This study investigates the role that a firm’s internal audit function (IAF) plays in the disclosure of material weaknesses reported under Section 404 of the Sarbanes-Oxley Act of 2002 (U.S. Congress 2002). Using data from 214 firms, we examine the relation between material weakness (MW) disclosures and various IAF attributes and activities. Our results indicate that MW disclosures are negatively associated with the education level of the IAF and the extent to which the IAF incorporates quality assurance techniques into fieldwork, audits activities related to financial reporting, and monitors the remediation of previously identified control problems. The timing of Section 404 work and the nature of follow-up monitoring suggests that these aspects of IAF quality help prevent MWs from occurring. We find that MW disclosures are positively associated with the IAF practice of grading audit engagements and external-internal auditor coordination, suggesting that these activities increase the effectiveness of Section 404 compliance processes.

SUMMARY The number of days required to complete financial statement audits (i.e., audit delay) increased significantly with the implementation of Section 404 of the Sarbanes-Oxley Act (SOX, U.S. House of Representatives 2002). As firms' in-house experts on internal control, Internal Audit Functions (IAFs) can substantially affect financial reporting processes and, thus, audit delay. Internal auditors can help management maintain strong internal controls and assist external auditors with financial statement audits. Accordingly, we investigate whether IAF quality and the IAF's contribution to financial statement audits affect audit delay in a sample of 292 firm-year observations drawn from the pre-SOX 404 period. Using survey data from the Institute of Internal Auditors (IIA), we develop a comprehensive proxy for IAF quality; we measure different aspects of IAF quality (e.g., competence, objectivity, fieldwork rigor); and we measure the nature of the IAF's contribution to financial statement audits (independently performed work and direct assistance). Results indicate audit delay is decreasing in IAF quality, and this decrease is driven by IAF competence and fieldwork quality. Delay is four days shorter when IAFs contribute to external audits by independently performing relevant work. High-quality IAFs contribute to financial statement audits by independently performing relevant work, while low-quality IAFs provide direct assistance.

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