Study the mediating role of internal control weaknesses on the relationship between indicators of companies’ income information content and audit quality

Document Type : Research Paper

Authors

1 Phd.in Accounting,Department of Accounting,Isfahan(khorasgan)Branch,Islamic Azad University ,Isfahan.Iran.

2 khorasgan

Abstract

  Reaching to the income information content is depend on the accuracy of each chain in the financial reporting chain including the requirement for doing independent audit, the determination and application of audit quality indicators, control, disclosure and presentation of strategies for remedies and reduction of internal control weaknesses. In this regard, the present research attempts to study the mediating role of internal control weaknesses on the relationship between indicators of companies’ income information content and audit quality. For this, the quality of information content of income and its criteria regarded as dependent variable, audit quality and its criteria regarded as independent variables and weaknesses of internal control and its criteria act as mediating variable. Research method is descriptive correlational. Research sample is includes 122 companies listed in Tehran Stock Exchange from 1386 to 1395. Research results showed that internal control weakness for financial reporting can play mediating role in the relation between audit quality and information content of income. However, internal control weakness for operation and rules do not such a role. These findings can improve the information content of companies’ income thorough the audit quality.
  1- Introduction
This research focuses on the companies’ income information content, which has triggered a vivid discussion on the topic since Beaver’s (1968) seminal paper on market reaction to earnings announcements. Prior research on investor reactions to earnings announcements has shown that the institutional setting significantly influences the information content of these announcements (e.g. DeFond, Hung, & Trezevant, 2007). However, this literature does not consider the role of firm-specific governance mechanisms and the role they play in enhancing the companies’ income information content. We posit that audit quality has a significant influence on the companies’ income information content and that this relationship varies across institutional settings.
On the other hand, high-profile accounting scandals at Enron, WorldCom and other major corporations in the early 2000s prompted the public to question the reliability of firms' financial reporting. Accounting theory suggests that the reliability of financial reporting is a function of the effectiveness of firms' internal control (Donaldson, 2005). However, the evidence in studies of Zhang, Zhou and Zhou (2007), Chen, Gul, Truong and Veeraraghavan (2012), Ravenstein, Georgakopoulos, Kalantonis and Kaldis (2013), and Chen, Gul and Truong (2016) suggests that audit quality has a beneficial role in reducing the weakness of internal controls. Therefore, weaknesses of firms' internal control are a mediating variable (Baron and Kenny, 1968; Namazi and Namazi, 2017).
In general, reaching to the information content of companies’ income is dependent on the accuracy of each link in the financial reporting chain including the requirement for doing independent audit, the determination and application of audit quality indicators, control, disclosure and presentation of strategies for remedies and reduction of internal control weaknesses. For this, the present research attempts to study the mediating role of internal control weaknesses on the relationship between indicators of companies’ income information content and audit quality.
  2- Hypothesis
Based on the theoretical literature and the conducted studies, research hypothesis was developed as follows:
H1: audit quality affects companies’ income information content through the mediation of internal control weaknesses related to financial reporting.
H2: audit quality affects companies’ income information content through the mediation of internal control weaknesses related to operations, laws and regulations.
In general, based on the number of criteria for each of the independent variables (four criteria) and dependent (four criteria), each of the main hypothesis will have 16 subset hypothesis.
  3- Methods
The research methodology is a quantitative research that adopts the scientific method and empirical evidence, based on hypothesis and ex-post research designs. This type of research is utilized when criteria data quantitative are used.
In this research, data of 122 companies are analyzed for the period of 2008-2017. The related data was collected through observation of Iranian database of the Tehran Stock Exchange (TSE) named Tadbir Pardaz, annual data files and accompanying notes as found on www.codal.ir.,. Descriptive statistics (i.e., mean, maximum, minimum and standard deviation) and inferential statistics (i.e., Structural Equation Modelling (SEM)) are used For statistical analysis and to test hypothesis. Collected data was calculated via the Excel software and was analyzed using Eviews-9, SPSS-22, and also PLS.
In this research, the information content of companies’ income and its criteria regarded as dependent variable, audit quality and its criteria regarded as independent variables and weaknesses of internal control and its criteria act as mediating variable.
  4- Results
Research results showed that internal control weaknesses related to financial reporting have a mediating role on the relationship between indicators of companies’ income information content and audit quality. However, generally internal control weaknesses related to operations, laws and regulations do not play such a role. These findings can improve the information content of accounting earnings thorough the audit quality.
  5- Discussion and Conclusion
The companies’ income information content is an important determinant of investors' decisions, and in particular on decisions about a dealing strategy. The goal of this research was to study the effects of audit quality on the companies’ income information content through the mediation of internal control weaknesses for the companies listed in the TSE. This study would enhance our understanding of companies’ income information content when facing various degrees of the audit quality. Furthermore, the results might be able to resolve the seemingly conflicting predictions from prior analytical models and will provide some implications for regulatory agencies' future policy setting. One important suggestion is that, investors be recommended to pay attention to the information related to the auditor of the company and its features as a factor affecting the companies’ income information content.
 

Keywords

References

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Journal of Accounting Advances
Volume 11, Issue 2 - Serial Number 79
December 2019
Pages 321-353

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History

  • Receive Date: 13 March 2019
  • Revise Date: 02 October 2019
  • Accept Date: 26 October 2019

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