No abstract

This study investigates whether or not related party transactions serve as "red flags" that warn of potential financial misstatement. We hand-collect related party transactions for S&P 1500 firms in 2001, 2004, and 2007 and find a positive correlation between these transactions and future restatements, suggesting restatements are more likely when a firm engages in related party transactions. The association is concentrated among transactions that appear to reflect "tone at the top" rather than arguably more necessary business transactions. We also find RPT firms pay lower audit fees. However, "tone RPT" firms that subsequently restate pay higher audit fees, providing evidence that auditors recognize the individual restatement risks of these firms. Our results suggest that tone-based RPTs serve as signals of higher risk of material misstatement. Faut-il voir des signaux d'alarme dans les op erations entre apparent es ? R ESUM E Les auteurs se demandent si les op erations entre apparent es servent ou non de « signaux d'alarme » annonc ßant des anomalies financi eres potentielles. Ils rel event manuellement les op erations entre apparent es des soci et es composant l'indice S&P 1500 en 2001, 2004 et 2007 et observent une corr elation positive entre ces op erations et les retraitements ult erieurs, ce qui semble indiquer que les retraitements sont plus probables lorsque les soci et es concluent des op erations entre apparent es. Le lien se manifeste davantage parmi les op erations qui semblent refl eter le « ton donn e par la direction » plutôt que parmi les op erations commerciales pouvantêtre qualifi ees de plus n ecessaires. Les auteurs constatent egalement que les soci et es qui concluent des op erations entre apparent es paient moins d'honoraires d'audit. Toutefois, les soci et es dont la direction donne le ton aux op erations entre apparent es et qui proc edent subs equemment a un retraitement paient des honoraires d'audit plus elev es, ce qui permet de conclure que les auditeurs reconnaissent les risques de retraitement que pr esentent individuellement ces soci et es. Les r esultats de l' etude semblent indiquer que les op erations entre apparent es refl etant le ton donn e par la direction signalent un risque plus elev e d'anomalies significatives.

No abstract

SUMMARY We examine the relationship between aggressive income-increasing real earnings management (REM) and current and future audit fees. Managers pursue REM activities to influence reported earnings and, as a consequence, alter cash flows and sacrifice firm value. We posit that the implications of REM are considered in auditors' assessments of engagement risk related to the client's economic condition and result in higher audit fees. We find that, with the exception of abnormal reductions in SG&A, aggressive income-increasing REM is positively associated with both current and future audit fees. Additional analyses provide evidence consistent with increased effort combined with increased risk contributing to the current pricing effect, with increased business risk primarily driving the future pricing effect. We, therefore, provide evidence that aggressive income-increasing REM activities have a significant influence on auditor pricing behavior, consistent with the audit framework associating engagement risk with audit fees. JEL Classifications: G21; G34; M41. Data Availability: The data in this study are available from public sources indicated in the paper.

No abstract