Audit Adjustments and Public Sector Audit Quality

Abstract

In the context of austerity-inspired reforms to public audit in England we investigate the extent to which audit firms mitigate management bias in public sector financial reports. A substantial body of literature finds that both public and not-for-profit managers manage 'earnings' to report small surpluses close to zero by managing deficits upwards and surpluses downwards. Under agency theory, auditors acting in the interests of their principal(s) would tend to reverse this bias. We exploit privileged access to pre-audit financial statements in the setting of the English National Health Service (NHS) to investigate the impact of audit adjustments on the pre-audit financial statements of English NHS Foundation Trusts over the period 2010-2011 to 2014-2015. We find evidence that auditors act to reverse management bias in the case of Trusts with a pre-audit deficit, but find no evidence that this is the case for Trusts with a pre-audit surplus. In the case of Trusts in surplus, these findings are consistent with auditors' interests being aligned with management, rather than principals.

Earnings management in public-sector organizations: a structured literature review

“…Although these models are used for analyzing accounting EM in sub-national governments and entities operating within national or sub-national governments (e.g. Pina et al , 2012; Ferreira et al , 2013; Greenwood and Zhan, 2019), several other approaches are also used. Some studies proposed their own models (e.g.…”

“…In addition to this, there is one case study analyzing one Finnish municipality (Vinnari and N€ asi, 2008). Six articles analyzed healthcare organizations (Ballantine et al, 2007(Ballantine et al, , 2008Greenwood et al, 2017;Greenwood and Zhan, 2019;Ibrahim et al, 2019;Anagnostopoulou and Stavropoulou, 2021), while only three studies (Capalbo et al, 2014(Capalbo et al, , 2020Gaio and Pinto, 2018) concentrated on state-owned enterprises. The remaining articles focused on other issues (e.g.…”

“…Articles in the residual sub-category “other” mainly concentrated on EM in healthcare organizations (e.g. Ballantine et al , 2008; Greenwood and Zhan, 2019; Wen et al , 2019). As for articles focused on local governments, it seems that less recent studies (Stalebrink, 2007; Pinnuck and Potter, 2009) aimed to assess the magnitude of EM behavior, while more recent articles mainly studied the determinants of EM, especially focusing on the role of political factors and political competition (e.g.…”

Public interest entities in the context of accounting and auditing legislation in the wake of the globalization process

“…As a result of historical development, accounting and auditing have been formed as complex and controversial professions [17] that are closely interrelated RK Mautz and HA Sharaf define the audit as follows: [3,5,18]. Audit has its roots in logic and not in accounting.…”

Accounting for the Public Sector at a Time of Crisis

“…Moreover, using earnings management techniques originating in private sector settings, public sector managers can bias the financial numbers for their own purposes; with even the audit requirement not acting as a sufficiently disciplining force. Evidence of this is included in this Special Issue with respect to UK hospital trusts (Greenwood and Zhan, ). Overall, such practices have the potential to undermine trust.…”