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Although regulation makes audit committees responsible for determining and negotiating audit fees, researchers and practitioners express concerns that CFOs continue to control these negotiations. Thus, regulation may give investors a false sense of security regarding auditor independence. We utilize the recent financial crisis and economic recession as an exogenous shock that allows us to shed light on the relative influence of the audit committee and the CFO on fee negotiations. During the recession, we find larger fee reductions in the presence of more powerful CFOs, and smaller fee reductions in the presence of more powerful audit committees. We also find the CFO or the audit committee primarily influences fees when their counterpart is less powerful. Our findings suggest a more complex relationship between the CFO and the audit committee than current regulations recognize and cast doubt on the ability of regulation to force one structure on the negotiation process.

The Securities and Exchange Commission (SEC) recommends that firms provide MD&A disclosures quantifying the earnings effect of reasonably likely changes in critical accounting estimates (quantitative CAE). This paper examines the determinants and consequences of quantitative CAE. We find that quantitative CAE are negatively associated with management's incentives to misreport (proxied by portfolio vega) and positively associated with audit committee accounting expertise and with audit offices with multiple quantitative CAE clients. These findings hold for the presence, initiation, number, and magnitude of quantitative CAE, and for both pension and non-pension quantitative CAE. We also find that incidences of AAERs, misstatements, and small positive earnings surprises decrease after initiation of quantitative CAE. Collectively, our findings provide insight into the use of quantitative disclosure to inform users about accounting estimation uncertainty in financial reports.

Practice and research recognize the importance of extensive knowledge of accounting and financial reporting experience for generating reliable financial statements. However, we consider the possibility that such knowledge and experience increase the likelihood of material misstatement when executives have incentives to misreport. We use executives' prior experience as an audit manager or partner as a measure of extensive accounting and financial reporting competence. We find that the interaction of this measure and compensationbased incentives increases the likelihood of misstatements. Further, auditors discount the audit fee premium associated with compensation-based incentives when executives have accounting competence. Together, our results suggest that a dark side of accounting competence emerges in the presence of certain incentives, but auditors view accounting competence favorably despite the heightened risk. In further analyses, we demonstrate that executives' aggressive attitude toward reporting exacerbates the effect of accounting competence and compensation-based incentives on misstatements, but not on audit fees.

In an internal control audit, the consequences and assessment subjectivity of control problems motivate managers to try to persuade auditors to lower the assessed severity of an observed control deviation. We report an experiment in which 106 audit seniors evaluate either information technology (IT) or manual control deviations that are potentially indicative of significant deficiencies, after exposure to persuasion tactics based in either concession or denial. For IT control deviations, we find that auditors assess the significance of deficiency lower and the perceived adequacy of management's explanation higher for concessions than for denials. For manual control deviations, we find no differences between concessions and denials. Our results provide evidence of a systematic bias in auditor judgment and indicate a rationale for the ubiquity of management persuasion attempts around control deviations—sometimes they work.

The trend toward continuous monitoring of automated business transactions by the internal audit function is growing as organizations seek to improve internal control. In this study, we demonstrate that continuous monitoring and the time horizon over which performance-contingent incentives are based can interact, thereby yielding potential functional and dysfunctional effects on managerial decisions. Seventy-two experienced corporate managers completed a between-participants experiment that randomized monitoring frequency (periodic or continuous) and incentive horizon (short-term or long-term). We found that earnings management of real activities significantly decreased as the frequency of monitoring increased in the presence of a short-term incentive horizon-a functional effect. However, with a long-term incentive horizon, the participants' willingness to change the current level of investment in a risky but viable project significantly dropped as the frequency of monitoring increased, even though additional investment would enhance the likelihood of the project's eventual success-a dysfunctional effect. We also observed that more frequent monitoring significantly decreased the willingness of managers to continue with a risky but viable project regardless of incentive horizon and the effect was significantly pronounced in the presence of a short-term, relative to long-term, incentive horizon-another dysfunctional consequence. Implications of the research findings to theory and practice are discussed.

This paper investigates the interaction between compensation structures and expert system technology. One hundred twenty-two participants selected a contract (fixed pay or performance-contingent incentives) and preformed one of two risk-rating tasks either in the presence or absence of an externally valid expert system. For both tasks, the expert system increased decision accuracy only for participants selecting performance-contingent incentives, and these incentives increased decision accuracy only in the presence of the expert system, consistent with a complementary interaction. The results support the view that expert system technology changes task requirements and hence, may also change self-selection and effort compensation contracting effects. The results provide evidence about the interdependence of organization, system, and individual factors in determining task performance, and suggest that organizational performance may be improved through the joint implementation of expert systems and performance-contingent incentives. [PUBLICATION ABSTRACT]