An experimental investigation of the interaction effect of management training ground and reporting lines on internal auditors’ objectivity

Abstract

Seventy‐nine experienced internal auditors participated in an experiment investigating two factors that may affect internal auditors’ objectivity: (1) whether the internal audit function is used as a management training ground, and (2) whether the internal auditors’ reporting line is to management or the audit committee. Participants completed a case wherein management and the audit committee hold conflicting preferences regarding a major corporate investment opportunity. Participants evaluated relevant business risks and made an overall recommendation concerning the investment. The results include three important findings. First, we observe an interaction effect between management training ground and reporting line. When the internal audit function is not used as a management training ground, internal auditors’ risks assessments do not significantly differ by reporting line. However, when the internal audit function is used as a management training ground, internal auditors’ risk assessments align with management's preferences when auditors report to senior management versus the audit committee. Second, when the internal audit function is a management training ground, internal auditors provide more favorable investment recommendations (i.e., consistent with management's preferences). Third, internal auditors unexpectedly provided more favorable recommendations to the audit committee than to management.

New Frontiers for Internal Audit Research*

“…Research shows that using the IAF as an MTG yields recruiting benefits (Burton et al 2014), greater reliance on internal auditor recommendations (Carcello et al 2018), and improved risk management (Carcello et al 2020). However, research also shows lower financial reporting quality (Christ et al 2015;Abbott et al 2016;Bills et al 2021), increased external audit fees (Messier et al 2011), reduced objectivity (Norman et al 2010;Hoos et al 2018), and reduced efficiency in operations (Anderson et al 2012).…”

Internal Audit Characteristics and Managerial Discretion in Financial Reporting

“…Other companies rotate existing non-IAF employees into their IAF for a predetermined amount of time with the promise of promotion to a higher-level position afterward (Chadwick 1995). Prior professional and academic research finds mixed results on the balance of benefits to management versus threats to the objectivity of the IAF operating under an MTG policy (e.g., Stewart and Subramaniam 2010;Hoos, Messier, Smith and Tandy 2018).…”

“…External auditors also charge higher fees when they perceive the IAF to be less objective (Messier et al 2011). Prior research commonly finds that some internal auditors tend to side more with management's preferences, which could negatively affect their objectivity (Rose et al 2013;Hoos et al 2018). Christ et al (2015) suggest that compensating controls could mitigate these negative consequences.…”

“…Managers' responses to the use of the IAF as an MTG could influence the effect of continuous auditing on the likelihood they engage in earnings management. One threat to auditors in an MTG occurs when managers exploit their influence over the auditors' future career trajectory (e.g., Hoos et al 2018;Rose et al 2013;Messier et al 2011). Managers could perceive the IAF to be more objective when the IAF is not used as an MTG because they are more likely to report incidences of opportunistic behavior (e.g., Barr-Pulliam 2019;Gonzalez and Hoffman 2018).…”

Reorentasi Audit Internal Untuk Melawan Korupsi Pengadaan

“…Roussy (2013) mengungkapkan bahwa auditor internal dalam memberikan assurance dan consulting seringkali jatuh pada sikap grey independence dengan mengorbankan Independensi mereka untuk melayani kepentingan puncak. Hal ini dapat menyebabkan tidak tercapainya kualitas audit yang mencerminkan independensi laporan audit internal (Hoos, Messier, Smith, & Tandy, 2018;Wang & Fargher, 2017). Oleh karena itu, pekerjaan auditor internal sebelum melakukan audit internal adalah perlu melakukan identifikasi risiko dini, pemantapan kualitas misi audit internal, dan konsisten dengan perannya untuk menghasilkan output audit internal yang berkualitas.…”