Client Importance and Auditor Independence: A Test of Gray's Secrecy Theory

Abstract

The purpose of this study is to investigate whether auditors compromise their independence for economically important clients in countries with a secrecy culture. The secrecy measurement used in this study was developed by Hope et al. (2008) who follow guidelines provided by Gray (1988) and Hofstede (1980). I use multiple proxies for auditor independence, including the propensity to issue modified audit opinions, signed abnormal accruals, and the probability that clients meet or just beat earnings targets. Using a very large sample of firms from 33 countries and controlling for a number of firm- and country-level factors, I find evidence that Big N auditors do not compromise their independence for economically important clients located in countries where a secrecy culture prevails. On the other hand, I find some evidence of compromise for non-Big N auditors. The results are consistent and robust in endogeneity tests and sensitivity analyses. In addition, I find that the effect of secrecy culture on auditor independence is more pronounced in stronger investor protection regimes than in weaker investor protection regimes. The present study enriches the available knowledge by complementing and extending the previous studies through examination of the joint effect of formal and informal institutions.

Date of Award	16 Aug 2016
Original language	English
Awarding Institution	City University of Hong Kong
Supervisor	Lai Lan Phyllis MO (Supervisor)