Narrowing Audit Expectation Gap Through Corporate Governance

Abstract of Narrowing Audit Expectation Gap Through Corporate Governance

This study examines some components of Corporate Governance with huge potentials for narrowing expectation gap. The study adopted a descriptive and survey research design and data was obtained through interview and questionnaire administered to a purposive sample size of 130 respondents, who are knowledgeable in accounting, auditing, finance and management. Using regression analysis, the study finds whistle blowing and tenure limitation to have significant negative relationship with Audit Expectation Gap; Adequate Disclosure/Transparency has an insignificant negative relationship with Audit Expectation Gap; and Internal Control has an insignificant positive relationship with Audit Expectation Gap. Hence, the study concludes that a strong corporate governance practice can effectively reduce the failure of firms and significantly narrow Audit Expectation Gap. Accordingly, the study recommends that organisations should enhance and judiciously execute corporate governance mechanisms, which is capable of narrowing Audit Expectation Gap.

Chapter One of Narrowing Audit Expectation Gap Through Corporate Governance

Introduction

Business transactions are recorded as the basis for financial reporting to stakeholders. Owing to separation of ownership from management, auditing of entities’ financial statements is a crucial necessity (Okafor and Otalor, 2013). The audit function is entrusted with the task of expressing an opinion on the reality of the reported economic activities of enterprises. However, Salehi, Mansoury and Azary (2009) posit that auditors may not check out the reality and this reality may fall short of users’ expectations; this shortfall in audit effectiveness is broadly labelled as Audit Expectation Gap (AEG). AEG is the difference between the actual nature and objective of an audit and that perceived by users of audited financial statements.

AEG became prominent in the accounting profession since mid-1970s and it is continuously debated till date. According to UK Essays, in the 1970s and 1980s, massive corporate failures have caused the profession to be criticized by the public. These failures ranged from Equity Funding (an insurance firmbased in Los Angeles) in 1973, Drysdale Government Securities and Penn Square

Bank in 1982 to ESM Government Securities, which was the first to appear before a US federal court as a result of a 340 million dollar fraud in 1985. Auditors were then compelled to battle with legal suits taken against them. The increasing number of corporate failures and abuses, alleged audit failures and lawsuits against renowned accounting and audit firms generated concern beyond the profession. These called for investigations and in defence, the profession defined AEG, focussing on public criticism, to be the gap between the public’s expectations of auditors and auditors’ perceived performance.

Corporate failures, financial scandals and audit shortcomings in advanced countries subsequently impacted on the audit profession in developing countries. In Nigeria, for instance, Adeyemi and Uadiale (2011) identified the major corporate financial irregularities and related fraud to include Wema Bank, Finbank, Cadbury, Spring Bank and others. These scandals captured the attention of both investors and regulators, thus affecting their investing and divesting decisions.

The search for mechanisms to ensure reliable, high quality financial reporting has largely focused on narrowing the AEG. The auditing profession has been proactive in attempting to improve audit quality by issuing standards focused on discovery and independence. Thus, there has been a concerted effort to device ways of enhancing auditors’ performance in relation to advancing accountability and transparency (Epstein and Gaiger, 1994; Adeyemi and Uadiale, 2011).

Corporate failures resulting from mismanagement, fraudulent practice, economic instability, inconsistency in micro and macroeconomic policies, etc. are viewed as failures of auditors (Adeniji, 2004). The Auditor’s role is carried out to add credibility to the financial information released after the end of a company’s financial year. This credibility is, however, called into question after the failure of some companies (for example Enron, WorldCom, Parmalat, etc. in USA, Haco Textile, Nitel, Savannah bank, etc. in Nigeria), shortly after an unqualified audit report had been issued (Lee, Gloeck and Palaniappan, 2007). These events have thrown the accounting profession into spotlight. In addition, there has being new standards issued by International Audit Standard Board (IASB) aimed at enhancing audit efficiency, yet the AEG has continued to be an issue to auditing profession.

Corporate governance is the way and manner in which an organization is controlled and directed. Corporate governance is taken to encompass how an organisation manages its corporate and other structures, its culture, its policies and strategies, and the ways in which it deals with its various stakeholders (shareholders, creditors, employees, accountants, auditors, etc.). In many ways, corporate governance is a combination of legal and best practice organisational structure and management requirements, aimed at facilitating accountability and transparency as well as improving performance (O’Grady, 2002; Bird, 2001; CBN, 2006).

AEG was evidenced by the persistent collapse of organizations after unqualified audit report had been issued. As a result, the public expected auditors to champion the preparations of accounts, revealing any fraudulent practices, attesting to soundness of all transactions, guaranteeing the credibility of financial reports, etc., which are part of the essence of sound corporate governance. Thus, this paper examines whether good corporate governance will narrow AEG. The study seeks to provide evidence of the relationship between AEG and corporate governance variables.

The paper is divided into five sections. Section two reviews related literature on CG and AEG. Section three is on methodology and the fourth section discusses how effective CG can narrow AEG. The study concludes with recommendations in section five.