times a year and have at least three
members. We also uncover all three board effectiveness variables to be significant. Results
based on pooled data specify that companies paying higher NASF compared to AF are those
with huge audit committees, more private boards, audited by BIG4 and mainly belonging to
the industrials and consumer goods sectors while those paying less NASF compared to AF
are those with less independent audit committees and less number of subsidiaries.

4. Conclusion:
We can see that in this research paper that it is evident that audit committee effectiveness
(ACE) has a positive significant effect on audit fees (AF). The paper also provides evidence
that audit committee effectiveness (ACE) has a significant positive association with levels of
non audit service fees NASF, which is contrary to our expectation. On the whole, it can be

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said that the findings from this research paper support regulatory initiatives aimed at
improving corporate governance quality.

Overall Summary

Major findings:

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The impact of Audit market characteristics: In this study the researchers chose German
audit market to realize the impact of audit market characteristics on audit pricing.
Endogeneity effect, audit market segment effect and institutional effects are the three
audit market characteristics that are more likely to affect the audit and non-audit fees in
Germany.
-

Endogeneity effect: To examine the endogeneity effect, the researchers test for a
positive relationship between audit and non-audit fees and the result says that there
is no relation between audit and non-audit fees. But the empirical findings show that
the relation between audit and non-audit service depends to a large extent on model
specification.

Audit market segment effects: Audit market structure is an important determinant of

audit pricing. With respect to audit market segment effect, they test for whether the
distinctions between small and large audit clients can explain the extent of fee cutting
in initial audit engagement. It is found out that fee cutting for small audit
engagements is larger than that for large audit engagement. There is also evidence of
differences in audit firms pricing strategies across small versus large client segments.
Due to the sensitivity of the results to model specification no conclusive inference can
be drawn as to the nature of these differences. Institutional setting effects: They also
test whether reported fees for audit and non audit services are systematically biased,
which would raise question as to the international comparability of German audit
and non-audit fees. do not find evidence of a negative relation between the existence
of foreign subsidiaries and audit fees in Germany. Thus, the network-related
ambiguity currently present in the fee disclosure requirements in Germany does not
appear to impair the comparability of German audit and non-audit fee data.

The impact of Mandatory Adoption of IFRS: IFRS has significant impact on auditing
profession. The adoption of IFRS increases complexity in audit and also improves the
financial reporting quality. Findings from these study shows that IFRS adoption has
two opposite effect on audit fees. The first effect is the increase of audit fees. As IFRS
adoption increases complexity in auditing so it leads to an increase in audit fees also.

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The second effect is the decrease in audit fees following the improvement in financial
reporting quality. The analysis also indicates that the IFRS-related audit fee premium
increases with the extent of accounting differences between a countrys former local
GAAP and IFRS, and decreases with the strength of a countrys local regime.

The impact of Corporate Governance quality: From our study we have got the
evidence that corporate governance quality, especially audit committee effectiveness
(ACE) has a significant positive association with levels of audit fees (Hay et al., 2006b)
and non-audit service fees. The result is contrary to our expectation. ACE emphasizes
more in monitoring which results in wider audit scope and higher audit fees. On the
other hand firms with high quality audit committees are expected to enhance auditor
independence which could result in lower non audit service fees. As the study is
showing a positive association between ACE and non-audit service fees so we can say
that audit committees are not protecting auditor independence and thus companies are
purchasing non-audit services from the incumbent auditors.

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