OVERDUE FINES ARE 25¢ PER DAY PER ITEM Return to book drop to remove this checkout from your record. INDEPENDENCE AND THE CERTIFIED PUBLIC ACCOUNTANT: AN EMPIRICAL ANALYSIS BY Duane R. Milano A DISSERTATION Submitted to Michigan State University in partial fulfillment of the requirements for the degree of DOCTOR OF PHILOSOPHY Department of Accounting and Financial Administration 1979 © Copyright by DUANE R. MILANO 1979 ABSTRACT INDEPENDENCE AND THE CERTIFIED PUBLIC ACCOUNTANT: AN EMPIRICAL ANALYSIS BY Duane R. Milano The objective of this study was to obtain a better understanding of how various users of certified financial statements perceived the potential effect of possible changes in the CPA-client relationship. There were six possible changes that were considered. They were: 1) Mandated rotation of audit firms; 2) Required disclosure of independent auditors in a management report; 3) A pro- hibition on gifts and discount purchases from clients; 4) A prohibition of executive search and placement ser- vices; 5) Required handling of fees and arrangements for independent auditors In? an audit committee; 6) Required selection and payment of independent auditors by the government. A questionnaire approach was used to solicit the perceptions of Certified Public Accountants, Certified Financial Analysts, and Corporate Bar members. These per- ceptions were then analyzed and compared to the Duane R. Milano recommendations of the American Institute of Certified Pub- lic Accountants Commission on Auditors' Responsibilities. The conclusions based on the results of the analy- sis of the data were: 1. Although most groups felt that rotation of independent auditors would increase inde- pendence, they felt that the costs would exceed the benefits desired from the in- creased independence. When considering disclosure of independent auditor changes in a management report, most groups felt that independence would be increased and that the costs would be exceeded by the benefits of such disclosure. All groups felt that a prohibition on gifts and discount purchases from clients would increase independence and the benefits would exceed the costs. There was a consensus that independence would be increased by a prohibition on execu- tive search and placement services. There was, however, a difference of opinion regarding the relationship of costs and benefits. Most respondent groups indicated that having fees and arrangements for the independent auditors handled by an audit committee would Duane R. Milano increase independence. At the same time there was disagreement about the balance between costs and benefits. 6. There was a nearly unanimous response that government selection and payment of auditors would increase independence. Also nearly unanimous was the response that costs would be greater than the benefits. In those instances where there seemed to be a con- sensus of the respondents, the position taken by the Com- mission on Auditors' Responsibilities was validated. DEDICATION To Fiesty, Muff and all the rest of God's little creatures who have helped to make this a better world to live in. Also to my dearest Patricia, who has been my whole world these past eleven years. iii ACKNOWLEDGEMENTS When a person has spent as long achieving a degree as I have, the list of indebtedness could fill a book by itself. I would however like to mention some of the special people. A special thanks to Steven C. Dilley for working with me during the inception of this topic. His promptings came at a time when they were most needed. To David R. L. Gabhart and Gardner M. Jones a big thank you for all their time and help in cleaning up my writing or lack of it. A big thanks goes to Harold M. Sollenberger for securing funds to aid in continuing when things seems bleak, and to Arthur Young and Company for the funds pro- vided. Touche Ross & Co., especially Michael Clelland, gave freely of their expertise and computer facilities during the early stages of this project. Jo McKenzie has been extremely helpful in getting all of my paperwork completed and typing the final draft. Carmella Pinto has done an outstanding job of editing. Although I am sure that I have at times disappointed them, I owe so much to so many teachers and professors who stood by me and gave that extra incentive when I needed it most. Although they are too numerous to name all of them, iv Anna Thurston, Mary Patterson, James C. Armstrong, and Roland F. Salmonson require special mention. Geraldine F. Dominiak has given freely of her time and comments. She was especially helpful with encourage— ment at the needed times. In a matter as important as a dissertation com- mittee, I was blessed with an outstanding team of knowledge- able and giving people. All offered their time freely and were always ready with a helping word. Fredric H. Jacobs and Leroy A. Olson guided me through many rough spots, and were a great help. I will never be able to repay the debt I owe to my chairman and dear friend Alvin A. Arens. His faith in me, his time, and his example have inspired me to continue when often I would have given up. When a person has in-laws as supportive as I, the going is always easier. Thank you Mom and Dad Loomis. Irene A. Milano, my friend and mother who taught me to reach for the stars but also to keep my feet on the ground, has instilled in me all the good that I am. Any bad that may be a part of me was not of her doing. As important as all the above people were in com- pleting this dissertation, their work would be for naught if a creature with the patience of Job, and a heart as big as a house, had not entered my life. She cried with me in times of sorrow, laughed with me in times of joy and guided me in times of indecision. She also was my keypunch operator for my data, my typist for the pr0posa1 through to V the final copy of the dissertation. She was my everything. thank you Patricia. Finally, I would like to thank the good Lord for bringing all of the above people into my life, and for giving me good health of body, mind and soul. vi LIST OF TABLES. Chapter TABLE OF CONTENTS I. INTRODUCTION . . . . . . . . . . . . . Objectives of the Study. . . . . . . Issues to be Investigated. . . . . . Hypotheses of the Study. . . . . . . General Hypotheses . . . . . . . Specific Hypotheses. . . . . . . Independence and the Indepen- dent Auditor. . . . . . . . . . . . Historical Perspective . . . . Defined. . . . . . . . . . . . . Increasing the auditor's power . Conscious and subconscious impairment. . . . . . . . . . . AICPA Guidelines . . . . . . . . Dimensions of independence . . . Independence in appearance . . . Independence and this research . Early stages . . . . . . . Problems with public image Moss Report. . . . . . . . . . Metcalf Report . . . . . . . . . Commission on Auditors' Respon- sibilities. . . . . . . . . . . Commission on Auditors' Respon- sibilities Reviewed . . . . . . . . General comments . . . . . . . . Other services . . . . . . . . . Appointment of directors . . . . Time-budget pressures. . . . . . Rotation of auditors/firms . . . Changes in auditors. . . . . . Policies on gifts and discounts. Executive search and placement . Fees and arrangements for inde- pendent auditors. . . . . . . . Government selection and payment of independent auditors . . . . vii Page XV bwle-J H mmm Chapter Limitations of Study . Organization of the Study. II. EMPIRICAL STUDIES OF INDEPENDENCE. Introduction . . John Grant Rhode Primary research issues. Research methodology . Major findings related to this research Wai P. Lam . . . Research methodology . Major conclusions. Relationship to current research Mautz and Neumann. Research methodology . Major findings related this research David Lavin. . . Primary research issue Research methodology . Major conclusions. Bedingfield and Loeb . Primary research issue Research methodology . Major findings related this research Dermer, Evans, and Pick. Research methodology Major conclusions. Pierre L. Titard Research methodology Major conclusions and relation— ship to this research Allan Seymour Rosenbaum. Primary research issue Major conclusions. Abraham J. Briloff Research methodology Major conclusions. Arthur A. Schulte, Jr. Research methodology Major conclusions. Summary. . . . . III. DATA: Introduction . . Populations. to o o o o 0 r1- 0 o O SOURCES, CHARACTERISTICS AND PROCEDURES FOR GATHERING. Page 25 26 28 47 47 47 Chapter VII. Page -5: Years of experience--Independ- ence with SEC registered firms . . . 142 -6: Years of experience--Independ- ence with non-SEC registered firms . 144 —7: Years of experience--Costs/ :Benefits with SEC registered firms . 144 -8: Years of experience--Costs/ HBenefits with non-SEC regis- tered firms. . . . . . . . . . . . . 146 Ho-9: CPA Breakdown--Independence with SEC registered firms. . . . . . 148 Ho-lo: CPA Breakdown--Independence with non-SEC registered firms. . . . 148 HO-llz CPA Breakdown--Costs/Benefits with SEC registered firms. . . . 151 H0-12: CPA Breakdown--Costs/Benefits with non-SEC registered firms. . . . 151 Data Review. . . . . . . . . . . . . . . . 152 Hypotheses rejected. . . . . . . . . . 152 Analysis of means of independ- ence decision. . . . . . . . . . . . 153 Analysis of means of costs/benefits. . 154 Conclusions. . . . . . . . . . . . . . . . 156 CHOOmOm EXECUTIVE SEARCH AND PLACEMENT . . . . . . . 157 Literature Review. . . . . . . . . . . 157 Arguments for executive search and placement. . . . . . . . . . . . 158 Arguments against executive search and placement. . . . . . . . . . . . 159 Committee positions. . . . . . . . . . 160 Analysis of Data . . . . . . . . . . . . . 161 Specific hypotheses. . . . . . . . . 161 HO- -1: CPAs/CBMs/CFAs--Independence with SEC registered firms. . . . . . 168 H -2: CPAs/CBMs/CFAs--Independence Hwith non-SEC registered firms. . . . 168 -3: CPAs/CBMs/CFAs-—Costs/Benefits :with SEC registered firms. . . . 171 -4: CPAs/CBMs/CFAs--Costs/Benefits :with non-SEC registered firms. . . . 172 -5: Years of experience--Independ— ence with SEC registered firms . . . 173 -6: Years of experience--Independ- ence with non-SEC registered firms . 173 H-7: Years of experience--Costs/ Benefits with SEC registered firms . 176 H-8: Years of experience--Costs/ Benefits with non-SEC regis- tered firms. . . . . . . . . . . . . 177 CHOOEOMOOCC xi Chapter V. VI. DISCLOSURE OF INDEPENDENT AUDITOR CHANGES O O C O O O O O O I C O O O O O O 0 Literature Review. . . . . . . . . . . . . Analysis of Data . . . . . . . . . . . . . Specific hypotheses. . . . . . Ho- -1: CPAs/CBMs/CFAs--Independence with SEC registered firms. . . . . . HO-Z: CPAs/CBMs/CFAs--Indepencence with non-SEC registered firms. . . . -3: CPAs/CBMs/CFAs--Cost/Benefits Hwith SEC registered firms. . . H-4: CPAs/CBMs/CFAs--Costs/Benefits Hwith non-SEC registered firms. . . . -5: Years of experience--Independ- ence with SEC registered firms . . . H-6: Years of experience--Independ- ence with non-SEC registered firms . H -7: Years of experience-~Costs/ Benefits with SEC registered firms . HO-8: Years of experience--Costs/ Benefits with non-SEC regis- tered firms. . . . . . . . . . . . . H-9: CPA Breakdown--Independence Hwith SEC registered firms. . . . . . -10: CPA Breakdown--Independence :with non-SEC registered firms. . . . -11: CPA Breakdown--Costs/Benefits Hwith registered firms. . . . . . . Ho-12: CPA Breakdown-—Costs/Benefits with non-SEC registered firms. . . . Data Review. . . . . . . . . . . . . . . . Hypotheses rejected. . . . . . . . . . Analysis of means of independ- ence decisions . . . . . . . . . Analysis of means of costs/benefits. . Conclusions. . . . . . . . . . . . . . . . Drum:=J:OCDC>u'= OmOHO GIFTS AND DISCOUNT PURCHASES . . . . . . . . Literature Review. . . . . . . . . . . . . Analysis of Data . . . . . . . . . . HO- -1: CPAs/CBMs/CFAs—-Independence with SEC registered firms. . . . . . Ho-Z: CPAs/CBMs/CFAs--Independence with non-SEC registered firms. . . . Ho-3: CPAs/CBMs/CFAs--Costs/Benefits with SEC registered firms. . . H0-4: CPAs/CBMs/CFAs--Costs/Benefits with non-SEC registered firms. . . . Page 101 101 103 103 109 111 111 113 114 116 116 118 120 122 122 124 125 125 126 128 129 130 130 131 137 139 139 141 Chapter Page HO-S: Years of experience--Independ- ence with SEC registered firms . . . 142 H -6: Years of experience--Independ- ence with non-SEC registered firms . 144 H0-7: Years of experience--Costs/ Benefits with SEC registered firms . 144 H0-8: Years of experience--Costs/ Benefits with non-SEC regis- tered firms. . . . . . . . . . . . . 146 H0-9: CPA Breakdown--Independence with SEC registered firms. . . . . . 148 HO-IO: CPA Breakdown--Independence with non—SEC registered firms. . . . 148 H -11: CPA Breakdown--Costs/Benefits with SEC registered firms. . . . . 151 Ho-12: CPA Breakdown--Costs/Benefits with non—SEC registered firms. . . . 151 Data Review. . . . . . . . . . . . . . . . 152 Hypotheses rejected. . . . . . . . . . 152 Analysis of means of independ- ence decision. . . . . . . . . . . 153 Analysis of means of costs/benefits. . 154 Conclusions. . . . . . . . . . . . . . . . 156 VII. EXECUTIVE SEARCH AND PLACEMENT . . . . . . . 157 Literature Review. . . . . . . . . . . 157 Arguments for executive search and placement. . . . . . . . . . . . 158 Arguments against executive search and placement. . . . . . . . . . . . 159 Committee positions. . . . . . . . . . 160 Analysis of Data . . . . . . . . . . . . . 161 Specific hypotheses. . . . . . . . . 161 Ho- 1: CPAs/CBMs/CFAs--Independence with SEC registered firms. . . . . . 168 H -2: CPAs/CBMs/CFAs--Independence Hwith non-SEC registered firms. . . . 168 -3: CPAs/CBMs/CFAs--Costs/Benefits :with SEC registered firms. . . . 171 -4: CPAs/CBMs/CFAs--Costs/Benefits Hwith non-SEC registered firms. . . . 172 H-S: Years of experience--Independ- ence with SEC registered firms . . . 173 H-6: Years of experience--Independ- ence with non-SEC registered firms . 173 H-7: Years of experience--Costs/ HBenefits with SEC registered firms . 176 8: Years of experience--Costs/ HBenefits with non-SEC regis- tered firms. . . . . . . . . . . . . 177 OWOOOOmOm xi Chapter VIII. 9: CPA Breakdown--Independence :with SEC registered firms. . . . . . -10: CPA Breakdown—-Independence :with non-SEC registered firms. . . . -11: CPA Breakdown-~Costs/Benefits Hwith SEC registered firms. . . . . H0-12: CPA Breakdown—-Costs/Benefits with non-SEC registered firms. . . . Data Review. . . . . . . . . . . . . . . . Hypotheses rejected. . . . . . . . . . Analysis of means of independ— ence decision. . . . . . . . . . . Analysis of means of costs/benefits. . Conclusions. . . . . . . . . . . . . . . . CHOOm FEES AND ARRANGEMENTS FOR AUDITORS . . . . . Literature Review. . . . . . . . . . . . . Analysis of Data . . . . . . . . . . . . . Specific hypotheses. . . . . . HO- -1: CPAs/CBMs/CFAs--Independence with SEC registered firms. . . . . H -2: CPAs/CBMs/CFAs--Independence with non-SEC registered firms. . . . Ho-3: CPAs/CBMs/CFAs--Costs/Benefits with SEC registered firms. . . . -4: CPAs/CBMs/CFAs--Costs/Benefits :with non-SEC registered firms. . . . -5: Years of experience--Independ- ence with SEC registered firms . . . -6: Years of experience--Independ- ence with non-SEC registered firms . —7: Years of experience--Costs/ :Benefits with SEC registered firms . -8: Years of experience--Costs/ HBenefits with non-SEC regis- tered firms. . . . . . . . . . . . . H-9: CPA Breakdown--Independence Hwith SEC registered firms. . . . . . -lO: CPA Breakdown--Independence :with non-SEC registered firms. . . . -11: CPA Breakdown-~Costs/Benefits Hwith SEC registered firms. . . . . Ho-12: CPA Breakdown--Costs/Benefits with non-SEC registered firms. . . . Data Review. . . . . . . . . . . . . . . . Hypotheses rejected. . . . . . . . . . Analysis of means independ- ence decision. . . . . . . . Analysis of means of costs/benefits. . Conclusions. . . . . . . . . . . . . . . . CHOOWOO OEOHO xii Page 178 178 181 182 183 183 183 185 186 187 187 189 189 196 196 199 199 201 201 204 205 206 206 209 210 210 210 211 213 214 Chapter IX. GOVERNMENT SELECTION AND PAYMENT OF AUDITORS Literature Review. . . . . . . . . . . . . Analysis of Data . . . . . . . . . . . . -1: H0with H -2: with H -3: with H -4: 0with Ho-S: ence H -6: 0ence H -7: O H -8: O CPAs/CBMs/CFAs--Independence SEC registered firms. . . . . . CPAs/CBMs/CFAs--Independence non-SEC registered firms. . . . CPAs/CBMs/CFAs-—Costs/Benefits SEC registered firms. . . . . CPAs/CBMs/CFAs--Costs/Benefits non-SEC registered firms. . . . Years of experience-~Independ— with SEC registered firms . . . Years of experience--Independ- with non-SEC registered firms . Years of experience--Costs/ Benefits with SEC registered firms . Years of experience--Costs/ Benefits with non-SEC regis- tered firms. . . . . . . . . . . . . H-9: Hwith -10: :with -11: Hwith H0-12: with DWI-:00 CPA Breakdown--Independence SEC registered firms. . . . . . CPA Breakdown—-Independence non-SEC registered firms. . . . CPA Breakdown-—Costs/Benefits SEC registered firms. . . . . CPA Breakdown--Costs/Benefits non-SEC registered firms. . . . Data ReView. O O O O O O O O O O O O O O O Hypotheses rejected. . . . . . . . . . Analysis of means of independ- ence decision. . . . . . . . . . . Analysis of means of costs/benefits. . Conclusions. . . . . . . . . . . . . . . . X. SUMMARY AND CONCLUSIONS. . . . . . . . . . . Summary. . Rotation of audit firms. . . . . . . . Disclosure of independent auditor changes. . . . . . . . . . . Gifts and discount purchases . . . . . Executive search and placement. . . Fees and arrangements for auditors . . Government selection and payment of auditors. . . . . . . . . . . . . Over-all Comparisons . . . . . . . . . . . Possible Limitations of Research . . . . . Possible extensions of this research . Conclusions. . . . . . . . . . . . . . . . xiii Page 216 216 217 224 224 224 228 229 229 232 233 234 234 237 238 239 239 239 240 242 243 243 244 246 247 248 249 251 252 255 256 258 Appendix A . . B . . C . . D . . E . . Bibliography xiv Page 260 263 266 269 270 271 Table III-l III-2 III-3 III-4 III-5 III-6 III-7 III-8 III-9 IV-1 IV-2 IV-3 IV-4 IV-5 IV-6 IV-7 IV-8 IV-9 LIST OF TABLES Sample Breakdown of CPAs by Firm Size. . . . . . . . . . . . . . . Breakdown of CPA Sample and Population . Analysis of Undeliverable Questionnaires Breakdown of Responses to Both Mailings. Analysis of Inappropriate Subjects . . . Breakdown of All CPA Responses . . . . . Breakdown of Practicing CPAs . . . . . . Breakdown of Corporate Bar Member Responses. . . . . . . . . . . . . . . Breakdown of CPA Responses . . . . . . . CPAs/CBMs/CFAs—-Independence SEC Firms . CPAs/CBMs/CFAs--Independence SEC Firms . CPAs/CBMs/CFAs--Independence Non- SEC Firms. . . . . . . . . . . . . . . CPAs/CBMs/CFAs--Costs/Benefits SEC Firms CPAs/CBMs/CFAs--Costs/Benefits Non- SEC Firms 0 O O O C .0 O O O O O O C O 0 Experience Groups--Independence SEC Firms- Experience Groups--Independence Non- SEC Firms. 0 O O O O O O C O O O O O 0 Experience Groups--Costs/Benefits SEC Firms. Experience Groups--Costs/ Benefits Non- SEC Firms 0 O O O O O O O O O O O O O O XV Page 52 53 58 60 60 61 62 63 64 79 80 81 82 83 85 86 87 88 Table IV-lO IV—ll IV-12 IV-13 IV-14 IV-lS V-l V-9 V-lO V-11 V-12 V-l3 VI-l VI-2 Breakdown of CPA Firm Size . . . . . . . Big Fifteen—-Independence SEC Firms. . . Big Fifteen--Independence Non- SEC Firms. 0 O O O O I O O O O O O O 0 Big Fifteen--Costs/Benefits SEC Firms. . Big Fifteen--Costs/Benefits Non— SEC Firms. 0 O O O O O O O O O O O O 0 Comparison of Group Means--Rotation. . . CPAs/CBMs/CFAs—-Independence SEC Firms . CPAs/CBMs/CFAs--Independence Non SEC FimSo O O O O O O C O O O O O O O CPAs/CBMs/CFAs--Costs/Benefits SEC Firms CPAs/CBMs/CFAs--Costs/Benefits Non- SEC Firms. 0 O O O O O O O O I O O O 0 Experience Groups--Independence SEC Firms. Experience Groups--Independence Non- SEC Firms. 0 O O O O O O O O O O O O 0 Experience Groups--Costs/Benefits SEC Firms 0 O O O C O O O O O O O O O 0 Experience Groups-~Costs/Benefits Non- SEC Firms 0 O 0 O O O O O C O C C O O 0 Big Fifteen-~Independence SEC Firms. . . Big Fifteen--Independence Non-SEC Firms. Big Fifteen--Costs/Benefits SEC Firms. . Big Fifteen--Costs/Benefits Non- SEC Firms I O O O O O O O O O O O O O 0 Comparison of Group Means--Disclosure. . CPAs/CBMs/CFAs--Independence SEC Firms . CPAs/CBMs/CFAs--Independence Non- SEC Firms 0 O O O O O O O I O O O O O O xvi Page 89 91 93 94 94 97 110 112 113 114 115 117 118 119 121 123 124 125 127 138 140 Table Page VI-3 CPAs/CBMs/CFAs-—Costs/Benefits SEC Firms . . 141 VI-4 CPAs/CBMs/CFAs--Costs/Benefits Non- SEC Firms. . . . . . . . . . . . . . . . . 142 VI-S Experience Groups--Independence SEC Firms. . 143 VI-6 Experience Groups--Independence Non- SEC Firms. . . . . . . . . . . . . . . . . 145 VI-7 Experience Groups-~Costs/Benefits SEC Firms. 0 O O O O O O O O O O O 0 O O O 146 VI-8 Experience Groups--Costs/Benefits Non- SEC Firms. 0 O O O O O O O O O O C O O 0 O 147 VI-9 Big Fifteen--Independence SEC Firms. . . . . 149 VI-10 Big Fifteen--Independence Non-SEC Firms. . . 150 VI-ll Big Fifteen--Costs/Benefits SEC Firms. . . . 151 VI-12 Big Fifteen-~Costs/Benefits Non- SEC Firms. . . . . . . . . . . . . . . . . 152 VI-l3 Comparison of Group Means—-Gifts . . . . . . 155 VII-1 CPAs/CBMs/CFAs--Independence SEC Firms . . . 169 VII-2 CPAs/CBMs/CFAs--Independence Non- SEC Firms. . . . . . . . . . . . . . . . . 170 VII-3 CPAs/CBMs/CFAs--Costs/Benefits SEC Firms . . 171 VII-4 CPAs/CBMs/CFAs--Costs/Benefits Non- SEC Firms. . . . . . . . . . . . . . . . . 172 VII-5 Experience Groups--Independence SEC Firms. . 174 VII—6 Experience Groups--Independence Non- SEC Finns. O O O O O O O O O O O O O O O O 175 VII-7 Experience Groups-—Costs/Benefits SEC Firms. 0 O O O O O O O O I O O O O O O 176 VII-8 Experience Groups--Costs/Benefits Non- SEC Firms. 0 I O O O O O O O O O O O O O O 177 VII-9 Big Fifteen--Independence SEC Firms. . . . . 179 VII-10 Big Fifteen--Independence Non-SEC Firms. . . 180 xvii Table VII-ll VII-12 VII-13 VIII-l VIII-2 VIII-3 VIII-4 VIII-5 VIII-6 VIII-7 VIII-8 VIII-9 VIII-10 VIII-11 VIII-12 VIII-l3 IX-l IX-2 IX-3 IX-4 IX-S Big Fifteen--Costs/Benefits SEC Firms. . Big Fifteen--Costs/Benefits Non- SEC Firms. . . . . . . . . . . . . . . Comparison of Group Means--P1acement . . CPAs/CBMs/CFAs--Independence SEC Firms . CPAs/CBMs/CFAs--Independence Non- SEC Firms. . . . . . . . . . . . . . . CPAs/CBMs/CFAs--Costs/Benefits SEC Firms CPAs/CBMs/CFAs--Costs/Benefits Non- SEC Firms. 0 O O O O O O O O I O I O 0 Experience Groups-—Independence SEC Firms. Experience Groups--Independence Non- SBC Firms. 0 O O O O O O O O O O O O 0 Experience Groups--Costs/Benefits SEC Firms. 0 O O O O O O O O O O O O 0 Experience Groups--Costs/Benefits Non- SEC Firms. O O O O O C O O O O O O O 0 Big Fifteen--Independence SEC Firms. . . Big Fifteen-~Independence Non— SEC Firms. 0 C O O O C C O C O O O O 0 Big Fifteen—-Costs/Benefits SEC Firms. . Big Fifteen--Costs/Benefits Non- SEC Firms 0 O O O O O O C I O O O O I 0 Comparison of Group Means--Fees. . . . . CPAs/CBMs/CFAs--Independence SEC Firms . CPAs/CBMs/CFAs--Independence Non- SEC Firms. 0 O O O O O O O O O O O O O CPAs/CBMs/CFAs--Costs/Benefits SEC Firms CPAs/CBMs/CFAs--Costs/Benefits Non- SEC Firms. 0 O O O O O O O O O O O O 0 Experience Groups--Independence SEC Firms. xviii Page 181 182 184 197 198 200 200 202 203 204 205 207 208 209 210 212 225 226 227 228 230 Table IX-6 IX-7 IX-8 IX-9 IX-lO IX-ll IX-12 IX-13 Experience Groups--Independence Non- SEC Firms. 0 O I O O O O O O O O O O 0 Experience Groups-—Costs/Benefits SEC Firms. 0 O O O O O O O O O O O O 0 Experience Groups--Costs/Benefits Non- SEC Firms. 0 O O O O O O O O C C O O 0 Big Fifteen--Independence SEC Firms. . . Big Fifteen--Independence Non— SEC Firms. 0 O I O O O O O O I O O I 0 Big Fifteen--Costs/Benefits SEC Firms. . Big Fifteen--Costs/Benefits Non- SEC Firms. . . . . . . . . . . . . . . Comparison Summary of Comparison Comparison of Group Means--Government. . Statistical Tests . . . . . . of Means--All Independence. . of Means--All Costs/Benefits. xvix Page 231 232 233 235 236 237 238 241 245 253 254 CHAPTER I INTRODUCTION Objectives of the Study The purpose of this study is to examine the rela- tionship between Certified Public Accountants (CPAs) and their clients, focusing on the issue commonly known as independence. This will be done by examining empirically indicated perceptions of various groups of users of accoun- ting data. The issues to be investigated are raised in the American Institute of Certified Public Accountants (AICPA) sponsored report titled The Commission on Auditors' Respon- sibilities: Report, Conclusions and Recommendations, (Cohen Report).1 More specifically, the objectives of this study are to: 1. Collect and analyze (separately and collec- tively) the perceptions of individual users of accounting data of the effect of potential changes on the independence of CPAs. 1American Institute of Certified Public Accountants, Commission on Auditors' Responsibilities, Commission on Auditors' Responsibilities: Report, Conclusions and Recom- mendations (New York: American Institute of Certified Public Accountants, 1978). 2 Collect and analyze the perceptions of these same individuals on whether the potential changes should be made when considering the costs and benefits to society as a whole. Contrast the data in (1) and (2) with the positions taken by the Cohen Report with respect to the potential changes. Issues to be investigated The six potential changes in the auditor/client relationship to be investigated are: 1. 2. Rotation of independent audit firms. Disclosure of independent auditor changes in a management report accompanying the financial statements. Adoption of policies on gifts and discount purchases from clients by independent audi- tors. End executive search and placement services by independent auditors for audit clients. That fees and arrangements for independent auditors to be determined by an audit com— mittee. Government selection and payment of inde- pendent auditors. 3 Hypotheses of the Study General hypotheses The general hypotheses for this study are: There is consensus among AICPA members regarding their perceptions of inde- There is a consensus among AICPA members regarding their perceptions of inde— There is no consensus among members of the Corporate Bar regarding their per- ceptions of independence.2 There is consensus among Corporate Bar members regarding their perceptions of independence. There is no consensus among members of the Institute of Chartered Financial Analysts (ICFA) regarding their percep- tions of independence. There is consensus among ICFA members regarding their perceptions of inde- There are no differences between members 1. Ho: pendence. H1: pendence. 2. H0. H1: 3. H0: H1: pendence. 4. Ho: 2 Although the entire name is the Section of Cor- poratiOn, Banking and Business Law of the American Bar Association, for purposes of brevity it is here shortened to Corporate Bar. 4 of the AICPA, Corporate Bar and ICFA, regarding independence. H1: There are differences between members of the AICPA, Corporate Bar and ICFA, regarding independence. Specific hypotheses In each of the chapters dealing with data analysis, more specific hypotheses will be given. At that point the hypotheses will be formulated in terms of the separate issues to be investigated. Another level of specializa- tion of the hypotheses will encompass 1) effect on inde- pendence and 2) effect on costs/benefits. Examples of the specific hypotheses follow: 1. Ho-l: There are no significant differences between members of the AICPA, Corporate Bar and ICFA, regarding their percep- tions as to the effect that rotation of audit firms will have on the CPA's independence with respect to the CPA's SEC registered clients. Hl-lz There are significant differences be- tween members of the AICPA, Corporate Bar and ICFA, regarding their percep- tions as to the effect that rotation of audit firms will have on the CPA's independence with respect to the CPA's 5 SEC registered clients. 2. H -3: There are no significant differences between members of the AICPA, Corpo- rate Bar and ICFA, regarding their perceptions as to the costs and bene- fits to society as a whole, of rotating audit firms for SEC registered firms. 1-3: There are significant differences be- tween members of the AICPA, Corporate Bar and ICFA, regarding their percep- tions as to the costs and benefits to society as a whole, of rotating audit firms for SEC registered firms. Independence and the Independent Auditor This section of the research will look at various uses of the term independence and how the term is to be used in this research. Below is an examination of various uses of the term independence, and its use in this study is made clear. Defined As defined by A Dictionary for Accountants, inde- pendence is: The property of a relation between the accoun- tant and his client (or supervisor) such that the accountant's findings and reports will be influ— enced only by the "evidence" discovered and 6 assembled in accord with the rules and prin- ciples of his professional discipline.3 Over the years many authors have expressed concern about influences, other than evidence, upon the auditor. In their 1974 article, Goldman and Barlev analyze three conflicts that can exist to exert influence on a CPA.4 1. The auditor-firm conflict of interest. 2. The shareholders-management conflict of interests. 3. The self-interests-professional standards conflict. For this research we are primarily interested in the audi- tor-firm conflict of interests. We also are somewhat con- cerned with the self-interests-professional standards con- flict as defined by Goldman and Barlev, as it relates to the possible loss of audit fees. Increasing the auditor's power In their article on auditor-firm conflict,5 Nichols and Price examine a set of procedures that might be used 3Eric L. Kohler, A Dictionary for Accountants, Fourth ed. (Englewood Cliffs, New Jersey: Prentice Hall, Inc., 1970), p. 229. 4Airch Goldman and Benzion Barlev, "The Auditor-- Firm Conflict of Interests: Its Implications for Indepen- dence," The Accounting Review 49 (October 1974):707-718. 5Donald R. Nichols and Kenneth H. Price, "The Auditor—Firm Conflict: An Analysis Using Concepts of Ex— change Theory," The Accounting Review 51 (April l976):335-46. 7 to increase the ability of the auditor to withstand pres- sure to comply with the firm's demands. The three ap- proaches that they recommend are: 1. Increase the power of the auditor, primarily by increasing the ability of a replaced audi- tor to cause sanctions to be imposed on the firm resulting from unjustified replacement. 2. Increase the expected cost to the auditor and/or the firm from taking inappropriate actions. 3. Change the structure of the auditor-firm contractual relationship as a means of reducing the firm's discretionary options. This research deals with each of these procedures at some length. Conscious and subconscious impairment In their work6 Carey and Doherty address the issue of independence: It is most important not only that the CPA shall refuse consciously to subordinate his judg- ment to that of others, but that he avoid relation- ships which would be likely to warp his judgment even subconsciously in reporting whether or not the financial statements he has audited are in his opinion fairly presented. Independence in this sense means avoidance of situations which would tend to impair objectivity or create 6John L. Carey and William O. Doherty, Ethical Standards of the Accounting Profession (New York: American Institute of Certified Public Accountants, 1966). 8 personal bias which would influence delicate judgments.7 As can be seen from the above not only must the indepen- dent auditor worry about consciously subordinating his judgment to that of others but he must also avoid even the possibility of subconscious subordination of his judgment. AICPA guidelines In order to aid in the self-interest-professional standards conflict that Goldman and Barlev discussed, the AICPA has established a set of rules and guidelines to help members avoid possible impairment of their indepen- dence. Rule 101 of the Institute's Code of Professional Ethics states: A member or a firm of which he is a partner or shareholder shall not express an opinion on financial statements of an enterprise unless he and his firm are independent with respect to such enterprise. Rule 101 then lists a number of examples in which indepen— dence would be considered to be impaired.9 71bid., p. 19. 8American Institute of Certified Public Accoun- tants, Code of Professional Ethics: Concepts of Profes- sional Ethics, Rules of Conduct, Interpretations of Rules of Conduct, March, 1974 ed. (New York: American Institute of Certified Public Accountants, 1974). P. 18. 9For further research on situations in which inde- pendence might be considered to be impaired see David Lavin, "Financial Statement Users' and Accountants' Per- ceptions of the Independence of the Auditor in Selected Client-Auditor Relationships,".Ph.D. dissertation, Dimensions of independence Mautz and Sharaf refer to three dimensions of independence: 1. Programming independence: Freedom from control or undue influence in the selection of audit techniques and procedures and in the extent of their application. 2. Investigative independence: Freedom from control or undue influence in the selection of areas, activities, personal relation— ships, and managerial policies to be examined. 3. Reporting independence: Freedom from con- trol or undue influence in the statement of facts revealed by the examination or in the expression of recommendations or opin- ions as a result of the examination}0 Impairment of any of these three dimensions of independence should not be allowed by the CPA. Independence in appearance Independence must be viewed as a two-fold issue. Arens and Loebbecke deal with both aspects in their University of Illinois at Urbana-Champaign, 1974: Ann Arbor, MI: University Microfilms, GAX7S-00349, 1975; and David Lavin, "Perceptions of the Independence of the Auditor," The Accounting Review 51 (January 1976):4l-50. 10R. K. Mautz and Hussein A. Sharaf, The Philos- ophypof Auditing (Evanston, Illinois: American Accounting Assocaition, 1961), p. 206. 10 auditing text. Not only is it essential that CPAs maintain an independent attitude in fulfilling their responsibility, but it is also important that the user of financial statements have confidence in that independence. These two objectives are frequently identified as independence in fact and independence in appearance. Independence in fact exists when the auditor is actually able to maintain an unbiased attitude through- out the audit whereas independence in appearance is dependent II others' interpretation of this independence. Using the perceptions of various user groups, this study will analyze the second objective, independence in appear- ance . Independence and this research For purposes of this research, auditor independence is defined as avoidance of situations which would tend to indicate to others that impairment either consciously or subconsciously of one's judgment could take place when there is a conflict or a potential conflict between the CPA and hislher client. Historical Perspective Early stages Little was written about auditor independence before 1930. In 1937, the Securities and Exchange Commis- sion's (SEC) issuance of Accounting Series Release (ASR) 11Alvin A. Arens and James K. Loebbecke, Auditing: AnyIntegrated Approach (Englewood Cliffs, New Jersey: Prentice Hall, Inc., 1976), p. 34. 11 12 No. 2 stated its position on independence. Although The Journal of Accountancy editorialized on the issuance of ASR No. 2 in its June, 1937 issue,13 the accounting profession was slow to formalize its views on indepen- 14 did the American dence. Not until its yearbook of 1940 Institute of Accountants take an official position on the issue of independence. In the following years, both the SEC and the spokesbody for the accounting profession (first as the American Institute of Accountants and now as the American Institute of Certified Public Accountants) have issued many formal pronouncements and interpretations on the issue of independence.15 Problems with public image A significant change regarding the issue of inde- pendence occurred in 1973. Prior to the case of Equity 12United States Securities and Exchange Commis- sion, Accounting Series Releases 1-77 (Washington, D.C.: U.S. Government Printing Office, 1956), p. 3-4. 13"Independence of Accountants," Editorial, The Journal of Accountancy 63 (June l937):409-10. 14"Report of the Special Committee on Cooperation with Securities and Exchange Commission," The 1940 Year- book of the American Institute of Accountants (New York: American Institute of Accountants, 1941), pp. 230-31. The Rules of Professional Conduct as revised January 6, 1941, can also be found in this yearbook on pages 533-34. Independence is briefly referred to in these rules. 15See ASR‘s No's 22, 33, 37, 62, 81, 97, 112, 123, 126, 165 and 194 for SEC positions on independence. See also American Institute of Accountants, Committee on 12 Funding,16 there had never been, according to the informa- tion of the AICPA, an instance of actual lack of indepen- dence on the part of an auditor.17 Although the entire set of circumstances that led to the demise of Equity Funding may never be known, there are many indications that the auditors did not act with complete independence. With the issuance of its final report, the Commis— sion on Auditors' Responsibilities cited an instance in which the auditor's independence appears to have been com- 18 While the AICPA promised by providing other services. as a whole is not bound by the Commission's findings, it is significant that the Commission did consider the Auditing Procedure, "Reference to the Independent Accoun- tant in Securities Registration: Statements on Auditing Procedure No. 22," Journal of Accountancy 79 (June 1945): 465-68; American Institute of Accountants, Executive Com- mittee, "Independence of the Certified Public Accountant: A Statement by the Executive Committee of the American Institute of Accountants." Journal of Accountancy 84 (July l947):51-53; American Institute of Certified Public Accountants, Committee on Auditing Procedures, Auditing Standards and Procedures: Statements on Auditipg Proce- dure No. 33 (New York: American Institute of Certified Public Accountants, 1963). PP. 20-21; American Institute of Certified Public Accountants, Code of Professional Ethics, pp. 6-9, 18-19, 30-32. 16For background on Equity Funding see wyndham Robertson, "Those Daring Young Men of Equity Funding," Fortune 88 (August 1973):81—85 passim; Harold S. Taylor, "No End to Equity Funding," Banker's Magazine 157 (Spring l974):51-54. 17Per April 18, 1977 conversation with John Mullarkey, Director of Auditing Research for the AICPA. 18 p. 102. AICPA, Report, Conclusions and Recommendations, 13 Westec case as an issue of independence.19 In addition to these cases, there have been many recent disclosures of illegal political contributions by businesses, and several reports of payoffs (legal and illegal) to foreign dignitaries, and other go-betweens, 20 No known instances of a lack by multinational firms. of auditor independence have been reported in these dis- closures. However, since many of these contributions and payoffs were hidden by various accounting/bookkeeping techniques, and were not discovered by the independent auditors (for a number of years in some instances), there was a public outcry for better auditing techniques.21 In quick response to the mood of the public, three studies were commissioned, one each by the United States (U.S.) House of Representatives, the U.S. Senate, and the AICPA. Even though none of the studies were co-ordinated, reports were issued by all three groups within a six-month period. 19For background on Westec, see W. Thomas Porter and John C. Burton, Auditing: A Conceptual Approach (Belmont, California: Wadsworth Publiching Company, Inc., 1971). pp. 47-52, 65-66. 20"Focus on Peer Review, Illegal Payments and Law- yers' Letters," Statements in Quotes, Journal of Aqggun- tancy 141 (May 1976):90-93; "Corporate Corruption Whatrs to be Done," Economist 259 (April 3, 1976):38, 41; "Italian Oil Scandal" Big Deal," Economist 259 (April 17, 1976):86. 21Eugene Kozicharow, ”Ford Orders Review of Corpo- rate Bribery," Aviation Week and Space Technology 104 (February 16, 1976);15-16; John C. Perham, "Annual Meetings --Dissidents on the Attack," Dun's Review 107 (April 1976): 53-57; "SEC Officials Discuss Disclosure of Payoffs," New Report, Journal of Accountancy 140 (August 1975):14-17. 14 Moss Report The House report (Moss Report) was issued in September, 1976,22 the result of almost two years of in- vestigation. Unlike the reports issued by the U.S. Senate and the AICPA, the Moss Report does not deal with the accounting profession as a major topic. Its main thrust is federal regulation and reform. Chapter two, on the Securities and Exchange Commission, contains the only references to the accounting profession. Generally, the SEC is praised by the report, but the accounting profes— sion is attacked at many points. The concern for the auditor's independence can be seen in the following seg- ment of the report: To restore confidence in the system of cor- porate accountability and to protect the public interest and public investors, the SEC should require to the maximum extent practicable uni- form accounting principles and auditing stan- dards, assure that certified public accountants are effectively independent of the corporation being audited, and enforce the corporate dis- closure requirements of the federal securities laws stringently.23 (Underlining mine.) In reference to the Financial Accounting Standards Board (FASB), the committee said: The FASB has accomplished virtually nothing toward resolving fundamental accounting problems 22Federal Regulation and Regulatory Reform: Report by the Subcommittee on Oversight and Investigations of the Committee on Interstate and Foreign Commerce, ngse §§:Representatives, 98th Congress, second session, by John E. Moss, Chairman (Washington, D.C.: U.S. Government Printing Office, 1976), pp. 17-54. 23Ibid., p. 18. 15 plaguing the profession. These include the plethora of optional "generally accepted" accounting principles (GAAPs), the ambiguities inherent in many of those principles, and the manifestations of private accountants' lack of independence with respect to their cogporate clients. Considering the FASB's record, the SEC's continued reliance on the private accounting profession is questionable.24 (Underlining mine.) In a strongly worded rebuttal letter to the Moss Report, the FASB Chairman, Marshall S. Armstrong, charged that the SEC chapter of the Subcommittee's report is mis- leading in several ways. Armstrong said that the FASB was not invited to testify before the Committee, but that the Committee relied almost exclusively on the testimony of Baruch College Professor Abraham J. Briloff.25 Although no legislation has since resulted from the Moss hearings, hearings were held and Representative Moss spoke out very loudly against the accounting profes- . 26 Sion. Metcalf report Also issued in December, 1976 was the report from the Subcommittee on Reports, Accounting and Management of 24Ibid.. pp. 32-33. 25"Moss Report Says SEC Should Set Accounting/ Auditing Rules: FASB's Armstrong Issues Rebuttal," Journal of Accountancy 142 (December 1976):26-68. 26See "A Wider Public Look at What CPAs Do," Busi- ness Week, January 30, 1978, p. 71; and "Moss Hearings,” Haskip§_& Sells: The Week in Review, March 3, 1978, pp. 2—3; "Moss Plans to Introduce Regulatory Legislation," News Report, Journal of Accountancy 145 (April l978):7-8. 16 the Committee on Government Operations of the U.S. Senate (Metcalf Report).27 The Metcalf report is one of the most damning indictments ever presented against the accounting 28 establishment. One of its major conclusions was that the Big Eight accounting firms controlled the AICPA and through that control were able to establish accounting 29 principles. In one phrase (according to the Metcalf report), it could be summarily stated that the entire accounting profession lacks independence.30 Reaction to the Metcalf report from the business world and the accounting profession in particular was very strong.31 An editorial in Business Week concludes: Effective accounting standards can be devel- oped only by skilled, independent professionals. There is no place in the system for the heavy 27The Accounting Establishment: A Staff Study Prepared by the Subcommittee on Reports, Accounting and Management of the Committee on Government Operations, U.S. Senate, Ninety—Fifth Congress, Second Session, by Lee Metcalf, Chairman (Washington, D.C.: U.S. Government Printing Office, 1977). 28See ”The CPAs Get Another Lashing," Accounting, Business Week, January 31, 1977, p. 76; "Why Everybody's Jumping on the Accountants These Days," Forbes, March 15, 1977, pp. 37-43. 29This theme pervades the entire report. For some examples see Metcalf, Accounting Establishment, Pp. 4-5, 9' 11. 30 Ibid., p. v. 31See for instance: "Hanson Calls Metcalf Staff Report Illogical," News Report, Journal of Accountancy 145 (April l978):7-8. 17 hand of the well-intentioned but politically minded, inexpert bureaucrat.32 The AICPA issued a 40 page response that was mailed to all members, giving the AICPA view on the Metcalf report.33 In the May 1977 issue of the Journal of Accountancy, Chairman Michael N. Chetkovich of the AICPA issued a message to the profession calling the attention of all readers both to the Metcalf report and to the AICPA response to that report.34 The Metcalf subcommittee held hearings April-June, 1977. At the end of the hearings the subcommittee recom- mended that no legislation be initiated at that time. However, it was recommended that a close watch be kept on the accounting establishment to assure members of Congress that the profession was in fact policing itself. Commission on Auditors' Responsibilities The third major report concerning the accounting profession was issued in the spring of 1977 by the AICPA's Commission on Auditors' Responsibilities (Cohen Report).35 32"Sledgehammer Accounting," Editorials, Business Week, January 3 , 1977, p. 175. 33American Institute of Certified Public Accoun- tants, The Institute Responds: An AICPA Response to a Study Prepared by the Staff of the Subcommittee on Reports, Accounting and Management of the U.S. Senate Committee on Governmental Affairs (New York: American Institute of Certified Public Accountants, 1977). 34Michael N. Chetkovich, "A Message to the Profes- sion," Journal of Accountancy 143 (May 1977):5. 35American Institute of Certified Public Accoun- tants, Commission on Auditors' Responsibilities, Commission on Auditors' Responsibilities: Report of Tentative Conclu- sions (New York: American Ifi§titute of Certified—Public Accountants, 1977). 18 The Commission on Auditors' Responsibilities had been com- missioned in October of 1974. A major portion of the Report of Tentative Conclusions dealt with the issue of independence. The Commission solicited written comments from any interested parties and held hearings on the Report of Ten- tative Conclusions in Washington, D.C. in June, 1977. The Commission issued The Commission on Auditor's Responsibili- ties: Report, Conclusions and Recommendations in February, 1978. The findings of this research will be compared with this final report.36 Commission on Auditors' Responsibilities Reviewed General comments As stated above, The Commission on Auditors' Respon- sibilities: Report, Conclusions and Recommendations, is the focus for this research. The six issues to be re— searched were drawn from Section 9 of this report. These are not the only six issues, nor even the six most impor- tant, but rather the ones on which this researcher wishes to focus. The reasons for the inclusion of these specific items are examined in greater depth below. It should be noted that often the Commission on Auditors' Responsibilities investigated a particular topic, 36The Report of Tentative Conclusions was the original impetus for this research. Revisions in the independence section were minor. l9 and then deemed no recommendation necessary. Consequently, many more issues have been investigated than just those about which recommendations have been made. Where no rec- ommendation is made the Commission has in effect decided to maintain the status quo. As this research relates only to the issue of inde- pendence and not to the broader issues covered in other sections of the report, the remarks here will be restricted to Section 9 of the report, entitled, "Maintaining the Independence of Auditors." Areas Not to be Researched Other services When dealing with other services, the Commission made three recommendations summarized below:37 1. When a specialist employed by an accounting firm performs original specialized services for an audit client, the need to perform comprehensive audit procedures directed at those services is not eliminated. 2. The board of directors (or its audit com- mittee) should consider whether they wish to engage their independent auditors for other services or retain other firms for such purposes. 37AICPA, Report, Conclusions and Recommendations, pp. xxviii-xxix. 20 3. If management fails to disclose the nature of other services provided to the company by its independent auditor, in the management report accompanying the annual financial statements, the auditor should make appro- priate disclosure in his report. Management services It was discovered that a minority segment of finan- cial statement users view management services as poten— tially reducing the auditors' independence. The lack of empirical evidence to support this contention was cited by the Commission when they made no recommendation for change in the current handling of management services.38 Tax services Of greater concern than management services was the potential conflict involving tax services performed by the independent auditor. Termed "tax advocacy," this problem is very persistent in smaller non-public businesses. The Commission suggested that their guidelines in Section 10 for restructuring the Auditing Standards Division of the AICPA would provide a solution for these problems associated with smaller clients.39 331bid., p. 96. 39Ibid.. pp. 98-99. 21 Advice on accounting principles The Commission also examined advice on accounting principles. The final report recommended that in all advo- cacy engagements, due care should be exercised to make clear to the users that the auditor's work and opinions are not presented in his capacity as an independent auditor.40 None of these three other services will be researched due to the volume of literature and research already available on these topics. Appointment of directors The Commission recommended appointment of outside directors and audit committees where appropriate.41 Few if any guidelines were given to distinguish what was appropriate. Consequently this topic is not included in this research. Time-budget pressures A new concern which has not been in the literature (at least supported by empirical research), is the concept of time-budget pressures on auditors. Research done for the Commission and its report indicated many areas where time-budget pressures seemed to inhibit independence, including: 1. Deadlines for completion of audits. 4°Ibid., p. 100. 411bid., p. 106. 22 2. Excess price competition. 3. Early release of earnings information before the completion of the audit.42 Much of Section 9 is devoted to the issue of time- budget pressures. Although this topic is a new and ex- citing one, it is not included here because of the study for the Commission just completed by John Grant Rhode,43 and a dissertation on the topic in progress. After the 44 dissemination of Ms. Sharon Douglas' research, the area will be an extremely important one for additional exploration. Areas to be Researched Each of the following six issues is dealt with in a separate chapter. Each chapter consists of a literature review on the topic and findings of this research compared with prior research and the Cohen Report recommendations. The order of the following items as well as the order of chapters four through nine is consistent with the order of the questions on the final questionnaire. Rotation of auditors/firms Citing the high cost of mandatory rotation of audit firms and the loss of benefits that result from 421bid.. pp. 108-109. 43John Grant Rhode, "The Independent Auditor's Work Environment: A Survey," Commission on Auditors' Reepensibilities Research StudyeNo. 4 (New York: Ameri- can Institute of Certified Public Accountants, 1978). 4?Sharon Douglas completed a Ph.D. dissertation at The University of Oregon on this topic. 23 interrupting a continuing relationship, the Commission rec- ommended that rotation of firms should not be required. The Commission recommended that an audit committee would be in the best position to inspect the personnel rotation plan of the independent auditor and decide if it would be appropriate, to rotate firms.45 Despite much previous writing and research on this topic, its importance warrants its inclusion here. Changes in auditors When discussing changes of auditors, the Commis- sion has determined that disclosure comparable to that required by the SEC in ASR No. 16546 should be included in the report by management which would accompany all audited financial statements.47 This topic also has been selected for this research. Policies onegifts and discounts Stating that the acceptance of gifts or special favors from clients is incompatible with the maintenance of an attitude of independence, the Commission recommended 45AICPA, Report, Conclusions and Recommendations, pp. 108-109. 46United States Securities and Exchange Commission, "Notice of Amendments to Require Increased Disclosure of Relationships between Registrants and Their Independent Public Accountants," Aecoenting Series Release No. 165 (Washington, D.C.: U.S. Government Printing Office, 1974). 47 p. 108. AICPA, Report, Conclusions and Recommendations, 24 that all audit firms develop for their staffs carefully drawn rules on these matters. Furthermore, the Commission recommended that the AICPA should provide more definitive guidance on what amounts of client gifts or favors can be "48 considered "token. This tOpic is included in this research. Executive search and placement The Commission suggested it would be impractical to recommend that companies be prevented from hiring indi- viduals previously employed by public accounting firms. It did suggest that firms should not engage in recruiting or placement of individuals who would be directly involved in the decision to select or retain independent auditors.49 Fees and arrangements for independent auditors The Commission stated that the boards of directors and/or their audit committees should take an active enough role in total arrangements for the audit to assure that costs versus quality decisions are made in a manner that does not sacrifice audit quality. The Commission recom- mended that the arrangements for the auditor should be made by both management and the board of directors and that the final decision should be based on the board's 48Ibid., p. 121. 491b1d.. pp. 100-101. 25 O O 5 dec131on, not management's. 0 This research does explore this question, specifically in relation to determination of fees and arrangements for the independent auditor by an audit committee. Government selection and payment of independent auditors Discussing the regulation of the accounting pro- fession, the Commission concluded that the present struc- ture of a private profession regulated by a combination of private and governmental efforts, including the courts and the SEC, does not require drastic change. Consequently the Commission rejected proposals to improve independence that involved substantial changes in the nature of the private profession and its relationships with its audit clients such as governmental selection or payment of audi- tors.51 Because of the current climate of both the House and the Senate of the U.S. Congress, this topic was in- cluded in the research to investigate, once again, the possibility of governmental selection or payment of auditors. Limitations of Study Since the issue of independence always rests on the perceptions of the user, the most obvious limitation 5°Ibid.. pp. 106-107. 51Ibid., p. 105. 26 of the purposed study is the selection of the groups to represent the users. No one has yet adequately identified the "users" referred to in the official pronouncements of the various ruling bodies of the accounting establishment. However, the author believes that the groups selected for this study comprise an important segment of the users. Another limitation is found in the use of a ques- tionnaire. The usual cautions for a questionnaire study will apply here as well. Steps have been taken to counter the potential problems of questionnaire research. However, at some points the author must allow the reader to make his/her own evalution of the data. This step will permit the reader to make generalizations which will have practi- cal significance within the context of her/his own expe- rience. Finally, although the Cohen Report makes many recommendations, and touches on many other issues upon which no recommendations are made, this study deals with only six independence issues, and more specifically almost exclusively with Chapter 9 of the Cohen Report. More research is needed in the other areas of the Cohen Report as well as follow up research to this particular study. Organization of the Study The study is organized into ten chapters. Chapter One introduces the objectives of the study, provides an overview of the concept of independence, by examining 27 existing research, and sets out the reasons for the study. The Cohen Report is reviewed with respect to the issue of independence. The research methodology and accompanying strengths and limitations are discussed, and finally the hypotheses of the study are set forth. Chapter Two examines in-depth the empirical studies of the issue of independence. Although in each case, a brief overview of the entire study is provided, particular emphasis is placed on the aspects of the studies that re- late directly to this research. Chapter Three discusses the data gathering instru- ment. The development of the mail questionnaire is re- viewed, and results of the field testing presented. Popu— lations in general, the samples selected, and the method of sample selection, are discussed. Last, the details of administering the final questionnaires are reviewed. Chapters Four through Nine summarize and analyze the results of the questionnaire responses and contrast them with the studies discussed in Chapter Two and the Cohen Report, as well as other pertinent literature, which is reviewed in each chapter. Each question is studied individually and both raw data and statistical analyses are presented. Chapter Ten presents a summary of the findings and draws conclusions based on the research data presented in the study. Suggestions for future research are also included. CHAPTER II EMPIRICAL STUDIES OF INDEPENDENCE Introduction The purpose of this chapter is to review the literature on empirical studies of the issue of indepen- dence in order to aid the reader's understanding of what has been done recently in the area. Whenever a particular investigation examines any of the six issues under spe- cific study in this research, its findings on that partic- ular question will be analyzed for later comparison with the recommendation, or lack of recommendation, of the Commission on Auditors' Responsibilities, and with the findings of this research. With the exception of the Rosenbaum dissertation, all of these studies reviewed have been summarized at least once in public pronouncements or accounting journals. John Grant Rhode The most recent empirical study under review was done by John Grant Rhode of the University of California at Berkley,1 a survey done at the request of the Commission 1John Grant Rhode, "The Independent Auditors' WOrk Environment: A Survey," Commission on Auditors' Reepon81- bilities Research §tudy No. 4 (New York: American Insti- tute of Certified Public Accountants, 1978). 28 29 on Auditors' Responsibilities. Primary research issues Rhode's work was designed to see whether the auditor's pressures from time budgets and worries about advancement and survival on the job was affecting the integrity and objectivity of auditors. If this were hap- pening, then the CPA's independence must be impaired. Although many areas of the auditor's work environ- ment are investigated by Rhode, those relevant to this research study the understanding of auditor's responsi- bilities, adequacy of the scope of audits, quality control and personnel policies (including the issue of gifts and discount purchases from the client to the CPA), and non- auditing services. Research methodology Rhode used a questionnaire with a prescreening to limit the nonresponses, and to assure that the samples had the desired ratio of long-time workers to new workers. The samples were selected from the membership rolls of the AICPA. Major findings related to this research A substantial majority of the subjects do not believe that consulting work performed by CPA firms affects the independence of auditors by contributing to substandard audit performance. However, a very low number of the 30 subjects state that there is pressure from supervisors to accept the representations by former members of their CPA firm now employed by the client, or from those individuals placed with the client following an executive search by their firms.2 Another area of concern is the acceptance of gifts from clients and purchase of client products at discounts not available to the general public. Whether or not such activities cause an actual loss of independence, it is likely that such activities may lead others to believe that independence has decreased. A majority of the respondents feel that the acceptance of gifts affects an auditor's ability to resist pressures to subordinate professional judgment. Seventy-six percent of the respondents agree either that there is always an effect, or that there is an effect depending upon the scale of the gift. A majority of the respondents (57 percent) also believe that pur- chases at discounts not available to the public adversely affect an auditor's ability to resist pressure to subordin- ate his or her judgment.3 Although many other findings relate to the issue of independence in the Rhode research, time and space do not allow for a presentation of all of them here. The findings cited above are those most relevant to this 2Ibid.. pp. 299-300. 3Ibid., pp. 99-102. 31 research. Wai P. Lam At Michigan State University in 1974, Wai P. Lam completed work for his dissertation concerning corporate audit committees in Ontario, Canada.4 Lam's research was designed to investigate corporate audit committees which had come to be required of Ontario corporations. Research methodology With a questionnaire, four populations were que- ried about corporate audit committees. The first two populations include chief executive officers and audit committee members of 178 companies listed on the Toronto Stock Exchange and required to have audit committees. The third population consists of practicing chartered accoun- tants who had had direct experience with audit committees. Last, financial analysts were selected from the 1973 Mem- bership Directory of the Toronto Society of Financial Analysts.5 Major conclusions The findings most pertinent to this research are: 1. The proportion of company officers on their own audit committees is less than 30 percent. 4Wai P. Lam, "Corporate Audit Committees in Ontario, Canada: An Empirical Study" (Ph.D. dissertation, Michigan State University, 1974). 51bid.. pp. 52-61. 32 The majority of all four sets of respon- dents feel that management representation on audit committees was desirable. Prior to 1971 (the requirement in Ontario for audit committees came into effect in 1972), only 6 of 101 companies reported that they had an audit committee. The three most important functions of audit committees are regarded as: a. Review with the independent auditors on completion of the audit, their experience, any restrictions on their work, coopera- tion received, their findings, and their recommendations. b. Review with the independent auditors of their evaluation of the company's internal control systems. c. Review of the corporate annual financial statements before their submission to the Board of Directors for approval. The three functions ranked as the most impor- tant are performed effectively by most of the audit committees. The five contributing factors for an effective audit committee in their order of importance are: a. Competence of the audit committee members. 33 b. A set of well established committee objectives. c. Full support and cooperation of corporate chief executive officer. d. A set of well-established functions of the committee. e. Full cooperation and support of the Board of Directors. 7. In general, the audit committee plays an im- portant role in resolving a large number of the major disagreements between the external auditors and the management of the corporation. 8. One of the principal benefits of an effective audit committee is that it reinforces the independence of the corporation's external auditor.6 Relationship to current research The respondents in the Lam study clearly feel that audit committees did work. Also clear is that they feel the committee's relationship with the external auditors is of major importance to the audit committee. Mautz and Neumann Published by the Bureau of Economic Research of the University of Illinois, this research investigates in 61bid.. pp. 175—180. 34 great depth the effectiveness of corporate audit committees and is summarized in the Harvard Business Review.‘7 Research methodology Using both questionnaires and interviews, Mautz and Neumann sampled chief executive officers, non-officers dir- ectors, independent CPAs, and internal auditors. The ques— tionnaires mailed to independent CPAs and internal auditors were a small portion of the total; the majority went to chief executive officers and non-officer directors. Inter— views accounted for less than 5 percent of the question- . . 8 naires mailed. Major findings related to this research Although most of the research examines the makeup of boards, the duration of their existence, and various operating approaches used, the authors do investigate the question of independence as well. Although not citing data to support their contention, the authors suggest that an audit committee adds an element of discipline salutary to a CPA's performance, an element which strengthens his status independent of management.9 7Robert K. Mautz and F. L. Neumann, "The Effective Corporate Audit Committee," Hervard Business Review 48 (November—December 1970):57-65. 81bid., p. 58. 91bid., p. 65. 35 David Lavin David Lavin's work was completed in 1974 as a part of his Ph.D. program at the University of Illinois.10 Primary research issue The main thrust of the research compares the requirements of the AICPA Code of Professional Ethics with the position that the SEC took when it put into effect Accounting Series Release No. 126, released in July, 1972. The purpose of the research is to provide empirical evidence on the existence of differences in opinion regard- ing the concept of independence either among accountants, or between accountants and financial statement users; and to determine whether the financial statement user's per- ception of the auditor's independence, or lack of it, has any effect on his/her business decision. Research methodology Twelve situations involving CPAs and their clients are used as the basis for a questionnaire. Each of these twelve situations is included in ASR No. 126. The ques- tionnaire was mailed to three samples. The first sample consists of Certified Public Accountants selected from the 1972 AICPA List of Members. loDavid Lavin, "Financial Statement Users' and Accountants' Perceptions of the Auditor in Selected Client--Auditor Relationships" (Ph.D. dissertation, Uni- versity of Illinois at Urbana-Champaign, 1974; Ann Arbor, MI: University Microfilms, GAX75-00349, 1977). 36 The second sample includes banks selected from the 1972 Polk's Directory of Banks. The third sample includes brokerage houses selected from the July 1972 issue of Finance.11 Major Conclusions None of the situations cited in Lavin's research are directly comparable to the seven independence issues examined in this research. Although the respondents do not concur entirely either with the AICPA or the SEC, they .do seem to agree more with the AICPA than the SEC. Also noteworthy is that, with the exception of one question, the CPAs agree with the financial statement users represented by the loan officers and research financial analysts.12 Regarding the financial decision, the research refers to the lending decision of a loan officer and to the investment decision of research financial analysts. The study examines only one independent variable in detail: the effect a financial decision maker's percep- tion of an auditor's independence was on his financial decision. Those respondents who perceive the auditor to be lacking in independence tend to consider that this situation would somewhat impair a financial prospect. Conversely, those respondents who perceive the auditor to 111bid., pp. 79-81. lzIbid.. pp. 130-35. 37 be not lacking in independence tend to consider that this situation would not affect, or would somewhat improve, a financial prospect. Research Financial Analysts perceive the auditor's independence as having less of an effect on their investment decision than do loan officers.13 Bedingfield and Loeb Primary research issue This research was undertaken to investigate the reasons that firms changed independent auditors. Research methodology Using the period of November 1971 to February 1973, Bedingfield and Loeb analyzed 250 instances of companies changing auditors.14 The 250 instances were gleaned from 8-K Reports and letters of the registrants and their prior auditors which were filed with the SEC, as mandated by the amendment to the Securities and Exchange Act of 1934 effec- tive October 31, 1971. In their analysis of the auditor changes, the authors note that more firms changed from national firms to non—national firms than from non-national firms to national ones. This does not suggest displacement of the smaller 131bid., pp. 163-64. 14James P. Bedingfield and Stephen E. Loeb, "Audi- tor Changes an Examination," Accounting and Auditing, Journal of Accountancy 137 (March 1974):66-69. 38 firms to the advantage of the national firms as often sug- gested.15 Using a questionnaire, the researchers attempted to discover the reasons that the companies noted changed auditors. Major findings related to this research The reason most often cited for change is that the prior auditor's fee was too high. Forty-seven percent of the respondents cite this as a reason for changing audi— tors. The reason most often cited next is dissatisfaction of the firm with the services provided by the auditors.16 Relevant to this research despite its low frequency of occurrence is the reason given by 11 percent of the respon- dents: that they disagree with the auditors on certain accounting matters. Although the researchers do not dis- cuss the issue of independence, changing auditors due to disagreement on accounting matters does relate to the issue of independence. An extremely small number (2 per- cent) suggest that they felt that they might get better service if they rotated auditors. Dermer, Evans, and Pick Done in Canada, this study investigates the com- patibility of auditing and management services.17 151bid.. pp. 66-69. 16Ibid., p. 68. 17Jerry Dermer, Martin G. Evans, and Thomas J. Pick, "The Compatibility of Auditing and Management Services," Canadian Chartered Accountant 90 (January 1971):20-25. 39 Research methodology Using the questionnaire approach, the researchers solicited the perceptions of seven groups of third parties who rely on audited statements in making investment and credit decisions. The seven groups are: (l) brokerage firms, (2) investment counselors, (3) mutual funds, (4) the government (municipal and federal), (5) trust companies, (6) insurance companies, and (7) banks. Questionnaires were sent to salesmen, portfolio managers, research analysts, underwriters and traders.18 Major conclusions None of the findings of this study relate directly to the current research, but rather to other particular areas of the issue of independence. Sixty percent of the respondents had never even considered the potential incompatibility posed by the dual practice of auditing and management consulting. A like number of the third parties respond that their confidence in audit independence would in no way be affected, while 26 percent indicate a lessening of confidence, and 14 per- cent remained undecided.19 Noting that several respondents voluntarily indi- cate that the size of the Chartered Accountant firm is an 18Ibid., pp. 20-21. 191bid., p. 23. 40 important factor in judging the compatibility of manage- ment services and audit independence, the authors theorize that specialization and separation of the services as done now in the larger and better-known firms in Canada may provide a protection for the professional image of the auditor. Pierre L. Titard In this research Titard investigates the issue of I I o 20 independence and management adv1sory serv1ces. Research methodology Questionnaires were mailed to financial analysts and executives: banks, brokerage firms, mutual funds, closed-end investment companies, life insurance companies, and property liability insurance companies representative of the nation's largest financial institutions. The sam- ple is not random, nor is it meant to be. It includes only the largest financial institutions in the nation.21 Major conclusions and relationship to this research Of particular interest to this research is the fact that executive recruitment is mentioned on 27 percent of the respondents' surveys. This is the second highest 20Pierre L. Titard, "Independence and MAS: Opinions of Financial Statement Users," Journal of Accountancy 132 (June ):47—52. 21 Ibid., p. 48. 41 frequency and is surpassed only by mergers and business acquisitions work. 22 Although Titard concludes that there is no great concern over auditing and MAS, 49 percent of the respon- dents feel that at least one of the 33 services listed, if combined with auditing, can inhibit independence. No item receives more than 3 percent of the respondents' consider- ation.23 Other observations include: 1. It may be advisable for the AICPA to provide information to members of the financial com- munity in order to inform them as to what the accounting profession expects of CPAs who render MAS. Third parties are more concerned about some of the accounting-type services than they are about some of the nonaccounting—type ser- vices. To automatically exclude accounting- oriented services as having no potential effect on independence, as often done in the past, is erroneous. Since our society, as well as our profession, is ever-changing, this should not be the final research on this topic.24 221bid., p. 50. 231bid.. pp. 50, 52. 24 Ibid., p. 52. 42 Allan Seymour Rosenbaum Rosenbaum's research was for his dissertation for the Ph.D. from the University of Illinois in 1968.25 Primagy research issue Regarding the issue of tax practice and indepen- dence, the research tests the hypothesis that the simul- taneous practice of auditing and tax consulting for the same client impairs the independence of the CPA.26 For purposes of the research, tax practice is divided into four categories: (1) tax planning, (2) re- turn preparation and filing, (3) investigation, and (4) 1itigation.27 Major conclusions None of the conclusions in this study are directly related to the current research, but rather relate to other particular areas of the independence issue. Tax planning for an audit client by a CPA is found to be compatible with maintaining independence. Return 25Allan Seymour Rosenbaum, "The Implications of the Concepts of Independence and Advocacy in Tax Practice for Certified Public Accountants," (Ph.D. dissertation, University of Illinois, 1968). 26Allan Seymour Rosenbaum, "The Implications of the Concepts of Independence and Advocacy in Tax Practice for Certified Public Accountants," Dissertation abstracts International: Humanities and Social Sciences 30 iAnn Arbor: University Microfilms, 1969):4-A, S-A. 27Ibid., p. 4-A. 43 preparation and filing also do not cause any problems, with the possible exception of the lack of agreement between the tax liability per audit and per tax return. Regarding tax investigation, it is determined that a CPA who represents his client in an administrative hearing becomes an advocate of his client. The researchers conclude that in order to maintain independence in the area of tax practice as far as tax investigation and litigation are concerned, the limits are set at the informal conference. Action beyond that limit is the action of a partisan advocate, not an indepen- dent objective third party.28 Abraham J. Briloff This study investigates many areas of responsibility for the CPA. It is not designed to examine one area of _public accounting in isolation. Research methodology The research consists of a questionnaire of approxi- mately 200 questions from which 136 responses were received. The responses are approximately evenly distributed between the financial community, consisting primarily of investment analysts with the brokerage firms, banks and mutual funds and insurance companies, and the accounting profession, consisting of CPA firms of all sizes and professors of 281bid., p. 5-A. 44 . 29 accounting. Major conclusions None of the conclusions bear directly on the cur- rent research, but one area does deal with another question related to independence. It is concluded from the data that management services should not be offered by CPA firms. Briloff is careful to note that he uses the term "manage— ment services," and not "management consulting."30 Also of interest is the fact that if the inquiry were restricted to practitioners with "Big—Eight" firms, and excluded the users of the financial statements, as well as practitioners with other firms and professors of accoun- tancy, respondents do believe that such services should be offered. There is a difference between the opinions of those respondents working for "Big—Eight" firms and other respondents.31 Arthur A. Schulte, Jr. This study is designed to examine the opinions of representatives of user groups of accounting data on the necessity of independence, and then to investigate the relationship of management consulting and audit 29Abraham J. Briloff, "Old Myths and New Realities in Accountancy,” The Accounting Review 41 (July 1966): 484-495. 30 Ibid., p. 493. 311bid., pp. 493-94. 45 independence.32 Research methodology Using questionnaires, Schulte solicited the per- ceptions of four groups: (1) research and financial analysts of brokerage firms; (2) commercial loan and trust officers of banks; (3) investment officers of insurance companies (both life and fire casualty); and (4) invest- ment officers of domestic mutual funds. In setting up his various groups, Schulte randomly selected banks and brokerage houses. In addition, the largest banks and largest brokerage houses were repre- sented in a non-random fashion. Major conclusions None of the conclusions in this study are directly related to the current research, but rather relate to other particular areas of the issue of independence. Studying the issue of independence, Schulte first determines that a large majority of the respondents feel that independence is absolutely necessary. His second set of findings draws conclusions about the relationship of management consulting and audit independence. His analysis shows that those respondents from the largest banks and brokerage houses are much less concerned 32Arthur A. Schulte, Jr., "Compatibility of Management Consulting and Auditing," The Accounting Review 40 (July l965):587-93. 46 with the effect of management consulting on independence than are the randomly selected respondents. This differ- ence is explained by the fact that the respondents from the largest banks and brokerage houses tend to deal with the larger CPA firms where auditing and management ser- vices are performed by separate staffs.33 Generally, Schulte finds that the large CPA firms can afford a special, qualified, separate staff for their management services function, and are less likely to im- pair the independent auditor status than are the smaller firms in which such specialization is neither possible nor feasible.34 Summary As can be seen from the chapter, although there has been much study of independence, very little is direct- ly relevant to this research. Because so many areas of accounting are connected to the issue of independence, it will take time to establish a substantial and inclusive body of empirical research. Perhaps the intangibility of the issue of inde- pendence discourages attempts at investigation because of the time and inconclusiveness involved. However, the fore- going review of the literature shows the real need not only for this study but for others like it. 331bid., p. 591. 34Ibid. CHAPTER III DATA: SOURCES, CHARACTERISTICS AND PROCEDURES FOR GATHERING Introduction This chapter discusses the populations in general and the samples selected in particular. Second, the admin- istration and results of the pilot study are discussed. Third, the completed questionnaire is reviewed. Finally, the procedures used to mail the final questionnaires are presented with a breakdown of respondents. Populations In selecting the population for this study, several important considerations were taken into account: 1. The members of the populations should be familiar with the work of CPAs as auditors, and with their relationships with clients. 2. The populations should be clearly definable. 3. The researcher must be able to obtain a com- plete listing of each of the populations to be used. All three populations selected (CPAs, Corporate Bar Mem- bers, CFAs) meet the above criteria. 47 48 The first population selected consisted of AICPA members. The population is listed in the 1976 Directory of Members.1 Since the study deals with CPAs, they are, properly, one of the populations queried as to perceptions of audi- tor independence. The AICPA has been referred to as the major standard-setting body for accounting2 and the most important private group affecting the practice of account- ing.3 For these reasons the AICPA membership directory is regarded as a fair representation of the CPA population. The second population is composed of CFAs who are members of the ICFA. This population is listed in the 4 5 Twelfth Directory of the ICFA and the 1975 6 and 1976-1977 supplements to the 1976 membership directory. 1American Institute of Certified Public Accoun- tants, 1976 Directory (New York: American Institute of Certified Public Accountants, 1976). 2Federal Regulation and Regulatory Reform, Moss, p. 31. 3Accounting Establishment, Metcalf, p. 9. 4The Institute of Chartered Financial Analysts, Twelfth Directory of Members (Charlottesville, Virginia: The Institute of Chartered Financial Analysts, 1975). 5The Institute of Chartered Financial Analysts, 1975 Membership Directory Su clement (Charlottesville, Virginia: The Institute of Chartered Financial Analysts, 1975). 6The Institute of Chartered Financial Analysts, 1976-77 Supplement of 1975 Membershi* Directory_(Charlottes- ville, Virginia: The Institute of Chartered Financial Analysts, 1976). 49 The CFA population was slightly more difficult to contact since its 1975 directory has not been kept up-to- date. The supplements included only additions to and not deletions from the membership listing after the 1975 Dir- ectory was issued. Address corrections for members listed in the 1975 Directory were maintained by the ICFA but were not published in the supplements. Although this was not a significant problem, it did increase the percentage of questionnaires returned as undeliverable. The third and final population consisted of members of the Section of Corporation, Banking and Business Law of the American Bar Association drawn from their 1974-1975 Membership Directory.7 Although the Directory is titled 1974-1975, the data are from 1974. Consequently, this population had the largest number of returns due to invalid addresses.8 7Section of Corporation, Banking and Business Law of the American Bar Association, 1974-1975 Directory (Chicago: Illinois: Section of Corporation, Banking and Business Law of the American Bar Association, 1974). 8It should be noted at this point that some members of the Corporate Bar do not meet criterion 1 as well as do most CPAs and CFAs. The reason lies in the procedure by which an individual becomes a member of the Corporate Bar. Any individual who is a member of the American Bar Association can become a member of the Corporate Bar simply by submitting a fee and requesting to be included in the Corporate Bar membership. As a result, many lawyers who do not practice in the financial world may be members of the Corporate Bar for purposes of trying to keep in touch to some degree with the business world, either for theme selves or for their firms. Consequently, a lawyer may have little or no contact with the financial world but still be a member of the Corporate Bar. In contrast to 50 Although the members' addresses from the Corporate Bar appear to be less than current, it was felt that this population should be used. The reason for using a 1974— 1975 directory, was that no more recent directory has been published. After contacting the Section of Corporation, Banking and Business Law, it was discovered that the Sec- tion ceased publishing the directory. Due to increasing costs, the Section of Corporation, Banking and Business Law has cased publishing the directory, so that listings more recent than 1974—1975 are not available. In addition, those in charge of the membership rolls of the Section indicate that a future directory is unlikely. The deci- sion of the Section not to publish directories makes the sample even more important than it was first thought, since, as years pass, unbiased sampling of the population will become more difficult as address listings grow in- creasingly obsolete. Samples for the Study From each of the three populations, a randomly selected sample of 200 subjects was drawn, using a Touche Ross Timesharing Program.9 Each sample was reviewed for this situation, most CFAs and CPAs are very much involved in the financial world. This matter was of some concern to the researcher. However, review of the returned ques- tionnaires showed that, for the most part, the responding Corporate Bar members were in touch with the issue at hand. 9Touche Ross & Co., Statistical Sampling Time- eharing Programs (New York: Touche Ross & Co., 1975), Pp. 1-160 51 any noticeable bias. No indicators were noted that might suggest a non-random sample in any of the three popula- tions. Data was available to compile a breakdown of CPAs over the various firm size categories (national, regional, local firms and other categories). Since the Metcalf report referred continually to the "Big Eight," and the next seven largest firms,10 an important part of the research would be to contrast responses from those who are employed by the "Big Fifteen" and those who work for other CPA firms.11 A recent marger has reduced the "Big Fifteen" to the "Big Fourteen."12 This study deals with the distribu- tion of firms as it existed when the data were collected. The distribution of the sample of CPAs did not vary markedly from the distribution of CPAs throughout the AICPA membership regarding firm size. A distribution of the sample is presented in Table III-1. 10The largest eight ("Big Eight") are: Arthur Andersen & Co.; Arthur Young and Company; Coopers and Lybrand; Ernst & Ernst; Haskins & Sells; Peat, Marwick, Mitchell & Co.; Price Waterhouse & Co.; and Touche Ross & Co. The next seven largest are: Alexander Grant & Co.; Hurdman and Cranstoun; J. K. Lasser & Co.; Laventhol & Horwath; S. D. Leidesdorf & Co.; Main Lafrentz & Co.; and Seidman and Seidman. 11For some examples of references to the "Big Fifteen," see: Accounting Establishment, Metcalf, pp. 29, 84, 85. 12"Merger of Lasser and Touche Ross is Announced," The Wall Street Journal (August 23, 1977), p. 4. 52 TABLE III-l SAMPLE BREAKDOWN OF CPAS BY FIRM SIZE Sample Membershipa # % # % "Big Eight" 35 17.5 17,400 15 "Next Seven" 8 4.0 9,254b 8b Other 151 78.5 91,041 _11 Total 200 100.0 117,695 00 aThese numbers are estimates by the Metcalf Com— mittee. See: Accounting Establishment, Metcalf, pp. 85-86. bAs these numbers are for firms 9-25 in size, one might extrapolate that approximately one-half would be accounted for by the "Next Seven," or firms 9-15 in size. The CFA sample was segmented by industry represen- tation using ICFA classification codes. A comparison of the percentages of the two columns shown in Table III-2 show them to be similar. The large portion of the sample living in New York City, New Jersey, Boston, Chicago and Los Angeles was consistent with the residence profile of the entire membership listing. Due to the nature of the membership directory for the Section on Corporation, Banking and Business Law, no analysis of job classifications was possible. 53 TABLE III-2 BREAKDOWN OF CFA SAMPLE AND POPULATIONa CFA CFA ICFA Industry . Classification sample P0991at1°n # % # % Brokerage & Investment Banker 64 32.0 1190 28.67 Investment Company 15 7.5 269 6.48 Investment Counselor 27 13.5 807 19.45 Trust Company or Trust Department of Commer- cial Bank 39 19.5 881 21.23 Insurance Company 15 7.5 456 10.99 Pension Fund 12 6.0 180 4.34 Other 28 14.0 367 8.84 Total 200 100.0 4150 100.00 aSource: The Institute of Chartered Financial Analysts 1976-77 Supplement to 1975 Membership Directory (Charlottesville, Virginia: The Institute of Chartered Financial Analysts, 1976), p. 25. Field Testing the Questionnaire The sample used for field testing the questionnaire was arbitrarily selected from a circle of friends and acquaintances. Each was chosen for his individual exper- tise in a specific area or areas such as accounting, gram— mar, questionnaire structure, data collection and analysis, and general readability. The sample of thirty-five selected for the field testing included CPAs, CFAs, Lawyers, 54 and faculty members from several universities.13 The cover letter of the field questionnaire re- quested as many comments as possible; two lined pages were supplied to encourage these comments. Readers were also requested to edit the questionnaire as they deemed appropriate. Thirty—five questionnaires were mailed out for field testing; twenty-five were returned. The poorest return rate was from CFAs and CPAs. However, this prob- lem was lessened greatly by the many faculty members (responding who were either CPAs or CFAs, since they gave valuable comments specifically related to the two popu- lations. The questionnaire was revised in light of the com- ments and suggestions from the field testing. Although many changes were made from the field questionnaire to the finished questionnaire, most major changes affected the descriptive or factual information requested from the respondent rather than the attitudinal questions. Due to the responses to the field testing, all open-ended ques- tions were dropped, with the exception of a full page set aside for comment by the respondent on any part of the questionnaire. Most important, because of the well-known comments on the issue of independence made in the Report 13Faculty members represented The University of California at Berkeley, Miami University, Michigan State University, New York University and The University of Texas at Austin. 55 of the Commission on Auditors' Responsibilities, all references to the Commission were dropped from the final questionnaire to avoid bias. The descriptive questions were arranged differently; for easier reading, wording was adjusted. Only minor changes in wording, for the sake of clarity, were made in the attitudinal portion of the questionnaire (one page in length). With the above changes, the final questionnaire was considered satis— factory to provide data for the research goals. Copies are included as Appendix A. The Final Questionnaire The final questionnaire was developed with several considerations in mind: a strong desire to keep to a manageable length both the number of pages and the number and length of the responses required. The final questionnaire had three pages, since, probably, this length would be most likely to elicit re- sponse upon receipt. CPAs, CFAs, or Corporate Bar members, respectively, received different versions of page one. The second and third pages were the same in all question- naires. Page three was simply an open-ended request for comments on any of the subjects in the questionnaire. It was likewise felt that the responses required should be kept to a reasonable number. Fifty responses, or fewer, was the goal for the number of responses, with a maximum of seven non-attitudinal questions. The latter 56 included on page three, a question asking the respondent if he wished to receive a summary of the research. Twenty- eight responses were requested regarding perceptions of CPA independence and the costs/benefits of independence. The respondent recorded these on the second page of the ques- tionnaire by circling a specific number. It was estimated that completion of the question- naire would require five to fifteen minutes depending upon whether an individual read it carefully and/or responded to the open-ended portion of the questionnaire. Mailing of the Final Questionnaire The first mailing of the questionnaire was accom- panied with a cover letter from Dr. Harold H. Sollenberger, Chairman of the Department of Accounting and Financial Administration, at Michigan State University. This letter explained the purpose of the questionnaire and the tech— nique to be used to record questionnaire responses to avoid traceability of respondents, and requested prompt partici- pation. A copy of the cover letter is shown in Appendix B. The mailing consisted of the cover letter, the questionnaire, and a postage paid return envelope. Returns for the first mailing included 54.0 percent for the CPAs; 35.5 percent for the CFAs; and 32.0 percent for the Corpo- rate Bar members.14 14These numbers do not reflect adjustment for any inapprOpriate subjects, so the effective rate of return is higher. 57 As the return enve10pes allowed the researcher to note if the return was from the first or second mailing, it was possible to arrive at exact figures for the returns of each mailing. It should be noted, however, that there is a possibility that some of the responses to the first mailing were prompted by receipt of the second mailing. Questionnaires returned as undeliverable were acted upon in one of two ways. Alternative procedures for securing an updated address were used and the questionnaire was remailed to the updated address. If no such address could be obtained, the subject was reclassified as an "inappropriate subject unlocatable." Inappropriate sub— jects were not replaced. With the CPA sample the only alternative procedure used was a telephone directory to search for a possible new address in the same locale. This procedure was successful as Table III-3 shows. For the CFAs alternative procedures included: 1. Contacting the ICFA for a possible new address. 2. Contacting the individual's old firm for a possible new address. 3. Using the Federation of Financial Analysts' membership directory for a new address.15 15The Financial Analysts Federation, 1976 Member- ship Directory: Twenty-Eight Edition (New York: The Financial Analysts Federation, 1976). 58 TABLE III-3 ANALYSIS OF UNDELIVERABLE QUESTIONNAIRES CPAS CBMS CFAS Total Total Returned Questionnaires _l 31 ll 49 No Updated Address was Available 3 ll 3 17 Total Questionnaires Remailed 4 20 8 32 Breakdown of Remailings: Good Response Received 3 8 l 12 Inappropriate Responsea 0 2 0 2 No Response 1 10 7 18 Percent of Returned Question- naires for Which Follow-up Resulted in a Good Response 43 26 9 24 aSee Table III-5 for the analysis of inappropriate subjects. 4. Using telephone directories to search for a possible new address in the same locale. These alternative procedures did not prove to be fruitful, as Table III-3 indicates. For the Corporate Bar members a set of alternative procedures was also used, which consisted of: 1. The use of the Martindale-Hubbell Law Directory for a possible new address.16 16Martindale-Hubbell, Inc. , W Hundred and Ninth Annual Edition, 1977 Summit, New Jersey: 59 2. The use of telephone directories to search for a new address in the same locale. It should be noted that in this case, firms of the lawyers could not be contacted because they were not listed in the directory. This time, the alternative procedures proved to be beneficial also, as is shown in Table III-3. A second mailing was made for all subjects in the samples from which no response, or no undeliverable return was received. This second mailing also included a cover letter from Dr. Sollenberger, emphasizing the importance of the research, requesting prompt participation, and explaining that this was a second request. A copy of this letter can be found in Appendix C. This second mailing included another copy of the questionnaire, and a stamped return envelope. These were mailed sixteen days after the first mailing. Table III-4 details the responses from both the first and second mailings from all samples. As can be seen from Table III-4 the final percentages of responses from the three samples were: CPAs 67 percent; CBMs 48 percent; CFAs 44 percent. This resulted in an overall response rate of 53 percent. These response rates were acceptable and it was not deemed necessary to follow fur- ther procedures to increase the response rate. At this point data collection was terminated. 60 TABLE III-4 BREAKDOWN OF RESPONSES TO BOTH MAILINGS CPAs CBMs CFAs Total Sample Subjects 200 200 200 600 Inappropriate Subjectsa __1 _14 __Z _28 Appropriate Subjects 123_ leg 193 512 First Mailing Responses 108 71 64 243 Second Mailing Responses _21 _lg _29_ _gg Total Responses 129 90 84 303 Response Percentage 67 48 44 53 aSee Table III-5 for the analysis of inappropriate subjects. TABLE III-5 ANALYSIS OF INAPPROPRIATE SUBJECTS CPAs CBMs CFAs Total Firm or Personal Policy to Not Respond to Surveys 2 - 1 3 Inactive CFA - - 2 2 No Contact With Auditing 1 - - 1 Out of Country for Extended Period - - l l Retired 1 - 2 3 Deceased - 2 - 2 Unlocatable _3 12_ _1 19 TOTAL =7. a :7. a 61 Analysis of Respondents In order to be confident that responses were pro- portionate over classifications consistent with the orig- inal samples selected and with the populations, the break— down of respondents was reviewed. Table III-6 shows this breakdown for CPAs. At first glance this distribution (Table III-6) seems to be disproportionate to the distri- bution of the sample and the population as a whole. How- ever, it must be remembered that this distribution includes all CPA responses, including those who no longer are prac- ticing in public accounting. The 46 percent represented by the top fifteen firms is extremely high compared to the sample and to the population as a whole. TABLE III-6 BREAKDOWN OF ALL CPA RESPONSES Practiced/Practice With Number Percent "Big Eight" 55 42.63 "Next Seven" 4 3.10 Other National Firms 7 5.43 Regional Firms 6 4.65 Local Firms 48 37.21 Did Not Answer __g 6.98 Total 129 100.00 62 An examination of the 70 respondent CPAs currently practicing public accounting shows that the distribution over the size of firms is much more consistent with the sample and with the population as a whole. Table III-7 gives this distribution, and comparing it with Table III-l shows that the distribution is consistent with the sample and with the membership as a whole. Table III-7 BREAKDOWN OF PRACTICING CPAS Number Percenta "Big Fifteen" 26 20.15 Other 44 34.11 aThis is the percent of the total 129 responses. The remaining 59 (45.74%) is represented by those CPAs no longer prac- ticing and those who did not answer the "currently practicing?" question. In Accounting Establishment, Metcalf, p. 85, it is noted that 40.76 percent (47,976 of 117,695 total members) are no longer prac- ticing CPAs. Although there is a substantial difference between the percentage of total CPAs who either currently are or have practiced with the "Big Fifteen," in contrast to those who are currently working in public accounting, this fact is consistent with the researchers' understand- ing of the high attrition rate of employees from "Big Fifteen" firms. 63 Table III-8 gives a breakdown of Corporate Bar members and the areas of law in which they are currently employed. No comparison was made to the sample or to the population as a whole, since those numbers were not avail- able from the Section on Corporation, Banking and Business Law. TABLE III-8 BREAKDOWN OF CORPORATE BAR MEMBER RESPONSES Number -Percent Private Practice 58 64.44 Industry 20 22.22 Government 6 6.67 Education 2 2.22 Other _4 4.45 Total 99_ 100.00 A review of the responses of the CFAs shows that the industry classification distribution of respondents is consistent with the sample in the population as a whole. Table III-9 presents these findings, and a comparison can be made by referring to Table III-2. The final question on the questionnaire allows the respondent to indicate by marking yes or no, whether he/she wishes to receive a summary of the research. 64 TABLE III-9 BREAKDOWN OF CFA RESPONSES Industry Employed In Number Percent Brokerage and Investment Banking 23 27.38 Investment Companies 3 3.57 Investment Counselor 14 16.67 Trust Companies or Trust Depart- ment of Commercial Banks 20 23.81 Insurance Companies 7 8.33 Pension Funds 5 5.95 Other 12 14.29 Total 84 100.00 Current literature does not offer any firm figures to sug- gest to the researcher what percentage of respondents might request such a summary. However, discussions with a num- ber of people who have conducted survey research and have. used this option suggest that the range is probably between 15 and 20 percent. If such figures are valid, an exceed- ingly large proportion (60 percent) of respondents requested a copy of the summary of this research. This may be due in part to the current review of the public accounting profession by many Congressional Committees, and to the large number of lawsuits involving CPAs. 65 Chapter Summary This chapter has outlined the procedures for selecting the populations for this study, consisting of CPAs, Corporate Bar members, and CPAs, and the reasons for the use of these three populations. The procedures for selecting the samples and a breakdown of sample charac- teristics were then analyzed. The administration of the field study was discussed, and the results of the field study analyzed, emphasizing changes made in the questionnaire. The questionnaire in its final form was then reviewed. The procedures for both the first and second mail- ings of the final questionnaire were analyzed; the alterna- tive procedures instituted in the case of undeliverable questionnaires were given. In addition to analysis of response characteristics within each sample, overall response characteristics were analyzed. Finally, all of the responses were analyzed as to various categories of characteristics. The primary empha- sis of this analysis was to confirm that the responding sample is not markedly different from the population as a whole, and the sample as a whole. This analysis has to do only with the descriptive portion of the returned question- naires. CHAPTER IV ROTATION OF AUDIT FIRMS Literature Review A 1936 editorial in the Journal of Accountancy asks: "Is rotation of auditors any more reasonable than rotation of doctors and lawyers?"1 Referring to a finan- cial statement of the Southern Natural Gas Corporation, which states that the company avoids changing auditors on a whim, the editorial presents the document as an excellent model. Forty years later, the controversy on rotation of auditors continues. Arguments for rotation Arguing in favor of rotation, Jack Seidman, of Seidman and Seidman says that increased cost is no deter- rent in the business world if it insures against far more costly risk.2 Seidman also remarks that "there is also 1"Recognition of Auditor's Importance--Auditor's Independence Clearly Defined--Reliance Upon Auditors' Report," Editorial, Journal of Accountancy 61 (February 1936):81. 2J. S. Seidman, "If We Fail or Falter in Calling the Accounting Shots With Unflinching Independence, the Public Will be After Us to Change Our Way of Life. One of the Changes Will be Rotation of Auditors." Letters to the Journal, Journal of Accountancy 123 (May 1967):30. 66 67 something to a new broom sweeping clean and coming up with ideas that eluded the perennial who got too close to picture."3 The above sentiment has been offered many times as an argument for rotation, but perhaps one of the strongest such statements is made in the Metcalf Report: One alternative is mandatory change of accoun- tants after a given period of years, or after any finding by the SEC that the accounting firm failed to exercise independent action to protect investors and the public.4 Arguments against rotation Often presented against the rotation of auditors is the argument that in many businesses, because there is so much to learn about the past history of the company and its operations, a client may receive less service than he would receive if he were to retain one audit firm. Another problem possible is that the start-up costs of new auditors will result in an increase of fees. Both of these argu- ments were offered as reasons not to rotate auditors during the McKesson and Robbins Inc. SEC proceeding in 1939.5 31bid. 4The Accounting Establishment: A Staff Studprre- pared by the Subcommittee on Reports, Accounting and Man- agement of the Committee on Government Operations, United States Senate, Ninety—Fifth Congress, Second Session, by Lee Metcalf, Chairman (Washington, D.C.: U.S. Government Printing Office, 1977), p. 21. 5"The Question of Changing Auditors," Editorial, Journal of Accountancy 123 (February 1967):31-33- 68 A more recent argument against rotation is offered in Forbes magazine. It takes a great deal of knowledge about a company to perform an effective audit. In fact, many of the auditing failures of the past decade occurred because the auditors were new to the companies or industries they were auditing--not because they had become "cozy" with them. The Commission on Auditors' Responsibilities seconds this sentiment: More important, in the Commission's study of cases of substandard performance by auditors, several of the problem cases were first- or second-year audits. While not conclusive, this indicates the higher peril associated with new audit clients. This position is in direct contradiction to that taken by the Subcommittee on Reports, Accounting and Management of the Committee on Government Operations of the United States Senate. Empirical studies Since rotation is neither mandated nor practiced in the U.S., little empirical study of the topic has been done. The only study concerned with rotation is that by 6"Why Everybody's Jumping on the Accountants These Days," Forbes (March 15, 1977), p. 40. 7American Institute of Certified Public Accoun- tants, Commission on Auditors' Responsibilities, Commis- sion on Auditors' Responsibilities: Report, Conclusions and RecommendationsiiNew York: American Institute of Certified Public Accountants, 1978), p. 109. It is interesting to note that the wording here was changed from ”a high percentage of the problem cases," in the Testative Report to "several of the problem cases," in the final report. 69 Bedingfield and Loeb, in which they find that two percent of their respondents changed auditors because they felt that they would get better service if they rotated audi- tors.8 Analysis of Data The remaining portion of this chapter is devoted to the presentation and interpretation of the data. Each hypothesis is investigated separately, and a review and summary is presented in the section titled Data Review. Specific hypotheses The specific hypotheses to be tested are: 0-1: There are no significant differences between members of the AICPA, Corporate Bar and ICFA, regarding their perceptions as to the effect that rotation of audit firms will have on the CPA's independence with respect to the CPA's SEC registered clients. 1-1: There are significant differences among members of the AICPA, Corporate Bar and ICFA, regarding their perceptions as to the effect that rotation of audit firms will have on the CPA's indepen- dence with respect to the CPA's SEC registered clients. 8James P. Bedingfield and Stephen E. Loeb, "Auditor Changes and Examination," Accounting and Audit- ing, Journal of Accountaney 127 (March 1974):68. 70 There are no significant differences between members of the AICPA, Corporate Bar and ICFA, regarding their perceptions as to the effect that rotation of audit firms will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are significant differences between members of the AICPA, Corporate Bar and ICFA, regarding their perceptions as to the effect that rotation of audit firms will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are no significant differences between members of the AICPA, Corporate Bar and ICFA, regarding their perceptions as to the costs and benefits to society as a whole, of rotating audit firms for SEC registered firms. There are significant differences between members of the AICPA, Corporate Bar and ICFA, regarding their perceptions as to the costs and benefits to society as a whole, of rotating audit firms for SEC registered firms. There are no significant differences between members of the AICPA, Corporate Bar and ICFA, regarding their perceptions as to the costs and benefits to society as a whole, of rotating audit firms for non-SEC registered firms. 71 There are significant differences between members of the AICPA, Corporate Bar and ICFA, regarding their perceptions as to the costs and benefits to society as a whole, of rotating audit firms for non-SEC registered firms. There are no significant differences between respondents who have experience of 0-9 years, 10-19 years, 20-29 years, and over 29 years, regarding their perceptions as to the effect that rotation of audit firms will have on the CPA's independence with respect to the CPA's SEC registered clients. There are significant differences between respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions as to the effect that rotation of audit firms will have on the CPA's independence with respect to the CPA's SEC registered clients. There are no significant differences between respondents who have experience of 0-9 years, 10- 19 years, 20-29 years and over 29 years, regarding their perceptions as to the effect that rotation of audit firms will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are significant differences between respon- dents who have experience of 0-9 years, 10-19 72 years, 20-29 years and over 29 years, regarding their perceptions as to the effect that rotation of audit firms will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are no significant differences between respondents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions as to the costs and benefits to society as a whole of rotating audit firms for SEC registered firms. There are significant differences between respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions as to the costs and benefits to society as a whole of rotating audit firms for SEC registered firms. There are no significant differences between respondents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions as to the costs and benefits to society as a whole of rotating audit firms for non-SEC registered firms. There are significant differences between respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years, and over 29 years, regarding their perceptions as to the costs and benefits to Ho-10: 73 society as a whole of rotating audit firms for non-SEC registered firms. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions as to the effect that rotation of audit firms will have on the CPA's independence with respect to the CPA's SEC registered clients. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions as to the effect that rotation of audit firms will have on the CPA's independence, with respect to the CPA's SEC registered clients. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions as to the effect that rotation of audit firms will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions as to the -ll: -12: H -12: 74 effect that rotation of audit firms will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions as to the costs and benefits to society as a whole, of rotating audit firms for SEC registered firms. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions as to the costs and benefits to society as a whole of rotating audit firms for SEC registered firms. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions as to the costs and benefits to society as a whole of rotating audit firms for non-SEC registered firms. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions as to the costs and benefits to society as a whole of 75 rotating audit firms for non-SEC registered firms. Statistical package The statistical analysis uses the Michigan State University CDC 6500. The Statistical Package for the Social Sciences (SPSS)9 is the basic source of statistical analysis. Specifically, the "Subprogram Crosstabs," is used.10 The portions of the subprogram that are used pro- vide a contingency table of observations as well as chi- square and significance level calculations. Collapsing of tables When using chi-square contingency tables it is recommended that no theoretical frequency should be smaller than five.11 The theoretical frequency for a cell can be found by calculating the product of the two marginal totals common to that cell divided by the total number of cases. In order to maintain the theoretical cell size, it is often necessary to combine more than one group of respon- dents (i.e., "Big Eight" and "Next Seven" for CPA's) or to combine responses of more than one column in the independ- ence decision portion of the data. 9Norman H. Nie, et a1., Statistical Package for the Social Sciences, Second ed. (New York: McGraw-Hill Book Company, 1975). 10 Ibid., pp. 218-248. 11Stephen Isaac and William B. Michael, Handbook in Research andeEvaluation (San Diego, California: Edits Pub- iishers, 1971), p. 135. 76 Usually the data, including means, is given to aid the reader in evaluation. However, whenever the theoreti- cal cell size is too small for purposes of a chi-square, collapsing is done. When data is collapsed, a statement is made to show the reader how it is done and the chi-square and significance level are calculated on the combined data. The first analysis in Chapter IV demonstrates the collap- sing technique (See Tables IV-l and IV-2). In the data chapters the collapsed tables are not presented. When the theoretical cell size is still too small after collapsing, the data is presented with the author's remarks, but no chi-square or significance level calculations are presented as they are inappropriate. In most cases the theoretical cell size is suffi- cient in analysis of the Costs/Benefits decision. When this is not the case, the raw data is presented in the same manner as the independence decision. Calculations of means The means in all of the tables are based on the following scales: Independence Decisions: 1 Greatly Decrease Independence 2 Slightly Decrease Independence 3 Not Affect Independence 4 Slightly Increase Independence 5 Greatly Increase Independence 77 Costs/Benefits Decision: 1 If the proposed change is made, the cost to Society will exceed the benefits to Society 2 If the proposed change is made, the benefits to Society will exceed the costs to Society Non-responses are not included in calculations. Hypotheses in general In each case throughout the research, the null hypotheses are stated in terms of a consensus. Should the null hypothesis not be rejected, it can then be concluded that there are no statistically significant differences among the groups analyzed as to their perceptions of the effect of the change in the auditor/client relationship. It is incorrect, however, to suggest the samples are from the same population, as only one dimension of the sample has been tested. After acceptance of the null hypothesis, it can only be concluded that the groups perceive the effect in the same way. It is then up to the researcher and the reader to interpret the data to see in what way or ways these perceptions are distributed. Should the null hypothesis be rejected, it can be concluded that the groups analyzed do not perceive the effect of the change in the auditor/client relationship in the same way. Again, the way in which an individual 78 group perceives the change can be ascertained only from the data. Ho-l: CPAs/CBMs/CFAs--Independence with SEC registered firms In each of the data tables (Tables 1, 3-13 in Chap- ter IV and 1-12 in Chapters V-IX), the responses for all possible answers are given. Totals for each respondent group may not equal the total returned questionnaires as some respondents did not answer all questions. Due to theoretical cell sizes that are too small, Table IV-l is collapsed to arrive at Table IV-2. As seen in Table IV-l and Table IV-2, there is a general agreement among CPAs, CBMs and CFAs that rotation of audit firms increases the CPA's independence with respect to an SEC registered client. Only one-third of the total respondents feel it does not increase independ- ence; the majority of that one-third feel it does not affect the CPA's independence. Ho-2: CPAs/CBMs/CFAs--Independence with non-SEC registered firms Table IV-3 shows that in contrast to their percep- tions about SEC registered firms, the three respondent groups do not agree as to how rotation of audit firms affects the CPA's independence when the client is a non- SEC registered firm. The largest differences in percep- tions exist among CPAs: 48% say that independence does .GOHummso was» so noncommmu Hmuou mo ucwoumm mcu mucmmmuomn moouo unmocommmu comm How madness mo 30H ocoomm may .xH cmsoucu >H Hoummcu 2H moanmu mcflommUUSm Ham pom menu GHQ .HlmH mamdfi 80 TABLE IV-Z CPAs/CBMs/CFAs--INDEPENDENCE SEC FIRMS Does Nota Slightly Greatly Increase Increase Increase Indep. Indep. Indep. Total Mean CPAs 45 53 30 128 3.84 15.0 17.6 10.0 42.6 CBMs 30 29 31 90 3.89 10.0 9.6 10.3 29.9 CFAs 24 36 23 83 3.90 8.0 12.0 7.6 27.6 Total 99 118 84 301b 3.87 33.0 39 2 27.9 100.0 Raw chi-square = 4.54505. Significance level = .3372 aThe categories Greatly Decrease Independence, Slightly Decrease Independence and Not Affect Independence are combined into this column. bNon-responses: CPAs-l, CFA-1. 81 .mlmmmo “mlmzmo xvlmmmu "mmmGOQmmuloozn .omcflneoo who mcESHoo omwcu mmmomusm coaumasoamo Homo .Haoo. n H0>0H moamoaaaaaam .mmaao.aa mnmoomnwco Sam o.ooa N.mm m.m~ «.mm o.m n.m ~>.m nvmm be 5m mHH m Ha Hmuoe o.nm m.m N.m m.m b. o.H vm.m Hm mm «m mm N m mdmu m.mm m.oa H.m N.HH m. h.H mn.m mm Hm ma mm mzmu m.mv m.m m.ma «.ma Hm.m mmH om mv em mH mqmddp 82 not increase, while only 38% of the CFAs say that inde- pendence is not increased. At the same time 32% of the CFAs say that rotation of audit firms greatly increases independence (35% of the CBMs agree) while only 16% of the CPAs feel that independence greatly increases. H0-3: CPAs/CBMs/CFAs--Costs/Benefits with SEC registered firms Regarding the costs and benefits of rotation of audit firms for SEC clients, the respondent groups do not agree. While the CPAs who believe that costs exceed bene- fits outnumber CPAs of the opposite View by a five-to-one margin, the margins (in the same direction) are only 2.3 to 1 for CPAs, and 1.6 to l for CBMS. TABLE IV-4 CPAS/CBMs/CFAs--COSTS/BENEFITS SEC FIRMS Costs Benefits Exceed Exceed Benefits Costs Total Mean CPAs 102 25 127 1.20 34.1 8.4 42.5 CBMs 55 35 90 1.39 18.4 11.7 30.1 CFAs 57 25 82 1.30 19.1 8.4 27.4 Total 214 85 299a 1.28 71.6 28.4 100.0 Raw chi-square = 9.78271. Significance level = .0075 aNon-responses: CPAs-Z; CFAs-2. 83 H0-4: CPAs/CBMs/CFAs--Costs/Benefits with non-SEC registered firms When non-SEC registered firms are considered, the CPAs are even more emphatic that costs will exceed bene- fits than they are for SEC registered firms. A much larger portion of CBMs feel that costs will exceed bene- fits for non-registered firms than the portion in the same category for SEC firms, while the CFAs vary little with respect to SEC registration. TABLE IV-5 CPAS/CBMS/CFAs--COSTS/BENEFITS NON-SEC FIRMS Costs Benefits Exceed Exceed Benefits Costs Total Mean CPAs 111 15 126 1.12 38.3 5.2 43.4 CBMs 63 22 85 1.26 21.7 7.6 29.3 CFAs 54 25 79 1.32 18.6 8.6 27.2 Total 228 62 290a 1.21 78.6 21.4 100.0 Raw chi-square = 12.70812. Significance level = .0017. aNon-responses: CPAs-3; CBMs-5; CFAs-S. 84 Ho-S: Years of experience--Independence with SEC registered firms Although not significant at an .05 level, there is a substantial difference between the groups based on years of experience. This is best indicated by the fact that only one quarter of the respondents with 0-9 years of experience think that independence will not be increased when rotation of audit firms is mandated, while fully one half of those respondents with 30 or more years of experi- ence answer in a like manner. The reverse is true con- cerning responses in the Greatly Increase Independence column, the category chosen by one-third of the 0-9 years respondents, while only one-tenth of the 30 or more years respondents make the same choice. H0-6: Years of experience--Independence with non-SEC firms Although the direction of differences in responses between experience groups is the same for non-SEC regis- tered firms as it is for SEC registered firms, those dif- ferences are not as large and are not significant. .mumHIOH "noncommmulcozu .omcHnEoo who mBOH omocu mmmomusm COHumHoono Homo .pmcHQEoo mum mCEdHoo wmmcu mmmomuom :OHHMHDUHMU Homo 85 mmmo. u Ho>oH moomoHMHcmHm .momvH.NH u mumsomlHno 3mm o.OOH m.>m m.mm m.hm m.~ . nm.m oHom om mHH em 5 HMHOB o.v m. m.H m.~ o om.m NH H v n o Q+ov w.m b. h.m o.m o mm.m 5H m m m o amuom m.mH o.m m.v o.m o mn.m mo mH mH mH o amlom m.mm v.5 m.~H m.m n. mm.m mm mm mm mm N mHIOH m.vv m.oH o.mH o.m n.H mm.m vMH mm mm em m mlo com: Hmuoe .QTUQH .mmocH .moocH .moocH .mmUcH .Hmmxm mmmmuooH mmmmuocH wommw< mmmouomo wmmmnowo mo kHummHo >Hu£mHHm ouoz mmHusmHHm maHummHU whom» mZMHm 0mm muzmazmmeZHllmmDomU muzmHmmmxm mI>H MHmoH oooooamaooam .eHHeH.a u opooamuaao 36m o.OOH N.mN m.mm 86 «.mm o.~ >.m ~>.m comm on em MHH m HH Hmuoa n.m o o.H e.m o o hm.m HH o m m o o n+ov H.m o.H o.H v.m o o m>.m mH m m n o o mmuom o.wH H.m >.m m.m o o.H vo.m no mH m om o v mmlom m.mm H.e m.0H m.oH m. n. mn.m mm Hm mm mm H m mHIOH m.mv m.~H m.mH m.mH n.H h.H m>.m MMH mm mm ow m m mlo coo: Hmuoe .mwocH .mmocH .moocH .QTUCH .moocH .Hmmxm ommowooH ownmuooH pommmm ommwuooo mmmouomo no >Humono >HucmHHm muoz mmHucmHHm maHumoHo mummy mZmHm UMmIZOZ mUZWDZMQMQZHIImmDONO MUZmHmmmxm hl>H mHm¢B 87 H0-7: Years of experience--Costs/Benefits with SEC registered firms Study of IV-8 shows that all experience groups are fairly consistent (by an approximate three to one ratio) in their belief that the costs will exceed benefits if audit firms are rotated for SEC firms. The two most expe- rienced groups lean more toward the opinion that costs greater than benefits will result than the other groups, but the difference is not significantly greater. TABLE IV-8 EXPERIENCE GROUPS--COSTS/BENEFITS SEC FIRMS Years Costs Benefits of Exceed Exceed Exper. Benefits Costs Total Mean 0-9 92 40 132 1.30 30.8 13.4 44.1 10-19 66 23 89 1.26 22.1 7.7 29.8 20-29 34 15 49 1.31 11.4 5.0 16.4 30-39a 13 4 17 1.24 4.3 1.3 5.7 40+a 9 3 12 1.25 3.0 1.0 4.0 Total 214 85 299b 1.28 71.6 28.4 100.0 Raw chi-square = .89767. bNon-responses: Significance level = .8260 aFor calculation purposes these rows are combined. 0-9=2; 10-19=2. 88 Ho-8: Years of experience--Costs/Benefits with non-SEC registered firms Table IV-9 indicates that respondents view both (SEC and non-SEC) costs/benefits decisions in the same way. There is some movement from the Benefits Exceed Costs to the Costs Exceed Benefits column for all groups. TABLE IV-9 EXPERIENCE GROUPS--COSTS/BENEFITS NON-SEC FIRMS Years Costs Benefits of Exceed Exceed Exper. Benefits Costs Total Mean 0-9 103 27 130 1.21 35.5 9.3 44.8 10-19 67 22 89 1.25 23.1 7.6 30.7 20-29 36 10 46 1.22 12.4 3.4 15.9 30-39a 12 2 14 1.14 4.1 .7 4.8 40+a 10 1 11 1.09 3.4 .3 3.8 Total 228 62 290b 1.21 78.6 21.4 100.0 Raw chi-square = 1.93137. Significance level = .5868. aFor calculation purposes these rows are combined. bNon-responses: 0-9=4; 10-19=2; 20-29=3; 30-39=3; 40+=1. 89 CPA Breakdown information All CPAs were asked to indicate what size firm they either currently work for or formerly worked for. Of 129 respondents, nine do not make that indication. Table IV-lO shows the breakdown of respondents who indicate the size of their firms. TABLE IV-lO BREAKDOWN OF CPA FIRM SIZE Firm Size Number Percent Big Eight 55 45.84 Next Seven 4 3.33 Other National 7 5.83 Regional 6 5.00 Local _3§_ 40.00 Total 100.00 At the time of the questionnaire, were: Arthur Andersen & Co. Arthur Young and Company Coopers & Lybrand Ernst & Ernst Haskins & Sells Peat, Marwick, Mitchell & Co. Price Waterhouse & Co. Touche Ross & Co. the "Big Eight" 90 At the time of the questionnaire, the "Next Seven" were: Alexander Grant & Co. Hurdman and Cranstoun J. K. Lasser & Co. Laventhol & Horwath S. D. Leidesdort & Co. Main Lafrentz & Co. Seidman & Seidmanl Due to the small numbers of respondents represent- ing the three middle-size firms, the analysis that follows in this and later chapters groups all respondents (who indicate firm size) into two groups consisting of the "Big Fifteen" and all others. The presentation of data likewise consists of only two groups. H0-9: CPA Breakdown--Independence with SEC registered firms Although not significant (at the .05 level), it is interesting to note that while only one-sixth of the respon- dents who work/worked for "Big Fifteen" firms feel rota- tion of firms will greatly increase independence, a full one-third of the respondents who work/worked for smaller firms think the change will greatly increase independence. 10These listings are taken from Accountinngstab- lishment, Metcalf, pp. 25, 29. 91 .anoooo "noncommoulcoz n .omcHnEoo mum mCESHoo mmmcu mmmomusm coHumHsono Homo .mHho. Ho>mH TOGMOHchmHm .vmqmm.m u whosomcho 3mm o.ooH o.HN N.Ho o.Hm o.H m4 em.m oaHH am mo mm m H Hopes o.om m.oH m.mH m.oH o m. manm oo.a oo om mm 5H o H poouo o.aa o.H a.~m o.HH e.H o amouMHa ma.m am a em Hm N o mHm com: Hmuoe .QmocH .moocH .amocH .moooH .mmooH EHHh ommouocH mmmouooH uomwwé mmmmuooo mmomnooo mo sHpoopo meaoHHm opoz osHunoHHm omHuoopo ouHm HHI>H mqmfiB mZMHm 0mm mozmozmmeZHllzmmemHm UHm 92 Ho-lO: CPA Breakdown--Independence with non-SEC registered firms As is true with SEC registered firms, for non-SEC firms a larger percentage of the respondents who work/ worked with firms other than the "Big Fifteen" feel that rotation will greatly increase independence than the per- centage of respondents from the "Big Fifteen." For both groups there is a sizeable movement of respondents from the Will Increase Independence categories to Will Not Increase categories when the responses for non-SEC firms are compared with those for SEC firms. HO-ll: CPA Breakdown--Costs/Benefits with SEC registered firms Table IV-13 indicates that in both groups a large majority of respondents feel that the costs will exceed the benefits to society. The percentage of "other" respondents is double that of the "Big Fifteen" respondents. Ho-12: CPA Breakdown--Costs/Benefits with non-SEC registered fiims Again referring to non-SEC clients, a majority of the respondents feel that the costs will exceed the bene- fits, but this time in almost equal percentages for both respondent groups. 93 .Hnuocpo “mucomume mHm "noncommounoozn .oooHnEoo who mCEdHoo mmocu momomusm coHMMHsono Homo .amoH. u Ho>oH oooooHoHomHm .maoom.m oposomuHso 36m o.o0H m.vH m.mm m.mv a. o.~ oo.m paHH oH mo mm H m Houoe m.Hm m.oH e.aH e.aH 1m e.H mapHm ~e.m oo NH mm mm o N “mono a.ma m.o H.5H a.m~ a. a. ommpuHm ao.m am m om on H H mHm coo: Hmuos .mmooH .mmocH .moooH .QmooH .mmocH EHHm wwwwHOGH wmmmHUCH Howmm/w QmMOHUOO mmmeOOQ HO sHuoopo sHuooHHm opoz osHpaoHHm osHpoouu ouHm mZmHh 0mleOZ MUZmQZQOOZHIIZmMBMHh UHm NHI>H mHmoH mooooHMHsmHm .vaHm.n u muooomlwco 3mm o.o0H m.wH 5.5m o.mv H.¢ v.m mm.m ommm mo Hm mvH NH 5 Houoe v.nm m.m N.m h.NH h.H o mm.m om HH mm mm m o mdmo m.mm N.n m.e m.HH o.H o.H mm.m om Hm mm mm o o mZmU m.mv m.m o.HH o.mm o.H o.H mv.m mNH hH mm mm m m mdmo coo: HTHOB .moocH .moocH .moocH .moocH .omocH whooHooH mmmouocH pommm< mommuomo mmmonomo aHpomuo mecoHHm ouoz omHuanHm omHuompo omzmHm omm mozmozmmmozHnummmo\mzmo\m¢oo HI> mqmfifi 111 of auditor changes in a management report affects the CPA's independence.7 Only 13% of the CPAs and CFAs feel that disclosure greatly increases independence. At the same time a full 25% of the CBMs feel that disclosure greatly increases independence. H02: CPAs/CBMs/CFAs--Independence with non-SEC registered firms Regarding non-SEC firms, the respondent means are lower than when referring to SEC registered firms. Table V-2 shows that all of the means are lower than they are for SEC registered firms as presented in Table V-l. The two tables show that, for SEC and non-SEC registered firms, only 19 and 18 respondents, respectively, think that there is a decrease in independence. H03: CPAs/CBMs/CFAs--Cost/Benefits with SEC registered firms Table V-3 shows that all three respondent groups feel that the benefits to society will exceed the costs to society with respect to disclosing auditor changes in a management report. The CPAs have the lowest mean, and the CBMS have the highest; the CFAs fall exactly mid-way between these two groups. 7For more information on the statistical analysis, see Chapter IV. .olmdmo “mlmzmo “mumdmu ”noncommmnloozn .oocHQEoo who moESHoo wmwcu monomusm COHumHDUHmo Homo .onN. n Ho>wH woomoHMHcmHm .mhmmm.v u mumsomlHno 3mm 112 c.00H m.mH m.mm «.mm m.m v.~ ov.m ommm mm mm me HH n Hmuoe HAM: HA: m|.ml 8|: 3 Iol om.m me o om mo m o mmmu «.mm m.o m.> w.mH o.H o.H mo.m mm mH Hm mo m m mzmu m.mo m.v m.m m.>m >.H o.H Hm.m omH oH om mm m w mmmo coo: Houoa .ooocH .mmooH .QoocH .mmocH .mmocH wmmouooH whomHocH nommmm omomnomo mmmmuomo mHuomHo mHucmHHm mpoz mmHuanHm mmHummuw mzmHm ommuzoz mozmazmamozHnum MHmdB 113 TABLE V-3 CPAs/CBMs/CFAs--COSTS/BENEFITS SEC FIRMS Costs Benefits Exceed Exceed Benefits Costs Total Mean CPAs 46 75 121 1.62 16.7 27.2 43.8 CBMs 20 59 79 1.75 7.2 21.4 28.6 CFAs 24 52 76 1.68 8.7 18.8 27.5 Total 90 186 276a 1.67 32.6 67.4 100.0 Raw chi-square = 3.55859. Significance level = .1688. aNon-responses: CPAs-8; CBMs-11; CFAs-B. H04: CPAs/CBMs/CFAs--Costs/Benefits with non-SEC registered firms Examination of the issue of disclosure of auditor changes with non-SEC registered firms indicates an apparent difference of opinion. Although the responses are not sig- nificantly different at the .05 alpha level, it is clear that there is not total agreement. 114 TABLE V-4 CPAs/CBMs/CFAs--COSTS/BENEFITS NON-SEC FIRMS Costs Benefits Exceed Exceed Benefits Costs Total Mean CPAs 56 64 120 1.53 20.4 23.4 43.8 CBMs 26 53 79 1.67 9.5 19.3 28.8 CFAs 24 51 75 1.68 8.8 18.6 27.4 Total 106 168 274a 1.61 38.7 61.3 100.0 Raw chi-square = 5.74620. Significance level = .0565. aNon-responses: CFAs-9; CBMs-ll; CFAs-9. The mean of all respondents drops from 1.69 regard- ing SEC registered firms, to 1.61 in reference to non-SEC registered firms. At the same time, the mean for the CFA respondents does not change. The largest drop in mean is represented by the CPA respondents; the drop in the mean of the CBMs is not significantly less than the CPAs. Ho:5: Years of experience--Independence with SEC registered firms Table V-S indicates a high degree of consistency of opinion of the respondent groups divided into years of experience. All groups do feel that disclosure of auditor changes in a management report will increase independence .Nnmmlom umanIOH uonmio .oonoEoo mum m3on moms» monomusm coHuoHoono mom "monsoommuncozo n .owcHnEoo who moEoHoo mmmcu monomnom COHuoHsono Homo 115 .Nmmn. u Ho>mH TUGMOHMHcmHm .mvmvm.m I mumDUmIHcU 3mm c.00H m.mH h.b~ o.mv H.o ¢.N mm.m Ummm mo Hm mvH NH h Hmuoe H.v m. h. n.m o m. 5H.m NH H N m o H Q+oo m.m e.H o.H e.m m. o Hh.m hH m m m H o ammlom H.mH >.m v.m m.e o.H o.H vm.m no m CH mm v m mmlom m.mm m.o m.m h.vH n. m. mm.m mm «H on me m H mHIOH m.¢v N.n e.MH N.HN h.H n. mm.m omH Hm ow mm m N mac com: Hmuoe .mmocH .omocH .QmocH .moooH .mmocH .Hmmxm omoouocH mmomuooH powwmm mmmmuomo mmownomo mo prmouo >HucoHHm muoz mmHucOHHm omHuowHU whom» mSmHm 0mm muzmozmmeZHllmmDomU MUZmHmmmxm ml> mqmdB 116 on an average, and only 19 respondents in all feel that the change will decrease independence. H0:6: Years of experience--Independence with non-SEC registered firms When referring to non-SEC registered firms, most of the respondent groups feel that the change will increase independence by a lesser margin than the change for SEC- registered firms. The lone exception is the group with 20-29 years of experience, whose mean goes from 3.34 to 3.35 regarding non-SEC registered firms. It should also be noted from study of non-SEC registered firms that the groups with 40+ years of experi- ence feel, on an average, that there will not be an effect on independence. This is represented by the mean of 3.00 in Table V-6. Again the small number of respondents in this group should make the reader wary. H0:7: Years of experience--Costs/Benefits with SEC registered firms Table V-7 indicates that, regarding SEC-registered firms, all respondent groups believe that the costs to society will be smaller than benefits to society if auditor changes are disclosed in management reports. 117 .mummp HMUHumHumum MOM moNHm HHmo oouoomxm ucmHOHmmsmcH .Hummnom “mumNHON umuaHIOH “mumuo .omoHnEoo mum mzou omocu momomnsm ooHuoHsono mom “monsoommuncoz (UQO'U .oonnEoo who mCEoHoo mmwnu monomuom COHumHDUHmo Mom o.o0H m.NH m.MN v.hm m.m v.N o¢.m 0mmN mm mm me HH 5 Houoa N.v o h. H.m o m. oo.m NH o N m o H Q+O¢ m.m h. o.H m.m m. o mm.m oH N m OH H o ammlom m.mH v.N m.m o.m o.H n. mm.m mo 5 0H mN v N mNION m.mN H.m v.5 m.mH m. m. mv.m mm m NN mm H H mHIOH o.Hv N.o H.HH m.vN h.H o.H vv.m mNH mH Nm He m m mlo coo: Hmuoa .mmooH .moooH .moocH .mmocH .mmocH .mexm omomuocH ommonocH poomm< omowuooo mmmmuomo mo mHummuo mHucmHHm muoz meucmHHm owHuowuo whom» mZmHh Dmmlzoz WUZMQZmQMQZHIImmbomU muzmHmmmxm ml> mqmflfi 118 TABLE V-7 EXPERIENCE GROUPS--COSTS/BENEFITS SEC FIRMS Years Costs Benefits of Exceed Exceed Exper. Benefits Costs Total Mean 0-9 39 87 126 1.69 14.1 31.5 45.7 10-19 24 56 80 1.70 8.7 20.3 29.0 20-29 17 27 44 1.61 6.2 9.8 15.9 30-39a 7 9 16 1.56 2.5 3.3 5.8 40+a 3 7 10 1.70 1.1 2.5 3.6 Total 90 186 276b 1.67 32.6 67.4 100.0 Raw chi-square = 1.53780. Significance level = .6736. aFor calculation purposes these rows are combined. bNon-responses: 0-9=8; 10-19=11; 20-29=5; 30-39-1; 4o+=2. H0-8: Years of experience--Costs/Benefits with non-SEC registered firms Regarding non-SEC registered firms, there still seems to be a-consensus that the benefits will exceed the costs if auditor changes are disclosed in management reports. The lone exception among the respondents is the group with 30-39 years of experience. As indicated in Table V-8, the mean for this group suggests that the 119 respondents feel that the costs will exceed the benefits of this particular change. TABLE V-8 EXPERIENCE GROUPS--COSTS/BENEFITS NON-SEC FIRMS Years Costs Benefits of Exceeds Exceed Exper. Benefits Costs Total Mean 0-9 44 81 125 1.65 16.1 29.6 45.6 10-19 28 52 80 1.65 10.2 19.0 29.2 20-29 21 23 44 1.52 7.7 8.4 16.1 30-39a 10 5 15 1.33 3.6 1.8 5.5 40+a 3 7 10 1.70 1.1 2.6 3.6 Total 106 168 274b 1.61 38.7 61 3 100 0 ll Raw chi-square = 4.48326. bNon-responses: 0-9=9; This point is an interesting one: 10-19=1l; 20-29=5; Significance level = .2138. aFor calculation purposes these rows are combined. 30-39=2; when examining the issue of independence the same respondent group has the highest mean, suggesting that, more than the others, this group thinks it will increase independence. Conse- quently, this group has the highest mean in reference to 120 independence, and the lowest mean in reference to costs/ benefits. Again the small number of respondents allows a few respondents to alter the mean greatly. Ho-9: CPA Breakdown--Independence with SEC registered firms8 Table V-9 shows that there is not a significant disagreement between CPA groups as to how disclosure of auditor changes in a management report will affect the CPA's independence. Examining independence with SEC registered firms, the "Big Fifteen" respondents are more likely than the CPAs from "other" firms to suggest that disclosure of auditor changes in a management report will increase independence. As Table V-9 illustrates, 44% of the "Big Fifteen" respondents feel that independence will increase, while only 30% of CPA respondents from other firms feel that independence will increase. 8For more information on the distribution of CPAs, see Chapter IV, "CPA Breakdown Information." 121 .Hlumcuo “mmmcommmnlcozn .cmcflQEoo mum mchHoo wmmcu mmmomusm coapmasoamo uomm .namm. u Hm>ma wocmowwflcmflm .vmmmm.m n wumovmlwno 3mm o.ooa m.ma v.vm m.mm n.H m.m mv.m anH ma mm on m m Hmuoe v.om o.m H.0H m.mm m. n.H meuwm mm.m co m NH mm H N umcuo w.mv m.h m.vH H.mm m. m. cmmumflm 6m.m mm a na Hm H a mum cmmz Hmuoe .mwocH .mwccH .mmUcH .Qmch .mmUGH sham mmmmuocH mmmmuocH pommm¢ mmmwuooo mmmmuomo mo maummuw Saunmflam 6uoz mmapnmfiam maaummuo muflm mEMHm 0mm mUZMQZMQMDZHIImeBhHm me ml> mqmdfi 122 Ho-lO: CPA Breakdown--Independence with non-SEC registered firms Regarding non-SEC registered firms, the CPAs have an even wider difference of opinion. This is indicated by the statistically significant level of .0111. As the 3.08 mean indicates, the CPAs from firms other than the "Big Fifteen" feel that independence will hardly be in- creased by disclosure of auditor changes in a management report. While the "Big Fifteen" respondents who feel that independence will increase drops from 42% for SEC firms to 40% for non-SEC firms, the respondents from other firms who think that independence will increase drops from 30% for SEC firms to only 16% for non-SEC firms. HO-ll: CPA Breakdown--Costs/Benefits with registered firms Examination of the costs/benefits question for SEC registered firms shows that there is a statistically sig- nificant disagreement between the two respondent groups. Fully 74% of the "Big Fifteen" respondents feel that the benefits to society will exceed the costs to society when disclosure of auditor changes in a management report is mandated. At the same time barely more than half of the respondents from other firms (54%) feel that the benefits will be greater than the costs. 123 .mucmmumwm mam "mwmcommmnlcozn .cmcHQEoo mum mcEdHoo mmmcu mmmomuom coaumasoamo Homo .HHHo. n Hm>6H moamoflmucmflm .mamoo.m . mumswmnflso 38m o.ooa m. m m.mH m.mm v.m v.m mm.m nmaa 0H mm up w v kuoe h.Hm >.H m.m m.mm m. m.m meuflm mo.m Hm m m 5v H m Hmnuo m.mv m.m >.NH v.mm m.~ m. cmGHMfih mv.m mm m ma om m H mam com: Hmuoe .mmch .meQH .QmocH .mmccH .mmch Shah wmwmuocH mmmmuocH uommm< mmmmuomo wmmmuomo mo waumouw waunmflam muoz whaunmflam maaummuw muflm mZMHm 0mmIZOZ MUZmDZMQMQZHIImeBmHm me OHI> mqmflB 124 TABLE V-ll BIG FIFTEEN--COSTS/BENEFITS SEC FIRMS Size Costs Benefits of Exceed Exceed Firm Benefits Costs Total Mean Big Fifteen 14 41 55 1.75 12.5 36.6 49.1 Other firms 26 31 57 1.54 23.2 27.7 50.9 Total 40 72 112a 1.64 35.7 64.3 100.0 Raw chi-square = 4.11560. Significance level = .0425. aNon-responses: Big Fifteen-4; Other-4. Ho-lZ: CPA Breakdown--Costs/Benefits with non-SEC registered firms As with the issue of SEC registered firms, the CPAs disagree in a statistically significant way regarding non-SEC registered firms. Table V-12 shows that the CPA respondents from "other" firms feel that the costs will exceed the benefits for disclosing auditor changes in management reports. At the same time, the "Big Fifteen" respondents, by a margin to 2 to I, feel that the benefits will exceed the costs. 125 TABLE V-12 BIG FIFTEEN--COSTS/BENEFITS NON-SEC FIRMS Size Costs Benefits of Exceed Exceed Firm Benefits Costs Total Mean Big Fifteen 17 37 54 1.69 15.2 33.0 48.2 Other firms 33 25 58 1.43 29.5 22.3 51.8 Total 50 62 112a 1.55 44.6 55.4 100.0 Raw chi—square = 6.31681. Significance level = .0120 aNon-responses: Big Fifteen-5; Other-3. Data Review Hypotheses rejected Reviewing the data using an .05 alpha level of significance, the chi-square tests that reject the hypothe- sis of consensus are: 1. Big Fifteen - Independence Non-SEC firms (Table V-lO). 2. Big Fifteen - Costs/Benefits SEC firms (Table V-ll). 3. Big Fifteen - Costs/Benefits Non-SEC firms (Table V-12). Further examination shows that two other tests approach rejection of the null at an .05 level. They are: l. CPAs/CBMs/CFAs - Independence SEC firms (Table V-l). 2. CPAs/CBMs/CFAs - Costs/Benefits Non-SEC firms (Table V-4). 126 Table V-13 shows that in all but one case the respondent groups feel that disclosure of auditor changes in a management report will increase the independence of the CPA with respect either to SEC-registered or non-SEC registered clients. The one exception is the group of respondents with forty or more years of experience. On the average this group feels that the proposed change will not affect independence. Analysis of means of independence decision Using the 1 to 5 scale, it is possible to state that a group mean of below 3.0 indicates that an average response is that independence will decrease. A group mean of 3.0 indicates that an average response is that inde- pendence will not be affected; a group mean above 3.0 indi- cates that an average response is that independence will increase. The entire set of means falls between 3.17 and 3.71 for SEC registered firms. The lowest group mean is for those respondents with the most experience, perhaps because the more experi- enced respondents do not want change, or because they are not convinced that there is an independence problem. Again, it should be pointed out that the limited number of respondents in this group allows a few responses to alter the mean greatly. The second lowest mean is for the CPAs who did not/ do not work for the "Big Fifteen." Is it possible that 127 TABLE V-l3 COMPARISON OF GROUP MEANS--DISCLOSURE Inde- Inde- Grou pendence pendence Costs Costs p Decision Decision Benefits Benefits SEC Non-SEC SEC Non-SEC CPAs 3.45 3.31 1.62 1.53 CBMs 3.62 3.45 1.75 1.67 CFAs 3.55 3.50 1.68 1.68 0-9 3.56 3.44 1.69 1.65 10-19 3.58 3.34 1.70 1.65 20-29 3.34* 3.35* 1.61 1.52 30-39 3.71 3.38 1.56 1.33 40+ 3.17 3.00 1.70 1.70 Big 15 3.54 3.46 1.75 1.69 Other CPAs 3.32 3.08 1.54 1.43 Total of All Respondents 3.52 3.40 1.67 1.61 *This is the only instance in which the group mean, regarding SEC registered firms, is lower than the mean of the same group regarding non-SEC registered firms. 128 they feel that if management has to publish an auditor change there will be fewer changes? An extension of this argument is, then, that if there are fewer changes, small firms have fewer opportunities to acquire new clients. It should again be noted that the CPAs have a statistically significant difference of Opinion on the costs and bene- fits of this proposed change for both SEC and non—SEC registered firms. The highest mean is for the respondent group with 30-39 years of experience. Because of the small number of respondents, this group is also subject to large shifts in the mean due to few responses. Regarding non-SEC firms, the means of the respon- dent groups are between 3.0 for the 40+ experience group and 3.5 for CFAs. In ten of eleven cases (see Table V-13 for the comparison of means), the respondent groups feel that when an SEC-registered firm is involved there will be a greater increase in independence than there is for a non-SEC registered firm. The lone exception is the group with 20-29 years of experience. Analysis of means of costs/benefits Considering the l, 2 scale, it is possible to state that a group mean above 1.5 indicates an average response that the benefits will exceed the costs. Likewise, a group mean below 1.5 indicates an average response that the costs 129 will exceed the benefits. Two groups representing the non "Big Fifteen" CPAs and the respondents with 30-39 years of experience feel that the costs of disclosure will exceed the benefits. The means of all other groups indicate that benefits will exceed costs, although the CPAs and groups with 20-29 years of experience do not indicate this by a significant margin. The small number of respondents in the group with 30-39 years of experience makes it unwise to interpret their results since so few responses may greatly affect the means. Conclusions Even though there are some significant differences among various respondent groups as to how disclosure of auditor changes in a management report will affect the independence of the CPA regarding a client, all groups except one (the group with 40+ years experience examining non-SEC firms) feel that it will increase independence. At the same time all groups except two feel that the benefits to society will exceed the costs, should dis- closure be required. The findings are consistent with the recommenda- tions of the Commission on Auditors' Responsibilities which states that disclosure of auditor changes should be required in a management report. CHAPTER VI GIFTS AND DISCOUNT PURCHASES Literature Review Little literature exists concerning the issue of gifts and discount purchases from clients by an indepen- dent auditor. One of the few official pronouncements concerning gifts is Ethics Ruling No. l which is restated in the AICPA's Code of Professional Ethics: If an employee or partner accepts more than a token gift from a client, even with the knowledge of the member's firm, the appear- ance of independence may be lacking.1 The only empirical study to date with respect to gifts and/or discount purchases from clients by indepen— 2 Of the total dent auditors was done by John Grant Rhode. respondents to Rhode's survey, 76% believe that accepting gifts from audit clients other than infrequent meals or 1American Institute of Certified Public Accoun- tants, Ethics Rulings on Independence, Integrity and Objec- tivity, Code of Professional Standards (New York: American Institute of Certified Public Accountants, 1977), ET Sec- tion 191.002. 2John Grant Rhode, "The Independent Auditors' Wbrk Environment: A Survey," Commission on Auditors' Respon- sibilities Research Study No. 4 (New York: American Institute of Certified Public Accountants, 1978). See Chapter II for more information on this research. 130 131 gifts with a value of less than $25.00 will affect the auditors' ability to resist pressures to subordinate pro- fessional judgment. Six percent of the respondents had at some time accepted gifts with a value of over $25.00 from an audit client. Asked the value of gifts accepted from all audit clients, fully one-third of the respondents answered that they had accepted gifts greater than $25.00 in cumulative value. The Commission on Auditors' Responsibilities recom- mends that all firms should develop for their staffs care- fully drawn rules on gifts and discounts, and that the AICPA should provide more definitive guidelines on amounts to be considered "token."3 The Metcalf Committee did not make any references to gifts or purchases at discounts. Analysis of Data The remaining portion of this chapter is devoted to the presentation and interpretation of the data. Each hypothesis is investigated separately; a review and sum- mary are presented in the section titled Data Review. Specific hypotheses The specific hypotheses to be tested in this sec- tion are: 3American Institute of Certified Public Accoun- tants, Commission on Auditors' Responsibilities, Commission on Auditors' Responsibilities: Report, Conclu31ofi§“and Récommendations (New York: Timerican IfiSfitufe EITCerti- fied Public Accountants, 1978), p. 118. 132 There are no significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the effect that adoption of policies on gifts and discounts will have on the CPA's independence with respect to the CPA's SEC registered clients. There are significant differences among members of the AICPA, Corporate Bar and ICFA regarding their perceptions of the effect that adoption of policies on gifts and discounts will have on the CPA's inde- pendence with respect to the CPA's SEC registered clients. There are no significant differences among members of the AICPA, Corporate Bar and ICFA regarding their perceptions of the effect that adoption of policies on gifts and discounts will have on the CPA's independence with respect to the CPA's non- SEC registered clients. There are significant differences among members of the AICPA, Corporate Bar and ICFA regarding their perceptions of the effect that adoption of policies on gifts and discounts will have on the CPA's inde- pendence with respect to the CPA's non-SEC regis- tered clients. There are no significant differences among members of the AICPA, Corporate Bar and ICFA regarding their perceptions of the costs and benefits to H -5: 133 society as a whole, of adopting policies on gifts and discounts for SEC registered firms. There are significant differences among members of the AICPA, Corporate Bar and ICFA regarding their perceptions of the costs and benefits to society as a whole, of adopting policies on gifts and discounts for SEC registered firms. There are no significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the costs and benefits to society as a whole, of adopting policies on gifts and discounts for non-SEC registered firms. There are significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the costs and benefits to society as a whole, of adopting policies on gifts and discounts for non-SEC registered firms. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions of the effect that adoption of policies on gifts and discounts will have on the CPA's independence with respect to the CPA's SEC registered clients. There are significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding H -6: 134 their perceptions of the effect that adoption of policies on gifts and discounts will have on the CPA's independence with respect to the CPA's SEC registered clients. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions of the effect that adoption of policies on gifts and discounts will have on the CPA's independence with respect to the CPA's non- SEC registered clients. There are significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions of the effect that adoption of policies on gifts and discounts will have on the CPA's independence with respect to the CPA's non- SEC registered clients. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions as to the costs and benefits to society as a whole, of adopting policies on gifts and discounts for SEC registered firms. There are significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding Hl-9: 135 their perceptions of the costs and benefits to society as a whole, of adOpting policies on gifts and discounts for SEC registered firms. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions of the costs and benefits to society as a whole, of adopting policies on gifts and discounts for non-SEC registered firms. There are significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions of the costs and benefits to society as a whole, of adopting policies on gifts and discounts for non-SEC registered firms. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect that adoption of policies on gifts and dis- counts will have on the CPA's independence with respect to the CPA's SEC registered clients. There are significant differences between respon— dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect that adoption of policies on gifts and H -10: -10: H -11: 136 discounts will have on the CPA's independence with respect to the CPA's SEC registered clients. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect that adoption of policies on gifts and discounts will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect that adoption of policies on gifts and discounts will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms regarding their perceptions of the costs and benefits to society as a whole, of adopting policies on gifts and discounts for SEC registered firms. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other 137 CPA firms regarding their perceptions of the costs and benefits to society as a whole, of adopting policies on gifts and discounts for SEC registered firms. HO—lz: There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the costs and benefits to society as a whole, of adopting policies on gifts and discounts for non- SEC registered firms. H1-12: There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions as to the costs and benefits to society as a whole, of adopting policies on gifts and discounts for non- SEC registered firms. Ho-l: CPAs/CBMs/CFAs--Independence with SEC registered firms As Table VI-l shows, there is a significant dis- agreement at the .05 alpha level among the groups as to how adoption of policies on gifts and discounts will affect the CPA's independence.4 While only 14% of the CPAs feel that the change will greatly increase 4For more information on the statistical analysis, see Chapter IV. 138 .wlmflmv “Himdmu "mmmcommmnlsoz A .pmcHnEoo mum mcEsHoo mmmcu mmmomusm coHumHsono Homo «MHo. u Hm>wH mocmoHMHcmHm .ohmom.mH n mumsvmlfino 30m o.o0H H.HN m.mm w.bm v.m o.m Hn.m nmqm mm 50H NHH oH w Hmuoe meMI «4m! H.HH wdml M4: mql mn.m om mH mm mm N H ammo m.om n.m n.m >.m o.H o.H nm.m om mm mm mm m m mZmU o.mv o.w H.mH m.mH h.H h. mm.m mNH mH mv mm m N mflmu cmmz HMDOB .QOUCH .mmocH .mmUCH .mmvcH .mmUGH mmmmuocH mmmmuocH pommmd mmmmuomo mmmmuooo saummuo maunmflam muoz msHusmHHm mxflpmmuo HIH> mqmdfi mzmHm omm mozmozmmmozHnumamo\mzmo\mmmo 139 independence, fully one-third of the CBMs feel that inde- pendence will greatly increase, and one-fifth of the CFAs feel that independence will greatly increase. H02: CPAs/CBMs/CFAs--Independence with non-SEC registered firms Table VI-2 also indicates that there is a signifi- cant disagreement among the groups as to how adoption of policies on gifts and discounts will affect the auditor's independence with respect to non-SEC clients. Examination of the means reveals that the GEMS and CFAs have an identical mean score while the CPAs have a much lower mean. Comparison of the means with those in Table VI-l with respect to SEC clients shows that the CPAs scores are virtually unchanged, while the GEMS have dropped the CPAs have risen so that they are equal. Again, nearly 50% of the CPAs feel that the change will not in- crease independence. H0-3: CPAs/CBMs/CFAs—-Costs/Benefits with SEC registered firms Table VI—3 shows that all three groups feel that the benefits to society will exceed the costs to society with respect to adopting policies regarding gifts and discounts to the CPA from SEC clients. Although not significant at the .05 alpha level, there is a difference of opinion on this issue: the CPAs have the lowest mean, the CBMs the highest: CFAs fall approximately midway 140 “mmmcommmulcozn .omcHnEoo mum mcEsHoo mmmnu mmmomusm coHuMHsono Homm .mumamo .Humzmo u«Iago mNmo. u Hm>mH OOCMOHMHcmHm .mmHm¢.OH n mumswmlwno 3mm o.OOH v.ON m.nm ¢.mm >.N h.N on.m vaN om HHH NOH m m Hmuoe flu. 3. .34 mls. ml Tl Nm.m mu mH Nm mN N H m mqmmH mnemoHMHcmHm .oamom.m u mumoomuaao 36m o.ooH H.HN m.mm w.hm v.m o.N Hn.m ome mm NOH NHH 0H m Hmuoa h.m o.H o.N h. o o mo.v HH m m N o o n+ov h.m o.H m.N m.H o m. mm.m NH m b v o H ammsom ¢.mH o.¢ o.m >.w m. m. m>.m aw NH mH oN H H mNIoN m.mN o.m H.HH o.HH o.H o mh.m mm mH mm wm m o mHIoH m.v¢ v.m v.mH ¢.NH o.N m.H Nm.m NMH mN wv Nm w v mic com: Hmuoe .mwccH .mmch .QOUGH .awccH .QOGGH .Hmmxm mmmouocH mmmmuocH uoommfi mmmmnomo mmmmnoma mo sHommuo NHosmAHm muoz oNHunoHHm oNHumoHo auto» mzmHm 0mm MUZMQZMAMDZHIImmbomo WUZmHmmmxm mIH> mamdfi 144 At the same time, each of the three groups with fewer than 30 years of experience, more than 40% of the respondents think that the adoption of policies on gifts and discounts will decrease independence. H0-6: Years of experience--Independence with non-SEC regiStered firms Table VI-6 indicates that respondents generally do not change their responses with regard to non-SEC firms and the adoption of policies on gifts and discount pur- chases. In fact, the only change noted in the responses regarding SEC firms and non-SEC firms is the fact that the respondents agree more closely regarding non-SEC firms. H0-7: Years of experience-~Costs/Benefits with SEC registered firms When asked about the costs and benefits connected with policies on gifts and discount purchases for SEC clients, the respondent groups are again in close agree- ment as to the effect of these policies. Although the least experienced group has a slightly lower mean, the difference among the groups are very small. .Hu+oa uHummuom “Hummuom “auoanoH umnmno "mmmaommouucozo .omcHQEoo mum mzon ommnu mmmomusm cowumHsono noun .omcHnEoo mum mnESHoo mmmnu monomhsm :oHumHDOHmo Momm .thm. u Hm>OH OOGMOHMHGmHm .mvmmN.H u mumsvmlHno 3mm o.OOH v.om 145 m.hm v.mm h.N >.N o>.m ova om HHH 50H m m Hmuoa >.m o.H h.H o.H. o o oo.v HH m m m o o Q+ov ¢.m o.H o.N >.H o m. mh.m mH w o m o H ammlom m.wH v.m H.@ H.@ m. m. m>.m mo 0H NH mH H H mNION o.NN m.m o.HH o.HH h. o m>.m hm NH vm «N N o mHIoH m.vv m.m m.mH o.mH n.H o.N mo.m NmH wN mv no m m mlo com: Hmuoe .mwocH .mmocH .mmccH .moccH .moch .Homxm mmmmuocH wmmwnocH uommmd wmmmuooo mmmouoma mo NHummHo mHuanHm muoz whHusmHHm mepmon whom» mZMHh UWMIZOZ muzmozmmeZHllmmbomU MUZMHmmmxm le> mqmflfi 146 TABLE VI-7 EXPERIENCE GROUPS--COSTS/BENEFITS SEC FIRMS Years Costs Benefits of Exceed Exceed Exper. Benefits Costs Total Mean 0-9 38 87 125 1.70 13.7 31.4 45.1 10-19 22 62 84 1.74 7.9 22.4 30.3 20—29 12 33 45 1.73 4.3 11.9 16.2 30-39a 4 ll 15 1.73 1.4 4.0 5.4 40+a 2 6 8 1.75 .7 2.2 2.9 Total 78 199 277b 1.72 28.2 71.8 100.0 Raw chi-square = .56958. Significance level = .9034. a . . For calculation purposes these rows are combined. bNon-responses: o-9=9; 10-19=7; 20-29=4; 3o-39=2; 4o+=4. H08: Years of experience--Costs/Benefits with non-SEC registered firms Table VI-8 reveals that the respondents are fairly close in their views regarding the costs and benefits of policies on gifts and discount purchases. Interesting is the group with 30-39 years of experience, which has the lowest mean, and comes more closely than any of the other five groups to stating that costs will exceed benefits. 147 It should be noted, however, that the small number of respondents in that group allow the mean to be affected greatly by just a few responses. TABLE VI-8 EXPERIENCE GROUPS--COSTS/BENEFITS NON-SEC FIRMS Years Costs Benefits of Exceed Exceed Exper. Benefits Costs Total Mean 0-9 40 85 125 1.68 14.6 31.0 45.6 10—19 23 60 83 1.72 8.4 21.9 30.3 20-29 12 32 44 1.73 4.4 11.7 16.1 30—39a 5 9 14 1.64 1.8 3.3 5.1 40+a 2 6 8 1.75 7 _2_2 2.9 Total 82 192 274b 1.70 29.9 70.1 . 100.0 Raw chi-square = .63588. Significance level = .8882. aFor calculation purposes these rows are combined. bNon-responses: o-9=9; 10-19=8; 20-29=5; 30-39=3; 4o+=4. 148 Ho-9: CPA Breakdown--Independence with SEC registered firmsS Although the CPAs are in general agreement as to how policies on gifts and discount purchases will affect independence with SEC registered firms, there are some differences of opinion. This is perhaps best indicated by the fact that 62% of the "Big Fifteen" respondents feel the policies will not increase independence, while only 45% of the "Other" respondents think there will be no increase in independence. Ho-lo: CPA Breakdown--Independence with non-SEC registered firms Regarding independence with non-SEC registered firms, the CPAs agree even more closely than they do regarding SEC registered firms. Respondents who worked for firms other than the "Big Fifteen" still believe that the proposed changes will increase independence by a greater margin than do the respondents from the "Big Fifteen" firms. However, the difference is not statis- tically significant. 5For more information on the distribution of CPAs, see Chapter IV, "CPA Breakdown Information." 149 .Huumsuo “noncommmnlcozn .cmcHQEoo mum mQEDHoo mmmau mmmomuom :oHumHsono Homo .mmaH. u Hm>mH moamonHcmHm .maon.m u mumswmano 36m o.ooH a.MH o.Nm o.aa «.4 o.H mm.m anH oH am am m m Hones a.om a.m a.aH ~.om m.m o msuHm ao.m om OH mm an m o umsuo o.ma o.m a.mH a.a~ a.H o.H cwmumHm am.m om o oH mm N m mHm 2mm: Hmuoe .mwocH .mwch .mmccH .mmocH .mmch EHHm mwmmHOCH wmmeOCH uomwwfi mmMOHUwQ mmmeOOQ m0 NHummuo sHuanHm ouoz omHoanHm mNHummuo wuHm mIH> mqméfi mzmHm 0mm MUZmQZMQMDZHIthmBmHh UHm 150 .HuommuMHm mHm "noncommmulcoz n .omcHnEoo mum mQEsHoo mmmsu mwmomusm GOHuMHsono Homo .MNNH. n Hw>mH mUGMOHMHcmHm .ommmv.m u mumsvmlwno 3mm o.OOH o.NH o.hm h.m¢ v.m ,v.m Nm.m NHH mH vv Nm v v ku09 N.Hm N.m m.mH N.0N m.N m. mEHHm Nm.m Hm HH NN vN m H Hwnuo m.mv o.N m.mH m.mN m. m.N :wmumwm oa.m mm a mm mm H m mHm cow: Hmuoe .mmch .mmUcH .mmUCH .mmccH .mwccH Euwm mmMTHUCH mmmmuocH uowmmd mmmmuowo ommwuowo mo NHoomao NHuaoHHm 6uoz msHuamHHm mNHuomuo muHm mzmHm UMmIZOZ MUZMQZHQMDZHIImeBhHm UHm OHIH> mnmflfi 151 Ho-ll: CPA Breakdown--Costs/Benefits with SEC registered firms Examination of Table VI-ll shows that both groups of respondents feel that policies on gifts and discount purchases will have more benefits than costs. There is virtually no difference among the means of the respondent groups on this question. TABLE VI-ll BIG FIFTEEN--COSTS/BENEFITS SEC FIRMS Size Costs Benefits of Exceed Exceed Firm Benefits Costs Total Mean Big 19 30 49 1.61 Fifteen 18.1 28.6 46.7 Other 19 37 56 1.66 Firms 18.1 35.2 53.3 Total 38 67 105 1.64 36 2 63.8 100.0 Raw chi-square = .09740. Significance level = .7550. aNon-responses: Big Fifteen-10; Other—5. Ho-12: CPA Breakdown--Costs/Benefits with non-SEC registered firms When referring to non-SEC registered firms, the respondent groups again have very similar feelings. The respondents who worked for "Other" firms believe that the benefits will exceed the costs by a greater margin than do 152 the respondents from the "Big Fifteen" firms, but the differences are very small and not statistically signifi- cant. TABLE VI-12 BIG FIFTEEN--COSTS/BENEFITS NON-SEC FIRMS Size Costs Benefits of Exceed Exceed Firm Benefits Costs Total Mean Big 20 29 49 1.59 Fifteen 18.9 27.4 46.2 Other 20 37 57 1.65 Firms 18.9 34.9 53.8 Total 40 66 106a 1.62 37 7 62.3 100.0 Raw chi-square = .16459. Significance level = .6850. aNon—responses: Big Fifteen-10; Other-4. Data Review Hypotheses rejected In a review of the data with an .05 alpha level of significance, the only chi-square tests that reject the hypothesis of consensus are: l. CPAs/CBMs/CFAs - Independence SEC firms (Table VI-l). 2. CPAs/CBMs/CFAs - Independence non-SEC firms (Table VI-Z). Further study reveals that one other test approaches rejection of the null at an .05 level: 153 l. CPAs/CBMs/CFAS - Costs/Benefits SEC firms (Table VI-3). Review of the data of this chapter makes it clear that all respondent groups feel that required adoption of rules on gifts and discount purchases will increase the independence of the CPA with respect either to SEC regis- tered or non-SEC registered clients. Analysis of means of independence decision Using the l to 5 scale, it is possible to state that a group mean of below 3.0 indicates an average re- sponse that independence will be decreased. It is also possible to state that a group mean of 3.0 indicates an average response that independence will not be affected; a group mean above 3.0 indicates an average response that independence will be increased. The entire set of means falls between 3.37 and 4.09 for SEC registered firms and non-SEC registered firms. The lowest mean, by a wide margin, is for the respondents who work/worked for "Big Fifteen" firms. This may be explained in part by the more elaborate rules on gifts and discount purchases that the "Big Fifteen" firms have. At the other end of the spectrum of means are the highest means for the group of respondents with the longest experience. The question can be asked, "Have the more experienced workers seen more abuses?" Again, cau- tion should be exercised because of the small number of 154 respondents in this group. In contrast to the issues of rotation and dis- closure, there is no consistency among the respondents regarding the question of SEC registered versus non-SEC registered firms on this issue of gifts and discount pur- chases. There are some groups that feel independence will increase more for SEC firms than for non-SEC firms; some groups believe the opposite. No trend can be noted by the author. Analysis of means of costs/benefits Considering the l, 2 scale, it is possible to state that a group mean above 1.5 indicates an average response timn: the benefits will exceed the costs. Like- wise, a group mean below 1.5 indicates an average response that the costs will exceed the benefits. Table VI-13 shows that all groups feel not only that independence will be increased by mandating policies on gifts and discount purchases, but also that the bene- fits of such policies will exceed the costs. Although there is more consistency regarding SEC and non-SEC registered firms (most groups feel benefits exceed costs to a greater degree for SEC firms than for non-SEC firms), still there seems to be no discernible trend. 155 TABLE VI-13 COMPARISON OF GROUP MEANS-~GIFTS Inde- Inde- Grou pendence pendence Costs Costs p Decision Decision Benefits Benefits SEC Non-SEC SEC Non-SEC CPAs 3.56 3.55 1.65 1.63 CBMs 3.87 3.82 1.80 1.76 CFAs 3.76 3.82 1.73 1.74 0-9 3.62 3.63 1.70 1.68 10-19 3.75 3.76 1.74 1.72 20-29 3.73 3.73 1.73 1.73 30-39 3.88 3.75 1.73 1.64 40+ 4.09 4.00 1.75 1.75 Big 15 3.37 3.40 1.61 1.59 Other CPAs 3.67 3.62 1.60 1.65 Total of All Respondents 3.71 3.70 1.72 1.70 The "Big Fifteen" CPAs feel the least strongly (lowest mean) about benefits exceeding costs; the CBMs have the strongest feelings (highest mean) about benefits exceeding costs. 156 Conclusions Though there are some significant differences among various respondent groups as to how policies on gifts and discount purchases will affect the independence of the CPA in his/her relationship with a client, all groups do feel that such policies will increase independence. At the same time all groups feel that the benefits to society will exceed the costs to society should these policies be required. The findings are consistent with the recommendations of the Commission on Auditors' Responsibilities that policies on gifts and discount purchases be required. CHAPTER VII EXECUTIVE SEARCH AND PLACEMENT Literature Review The debate about auditor independence and non- auditing functions usually focuses on the issues of man- agement advisory services and tax services. This may be due in part to the fact that these two non-auditing func— tions generate much more revenue for CPAs than the other non-auditing functions do. There are, however, many other non-auditing func- tions performed by some or by all CPAs. Currently, one of the more talked-about of these services is the search for and placement of executives in client firms. The argu- ments for and against executive search and placement seem to have a common theme. The basic argument for allowing CPAs to search for and to place executives is that there has been no instance for which it can be shown that such activities inhibited independence. The fundamental argument against executive search and placement is based on a number of surveys in which a large portion of the respondents indicated their beliefs that executive search and placement may inhibit independence. The latter argument involves the appearance 157 158 of independence rather than independence in fact. Arguments for executive search and placement In 1969, in its final report the AICPA ad hoc com- mittee on independence suggests that executive recruiting can be proscribed without any great harm to the profession because of the very minor part that it played in most firms.1 The committee continues: In other words, a proscription of any par- ticular service requires more than a vague vis- ceral feeling that a particular service by a CPA "just does not look right."2 The committee also says that there have been no allegations that management advisory services have impaired the inde- pendence of CPAs in fact. The committee concludes by sug— gesting that each member of the AICPA choose the services he/she offers in the light of possible public reaction.3 Referring to the final report of the ad hoc com- mittee, an editorial in the Journal of Accountancy suggests: In the course of its work the committee reached the conclusion that "the profession is fortunate in having achieved a remarkable repu- tation for integrity and independence. If this is true and if, as the committee urges, the pro- fession continues to justify its reputation, 1"Final Report of Ad Hoc Committee on Indepen- dence,“ Statement in Quotes, Journal of Accountancy 128 (December 1969): 54. 2 Ibid. 31bid., p. 56. 159 there seems to be little likelihood of any serious impairment of independence in fact or in appear- ance. Arguments against executive search and placement In their article on audit independence, Beams and Killough say that the auditor should not provide non-audit services.5 They also say that the auditor jeopardizes his independence if he has non-audit affiliations with a client. However, the authors do provide for an alterna- tive: recruiting services are handled by an administra- tive division within a firm which has little or no contact with the audit division. The personnel between the two divisions would be mutually exclusive.6 Making perhaps a stronger case against executive search and placement are three research studies done in the 1970's. Each of these studies has indicated the respondents' concern about executive recruitment. In his study of independence and MAS, Titard found that 27% of the responding financial executives and analysts think that executive recruitment may result in some loss of audit independence.7 4"On Independence and Management Advisory Ser- vices," Editors' Notebook, Journal of AccountancyngS (December 1969): 28. 5Floyd A. Beams and Larry N. Killough, Audit Inde- pendence--An Extension of the Concept," The National Public Accountant 15 (December 1970): 26. 51bid. 7Pierre L. Titard, "Inde endence and MAS-~Opinions of Financial Statement Users," T e Journal of Accountangy 132 (July 1971): 50. 160 Although very small in number, some subjects in Rhode's survey state that there was pressure from super- visors to accept the representations of former members of their firm now employed by the client or from individuals placed with the client after an executive search by the CPA firms.8 This seems to be more of a problem of inde- pendence in fact than in appearance. In research done for Deloitte Haskins & Sells, Reichman Research Inc. found that 41% of the responding corporate financial officers feel that executive recruit- ment can potentially cause a conflict of interest if offered to clients by CPA firms.9 No other type of manage- ment service concerned the corporate financial officers as much as executive recruitment. Committee positions The Metcalf Report suggests that to restore public confidence in the actual independence of auditors, Federal Securities laws should promulgate and enforce strict stan- 10 Further, it is recom- dards of conduct for auditors. mended that activities by auditors which impair their independence should be specifically prohibited. As an 8Rhode, Auditor's Work Environment, pp. 299-300. 9Reichman Research, Inc., An Opinion Survey of the Accounting Profession, Sponsored by Deloitte Haskins & Sells (New York 1978), pp. 31-32. 10 Metcalf, Accounting Establishment, p. 22. 161 example of such activities, the committee cites direct or indirect representation of clients' interest in perform- ance of non-accounting management advisory services for public or private clients. The Commission on Auditors' Responsibilities sug- gests that it would be impractical to recommend that com- panies be prevented from hiring individuals previously employed by public accounting firms. However, it does suggest that firms should not engage in recruiting or placement of individuals who would be directly involved in the decision to select or retain independent auditors.11 Analysis of Data The remaining portion of this chapter is devoted to the presentation and interpretation of the data. Each hypothesis is investigated separately; a review and sum— mary are presented in the section titled Data Review. Specific Hypotheses The specific hypotheses to be tested in this sec- tion are: Ho-l: There are no significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the effect that a prohibition of executive search and placement services will 11AICPA, Report, Conclusions, and Recommendations, pp. 100-101. 162 have on the CPA's independence with respect to the CPA's SEC registered clients. There are significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the effect that a prohibition of executive search and placement services will have on the CPA's independence with respect to the CPA's SEC registered clients. There are no significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the effect that a prohibition of executive search and placement services will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are significant differences between members of the AICPA, Corporate Bar and ICFA regarding their perceptions of the effect that a prohibition of executive search and placement services will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are no significant differences between mem- bers of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the costs and bene- fits to society as a whole, of a prohibition of executive search and placement services for SEC registered firms. There are significant differences among members 163 of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the costs and benefits to society as a whole, of a prohibition of executive search and placement services for SEC registered firms. There are no significant differences between members of the AICPA, Corporate Bar and ICFA, regarding their perceptions of the costs and bene- fits to society as a whole, of a prohibition of executive search and placement services for non- SEC registered firms. There are significant differences between members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the costs and benefits to society as a whole, of a prohibition of executive search and placement services for non-SEC regis- tered firms. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions of the effect that a prohibition of executive search and placement services will have on the CPA's independence with respect to the CPA's SEC registered clients. There are significant differences among respondents who have experience of 0-9 years, 10—19 years, 20-29 years, and over 29 years, regarding their 164 perceptions of the effect that a prohibition of executive search and placement services will have on the CPA's independence with respect to the CPA's SEC registered clients. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions of the effect that a prohibition of executive search and placement services will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are significant differences among respon— dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions of the effect that a prohibition of executive search and placement services will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions of the costs and benefits to society as a whole, of a prohibition of executive search and placement services for SEC registered firms. There are significant differences among respon- dents who have experience of 0-9 years, 10-19 165 years, 20-29 years and over 29 years, regarding their perceptions of the costs and benefits to society as a whole, of a prohibition of executive search and placement services for SEC registered firms. There are no significant differences between respondents who have experience of 0-9 years, 10-19 years, 20-29 years, and over 29 years, regarding their perceptions of the costs and benefits to society as a whole, of a prohibition of executive search and placement services for non-SEC registered firms. There are significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years, regarding their perceptions of the costs and benefits to .society as a whole, of a prohibition of executive search and placement services for non-SEC regis- tered firms. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect that a prohibition of executive search and placement services will have on the CPA's inde- pendence with respect to the CPA's SEC registered clients. H -10: H -10: Ho-ll: 166 There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect that a prohibition of executive search and placement services will have on the CPA's independence with respect to the CPA's SEC regis— tered clients. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect that a prohibition of executive search and placement services will have on the CPA's inde- pendence with respect to the CPA's non-SEC regis- tered clients. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect that a prohibition of executive search and placement services will have on the CPA's independence with respect to the CPA's non-SEC registered clients. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for -11: H -12: H -12: 167 other CPA firms regarding their perceptions of the costs and benefits to society as a whole, of a prohibition of executive search and placement services for SEC registered firms. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the costs and benefits to society as a whole, of a prohibition of executive search and placement services for SEC registered firms. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the costs and benefits to society as a whole, of a prohibition of executive search and place- ment services for non-SEC registered firms. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for the other CPA firms regarding their perceptions of the costs and benefits to society as a whole, of a prohibition of executive search and place- ment services for non-SEC registered firms. 168 H01: CPAs/CBMs/CFAs--Independence with SEC registered firms As Table VII-1 shows, there is no significant dis- agreement among the groups as to how regulation of execu- tive search and placement will affect the CPA's indepen- dence with SEC registered firms.12 Fully 50% of the CPAs do not feel the recommended change will increase indepen- dence, while only 41% of the CFAs feel that independence will not be increased. H02: CPAs/CBMs/CFAs--Independence with non-SEC registered firms Table VII-2 shows that the groups agree even more closely when asked about non-SEC registered firms. More CPAs than CFAs feel that independence will not be in- creased, but the gap has narrowed. Also noteworthy is the fact that 52% of the total respondents feel that indepen- dence will not be increased for non-SEC registered firms. _ 12For more‘information on the statistical analysis, see Chapter IV. 169 .wav. n Hw>mH TUCMOHMHcmHm .Hlmdhv uNImZmU “Nimdmu "noncommmulcoz n .pmcHQEoo mum chsHoo mmmsu mmmomusm COHumHDOHmo Homo .wmmmm.m n wumovmlHno 3mm c.00H N.vH N.mm o.Hv m.m N.H om.m ammN mv NHH NNH HH m Hmuoa Mala mqml 31H. NJ: 3 WI. vo.m mm HH mm mN m N mdmu m.mN H.m o.N m.NH o.H m. vm.m mm mH mN mm m H mzmo m.mv m.m N.mH m.mH N.H N. mm.m NNH NH ow Nm m N mmmo com: Hmuoe .QmpsH .mmch .mmch .mmch .mprH mmmwuocH mmmmuocH nommmd mmmmuomo mmmouoma NHommuo NHuamHHm muoz mmHunoHHm omHummuo mzmHm omm mozmnzmmmozHaanEO\mzmo\m«mo HIHH> mqmfifi .Nlmdmu “mlmzmu "mlmamo "noncommmnlcozn .pngQEoo mum ngsHoo mmwnu mmmomusm GOHumHsono Homo .ooam. u Ho>oH moamonHcon .ommmH.H u outsomano 36m o.OOH o.mH N.Nm N.mv 170 H.m v.H mm.m QmmN vo mo «NH mH v Hopoe o.NN m.v o.N m.HH o.H o.H mm.m Nm vH mN mm m m mNhU o.NN H.v m.m o.vH o.H o mm.m mm NH mN HV 4 o mzmu o.mv H.o m.mH m.oN N.N m. Nm.m mNH mH mm om m H m mHmflfi 171 Ho-3: CPAs/CBMs/CFAs--Costs/Benefits with SEC registered firms Regarding the costs and benefits to society, the responses of the CPAs are evenly divided as to regulations concerning executive placement and search. Both the GEMS and CFAs feel that the benefits will exceed the costs, but, on this issue as well, the responses of the CBMs approach an even division. TABLE VII-3 CPAs/CBMs/CFAs--COSTS/BENEFITS SEC FIRMS Costs Benefits Exceed Exceed Benefits Costs Total Mean CPAs 59 59 118 1.50 21.9 21.5 43.1 CBMs 39 42 81 1.52 14.2 15.3 29.6 CFAs 33 42 75 1.56 12.0 15.3 27.4 Total 131 143 274a 1.52 47.8 100.0 Raw chi-square = .66684. a Non-responses: CPAs-11; CBMs-9; CPAs-9. Significance level = .7165. 172 H0-4: CPAs/CBMs/CFAs--Costs/Benefits with non-SEC registered firms Unlike the issue of independence, regarding costs and benefits, the gap between the means for CPAs and CFAs gap widens when the respondents are asked about non-SEC registered firms compared to SEC registered firms. The CPAs and CBMs are almost in agreement: 46% of each group feels that the benefits will exceed the costs. At the same time, 56% of the CFAs feel that the benefits will exceed the costs. TABLE VII-4 CPAs/CBMs/CFAs--COSTS/BENEFITS NON-SEC FIRMS Costs Benefits Exceed Exceed Benefits Costs Total Mean CPAs 63 55 118 1.47 23.0 20.1 43.1 CBMs 43 38 81 1.47 15.7 13.9 29.6 CFAs 33 42 75 1.56 12.0 15.3 27.4 Total 139 135 274a 1.49 50.7 49.3 100.0 Raw chi-square = 1.87302. a Non—responses: CPAs-ll; CBMs-9 ; CPAs-9. Significance level = .3920. 173 Ho-S: Years of experience--Independence with SEC registered firms Table VII-5 indicates that there is no correlation between years of experience and feelings as to how regu- lations on executive search and placement will affect independence for SEC firms. The two groups with the highest percentage of respondents who believe that inde- pendence will not be increased include both the least experienced and the most experienced respondents. Ho-6: Years of experience--Independence with non-SEC registered firms As in the responses regarding SEC registered firms, it appears that there is no correlation between the re- spondent groups based on experience and their feelings about how independence will/will not be increased. How- ever, when considering non-SEC registered firms, 52% of the total respondents feel that independence will not be increased by regulations on executive search and place- ment. 174 .mummu HMUHumHumum How mwNHm HHmo pmuommxm ugmHonmsmcH .HHNMIom uNHNNION umflmHIOH “vnmlo .pmcHnEoo who m3ou mmmcu mmmomnsm coHHMHsono Mom “noncommmulcoz MQO'U .pmgHQEoo mum mcEdHoo mmmnu momomHsm GOHHMHSOHMU mom c.00H N.qH N.Nm o.Hv N.N N.H om.m ommN me NHH NNH HH m Hmuoe H.v m. o.H o.N m. o Nv.m NH H v m H o n+ov m.m o.H o.H N.N o o mN.m mH v v m o o ammlom o.mH m.m m.m H.m m. o.H mm.m No HH NH mH H m leoN o.om m.m N.NH N.NH m. m. oo.m mm HH am mm H H mHIoH v.vv m.m «.mH m.mH N.N m. vm.m omH mH we Nm m H muo cmmz Hmuoe .mmch .mmch .mwng .mwng .mmch .ummxm mmmmnocH ommmuogH poomm< mmmmuomo mmmmuooa mo NHummuw mHuanHm muoz mmHuanHm meumwuw mummw mZMHm 0mm moszZMQMDZHIImmbomU MUZMHmmmxm mIHH> mHmdB 175 .mummu HTUHumHumum MOM moNHm HHmo pmuommxm ucoHonmsmgH .Huomlom nNnmNnoN uNumHIoH umumuo .pmgHQEoo mum mzou mums» mmmomusm COHHMHsono Mom ”noncommouncoz (6.0013 .pmcHQEoo mum ngsHoo mums» mmmomusm goHumHDOHmo Mom o.o0H o.mH N.Nm N.mv H.m o.H mm.m UMNN ow mm va mH a Houoe H.v o o.H v.N m. o mN.m NH 0 v N H o n+o¢ m.m o.H v.H H.m o o mm.m mH m v m o o ammlom o.mH N.N H.m H.m N. m. NN.m Ne HH NH mH N H mNIoN v.om H.m N.N N.HH m. N. Ho.m am mH mN Nv H N mHIoH o.v¢ H.m o.vH m.0N N.N m. mv.m mNH mH Hv Hm HH H mlo com: Hmuoe .mmch .mmch .mmch .mmch .mmch .mexm mmmmuocH mmomuocH Hommmd wmmmuomo mmmmuomo mo NHummuw NHusmHHm H"No.02 meucmHHm mmHummHU whom» mzmHm 0mmIZOZ MUZMDZMAHDZHIImmDOMG mUZmHmmmxm wIHH> mam<9 176 HO-7: Years of experience--Costs/Benefits with SEC registered firms Table VII-7 reveals that all respondent groups, except for the most experienced (the small number of respondents in this group should be noted once again), feel that the benefits to society will exceed the costs to society. However, the numbers are extremely close to the mid-point mean or evenness in terms of percentages of those who believe that costs will exceed benefits, and those who believe benefits will exceed costs. TABLE VII-7 EXPERIENCE GROUPS--COSTS/BENEFITS SEC FIRMS Years Costs Benefits of Exceed Exceed Exper. Benefits Costs Total Mean 0-9 59 64 123 1.52 21.5 23.4 44.9 10-19 38 45 83 1.54 13.9 16.4 30.3 20-29 21 21 42 1.50 7.7 7.7 15.3 30-39a 7 9 16 1.56 2.6 3.3 5.8 40+a 6 4 10 1.40 2.2 1.5 3.6 Total 131 143 274b 1.52 47.8 52.2 100.0 Raw chi-square = .26858. Significance level = .9658. aFor calculation purposes these rows are combined. 40 2 bNon-responses: 0-9=11; 10—l9=8; 20-9=7; 30-39=1; += . 177 H0-8: Years of experience--Costs/Benefits with non-SEC registered firms Table VII-8 shows that, regarding non-SEC regis- tered firms, none of the respondent groups feel that the benefits will exceed the costs. Again, the responses are very evenly divided between the two choices. TABLE VII-8 EXPERIENCE GROUPS--COSTS/BENEFITS NON-SEC FIRMS Years Costs Benefits of Exceed Exceed Exper. Benefits Costs Total Mean 0—9 61 61 122 1.50 22.3 22.3 44.5 10-19 42 42 84 1.50 15.3 15.3 30.7 20-29 22 20 42 1.48 8.0 7.3 15.3 30-39a 8 8 16 1.50 2.9 2.9 5.8 40+a 6 4 10 1.40 2.2 1.5 3.6 Total 139 135 274b 1.49 50.7 49.3 100.0 Raw chi-square = .19073. Significance level = .9791. aFor calculation purposes these rows are combined. bNon-responses: 0-9=12; 10-19=7; 20-29=7; 30-39=l; 40+=2. 178 H0-9: CPA Breakdown--Independence with SEC registered firmsI3 There is a statistical significance when the responses of the two CPA groups are compared, made evident by examining the means, or by noting that 56% of the "Big Fifteen" respondents feel that independence will not be increased, while only 42% of the respondents from Other Firms think that independence will not be increased. H0-10: CPA Breakdown--Independence with non-SEC registered firms Although not statistically significant, there still seems to be a difference of opinion between the two CPA groups regarding non-SEC registered firms. While each respondent group has a similar number of respondents who feel that independence will not be increased, the per- centage of respondents from Other Firms who believe that independence will increase is much higher than the per- centage of "Big Fifteen" respondents who feel the same way. This chi-square test approaches rejection of the hypothesis of consensus when the .05 alpha level is used. 13For more information on the distribution of CPAs, see Chapter IV, "CPA Breakdown Information." 179 .Nuumauo “noncommmulgoz n .pmcHnEoo mum mCEoHoo mmmnu mmmomusm GOHHMHSOHMU Homo NoNo. u Hw>mH mogMOHMHcmHm .mm¢¢¢.N n mumsvmlwno 3mm o.ooH o.NH m.Nm N.mv N.v N.H Nm.m anH mH «v Hm m N Hmuoa o.om o.HH N.NH v.mH N.H o mEHHm mN.m mm NH HN MN N o Honuo o.om m.N «.mH N.NN m.N N.H GOOHMHE am.m mm m mm mm m m mHm cow: Hmuoa .mmch .mmch .mwch .mmch .mmng EHHm mmmmuocH mmmmuocH uoommd mmmouooo mmmmuomo mo NHumme NHuanHm muoz whHuanHm mmHumon mNHm mzmHh 0mm mozmazmmmDZHIImeehHm UHm mIHH> mqmflfi 180 .Hlumnuo “NucwmuMHm mHm "noncommmulcozn .pwcHnEoo mum mgsoHoo mmwnu mwmomusm coHumHDOHmo Homo .aaoo. u H6>0H outmonHoon .mmoNa.m ouooomano 36m c.00H v.¢H v.HN N.Nv N.N N. Nm.N nNHH NH NN mm N H Hmuoa N.om o.HH N.NH N.NN N.N o mEhHh mw.N om NH NH NN N o Hmnuo N.Nw o.N N.NH N.NN N.N N. ammuMHm am.m mm a Hm mm a H mHm com: Hmuoe .mmch .mmch .mmch .mmch .mmng EHHh mmmwuocH mmmmuocH uomwwfi mmmmuomo mmmmuoma mo NHommuo sHothHm ouoz 6NHuanHm mNHummuo muHm mZMHm UMMIZOZ muzmozmmeZHlIZMMBhHh UHm OHIHH> mHmdfi 181 HO—ll: CPA Breakdown--Costs/Benefits with SEC registered firms Table VII-11 indicates that the CPA respondent groups seem to be in more agreement regarding the costs and benefits of regulations on executive search and place- ment. The distributions of responses for the two groups are very similar. TABLE VII-ll BIG FIFTEEN--COSTS/BENEFITS SEC FIRMS Size Costs Benefits of Exceed Exceed Firms Benefits Costs Total Mean Big Fifteen 26 25 51 1.49 23.9 22.9 46.8 Other Firms 26 32 58 1.55 23.9 29.4 53.2 Total 52 57 109a 1.52 47.7 52.3 100.0 Raw chi-square = .20210. Significance level = .6530. aNon-responses: Big Fifteen-8; Other-3. 182 H0-12: CPA Breakdown--Costs/Benefits with non-SEC registered firms As in their consideration of SEC Registered firms, when asked about non-SEC registered firms, the CPA respon- dent groups are in agreement as to the costs and benefits of the suggested regulations. In each respondent group, more individuals feel that the costs will exceed the bene— fits for non-SEC registered firms than they will for SEC registered firms. TABLE VII-12 BIG FIFTEEN--COSTS/BENEFITS NON-SEC FIRMS Size Costs Benefits of Exceed Exceed Firm Benefits Costs Total Mean Big 28 23 51 1.45 Fifteen 25.5 20.9 46.4 Other 29 30 59 1.51 Firms 26.4 27.3 53.6 Total 57 53 110a 1.48 51.8 48.2 100.0 Raw chi-square = .16849. Significance level = .6815. aNon-responses: Big Fifteen-9; Other-2. 183 Date Review Hypotheses rejected Study of the data presented earlier in the chapter shows that the only chi-square test that rejects the hypoth- esis of concensus at an alpha level of .05 is Big Fifteen-- Independence SEC firms (Table VII-9). The only other test that approaches rejection at the .05 alpha level is Big Fifteen--Independence non-SEC firms (Table VII-10). Table VII-13 indicates that the means of all respondent groupssuggest that all groups feel the prohibi- tion of executive search and placement services will in- crease the independence of the CPA with respect either to SEC registered or non-SEC registered clients. Analysis of means of independence decision Using the l to 5 scale, it is possible to state that a group mean below 3.0 indicates an average response that independence will be decreased. It is also possible to state that a group mean of 3.0 indicates an average response that independence will not be affected; a group mean above 3.0 indicates an average response that inde- pendence will be increased. The highest means for SEC and non-SEC firms belong to the groups with 20—29 and 30-39 years of experience, and to the CPAs from Other Firms. The lowest means belong to the "Big Fifteen" CPAs and to the groups with 40+ years of experience. 184 TABLE VII-l3 COMPARISON OF GROUP MEANS--PLACEMENT Inde- Inde- Grou pendence pendence Costs Costs p Decision Decision Benefits Benefits SEC Non-SEC SEC Non-SEC CPAs 3.56 3.52 1.50 1.47 CBMs 3.64 3.56 1.52 1.47 CPAs 3.64 3.59 1.56 1.56 0-9 3 54 3.45 1.52 1 50 10-19 3.66 3.61 1.54 1.50 20-29 3 68* 3.77* 1.50 1.48 30-39 3.75 3.63 1.56 1.50 40+ 3.42 3.25 1.40 1.40 Big 15 3.37 3.34 1.49 1.45 Other CPAs 3.76 3.65 1.55 1.51 Total of A11 Respondents 3.60 3.55 1.52 1.49 *This is the only instance where the means seem to suggest the recommended change would be more bene- ficial with non-SEC firms than with SEC firms. 185 The extreme differences between the two CPA respon- dent groups appear to be consistent with the activities of the respective groups. It is evident that large CPA firms are more likely to have extensive executive search and placement services than are small firms. Perhaps "Big Fifteen" respondents are equating decrease in independence with decrease in revenue. Another possible explanation is that the "Big Fifteen" respondents have seen good placement services work without abuses. It must be pointed out, though, that the CBMs and CFAs do believe that the prohibition will in- crease independence. Consequently, even if the services do not lead to abuses, the CPAs have to convince the user groups of this fact. The other low means belonging to the group with 40+ years of experience must be analyzed with the small number of respondents taken into account. Note that all of the above comments hold regarding either SEC registered clients or non-SEC registered clients. Only the group with 20-29 years of experience feels that there will be a larger increase for non-SEC firms than there will be for SEC firms. Analysis of means of costs/benefits Considering the l, 2 scale, it is possible to state that a group mean above 1.5 indicates an average response that the benefits will exceed the costs. Likewise, a 186 group mean below 1.5 indicates an average response that the costs will exceed the benefits. Dealing with the issue of costs and benefits to society deriving from a prohibition against executive search and placement services for SEC firms, only the "Big Fifteen" CPAs and the group with 40+ years of experi- ence feel that the costs will exceed the benefits. At the same time, all of the means appraoch 1.50 closely enough to make any conclusion unwise. Regarding non-SEC firms, most respondent group means suggest that costs will exceed benefits. However, the closeness of most means to 1.5 again makes question- able any conclusions drawn from the means. Conclusions There is one statistically significant difference among various respondent groups as to how a prohibition on executive search and placement services will affect the independence of the CPA in his/her relationship with a client. But most respondents do feel that it will in- crease independence. Given the data, the issue of costs and benefits of such a prohibition is clearly open to debate. The recommendations of the Commission on Auditors' Responsibilities and the Metcalf Report are neither con- firmed nor denied by this research on the prohibition of executive search and placement services. CHAPTER VIII FEES AND ARRANGEMENTS FOR AUDITORS Literature Review As a result of the McKesson and Robbins case, the New York Stock Exchange in 1939 suggested: Where practicable, the selection of the audi- tors by a special committee of the board composed of directors who are not officers of the company appears desirable.l Also as a result of the McKesson and Robbins case, the SEC recommended the establishment of a committee to be selected from non-officer members of the board of directors which shall make all company or management nominations of auditors and shall be charged with the duty of arranging the details of the arrangement.2 Thus the concept of audit committees is not new. In spite of the two early recommendations cited above, a 1970 survey of publicly held companies showed that only 32% of the corporations responding had audit committees.3 1New York Stock Exchange, "Independent Audit and Audit Procedures," Accountant, 102 (April 6, l940):387. 2United States Securities and Exchange Commis- sion, Accounting Series Releases 1-77 (Washington, D.C.: U.S. Government Printing Office, 1956), pp. 113-119. 3R. K. Mautz and F. L. Neumann, Corporate Audit Committees: Policies and Practices (Cleveland, Ohio: Ernst & Ernst, 1977), pp. 8-11. 187 188 A repeat survey of 1976 showed that 87% of the corpora- tions responding had an audit committee at that time.4 Effective June 30, 1978, the New York Stock Ex- change mandated that each domestic company with common stock listed on the Exchange must establish and maintain an Audit Committee comprised solely of directors independent of management and free from any relationship that, in the opinion of its Board of Directors, would interfere with the exercise of independent judgment as a committee member.5 The requirement of the Exchange was approved by the SEC on March 9, 1977. In Connecticut, certain corporations of that state with at least 100 stockholders must establish audit com- mittees. In the Canadian provinces of Ontario, Manitoba, and British Columbia, audit committees are mandatory for companies falling under the Companies Act under province statutes. In spite of all the policies enacted and statutes listed above, little has been written regarding the duties of auditor committees. In its final report, The Commission on Auditors' Responsibilities states: Thus, the arrangements for the audit should be made with the auditor by both management and the Board of Directors. However, the final decisions should be based on board discussions 41bid. 5New York Stock Exchange, William M. Batten letter to chief executive officers of listed companies, January 6, 1977. 189 with the auditor and should not 2e delegated by the board to corporate officers. The Commission also says that it is difficult to outline how to order implementation of the above suggestion, but that it can be implemented voluntarily. Analysis of Data The remaining portion of this chapter is devoted to the presentation and interpretation of the data. Each hypothesis is investigated separately; a review and sum- mary are presented in the section titled Data Review. Specific hypotheses The specific hypotheses to be tested in this sec- tion are: Ho-l: There are no significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the effect of requirements that fees and arrangements for auditors be handled by audit committees on the CPA's independence with respect to the CPA's SEC registered clients. Hl-l: There are significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the effect of requirements 6American Institute of Certified Public Accoun- tants, Commission on Auditors' Responsibilities, Commis- sion on-Auditors' Responsibilities: Reppgt, ConcIusions end RecommepdationsTNew York: American Institute of Certified Public Accountants, 1978), p. 107. 190 that fees and arrangements for auditors be handled by audit committees on the CPA's inde- pendence with respect to the CPA's SEC regis- tered clients. There are no significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the effect of requirements that fees and arrangements for auditors be handled by audit committees on the CPA's inde- pendence with respect to the CPA's non-SEC registered clients. There are significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the effect of requirements that fees and arrangements for auditors be handled by audit committees on the CPA's inde- pendence with respect to the CPA's non-SEC registered clients. There are no significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the costs and benefits to society as a whole, of requirements that fees and arrangements for auditors be handled by audit committees for SEC registered firms. There are significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the costs and benefits to 191 society as a whole, of requirements that fees and arrangements for auditors be handled by audit committees for SEC registered firms. There are no significant differences between members of the AICPA, Corporate Bar, and ICFA regarding their perceptions as to the costs and benefits to society as a whole, of requirements that fees and arrangements for auditors be handled by audit committees for non-SEC registered firms. There are significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the costs and benefits to society as a whole, of requirements that fees and arrangements for auditors be handled by audit committees for non-SEC registered firms. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years, and over 29 years regarding their perceptions as to the effect of require- ments that fees and arrangements for auditors be handled by audit committees on the CPA's inde- pendence with respect to the CPA's SEC regis- tered clients. There are significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years, and over 29 years regarding 192 their perceptions of the effect of requirements that fees and arrangements for auditors be handled by audit committees on the CPA's inde- pendence with respect to the CPA's SEC registered clients. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years, and over 29 years regarding their perceptions as to the effect of requirements that fees and arrangements for auditors be handled by audit committees on the CPA's independence with respect to the CPA's non-SEC registered clients. There are significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years, and over 29 years regarding their perceptions as to the effect of requirements that fees and arrangements for auditors be handled by audit committees on the CPA's independence with respect to the CPA's non-SEC registered clients. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years, and over 29 years, regarding their perceptions of the costs and benefits to society as a whole, of requirements that fees and arrangements for auditors be handled by audit committees for SEC registered firms. There are significant differences among respondents 193 who have experience of 0-9 years, 10-19 years, 20-29 years, and over 29 years regarding their perceptions as to the costs and benefits to society as a whole, of requirements that fees and arrangements for auditors be handed by audit committees for SEC registered firms. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years, and over 29 years regarding their perceptions of the costs and benefits to society as a whole, of requirements that fees and arrangements for auditors be handled by audit committees for non-SEC registered firms. There are significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years, and over 29 years regarding their perceptions of the costs and benefits to society as a whole, of requirements that fees and arrangements for auditors be handed by audit committees for non-SEC registered firms. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect of requirements that fees and arrange- ments for auditors be handled by audit committees on the CPA's independence with respect to the H -10: -10: H -11: 194 CPA's SEC registered clients. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect of requirements that fees and arrangements for auditors be handled by audit committees on the CPA's independence with respect to the CPA's SEC registered clients. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect of requirements that fees and arrange- ments for auditors be handled by audit committees on the CPA's independence with respect to the CPA's non-SEC registered clients. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions as to the effect of requirements that fees and arrangements for auditors be handled by audit committees on the CPA's independence with respect to the CPA's non-SEC registered clients. There are no significant differences between respondents who work/worked for the "Big Fifteen" H -12: H -12: 195 CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the costs and benefits to society as a whole, of requirements that fees and arrangements for auditors be handled by audit committees for SEC registered clients. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the costs and benefits to society as a whole, of requirements that fees and arrangements for auditors be handled by audit committees for non-SEC registered firms. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the costs and benefits to society as a whole, of requirements that fees and arrangements for auditors be handled by audit committees for non-SEC registered firms. There are significant differences between respon- dents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the costs and benefits to society as a whole, of 196 requirements that fees and arrangements for auditors be handled by audit committees for non-SEC registered firms. HO-l: CPAs/CBMs/CFAs——Independence with SEC registered firms Table VIII-1 shows that there are no significant differences in the opinions of CPAs, CBMs, and CFAs as to the effect on the independence of the CPA with respect to the CPA's SEC registered clients, of requirements that fees and arrangements for auditors be handled by audit com- mittees.7 The CPAs feel most strong that independence will be increased; the CBMs feel the least strongly. H0-2: CPAs/CBMs/CFAs--Indepencence with non-SEC registered firms As they do regarding SEC registered firms, all three groups feel that the proposed requirements will increase independence with respect to non-SEC firms. Again, there is no statistically significant difference among the opinions of the groups, but there are some interesting "differences." 7For more information on the statistical analysis, see Chapter IV. .Hlmmmu “NImZmO “Nnmdmo ”noncommmulcozn .CTGHnEoo mum mcssHoo mmmnu monounsm coHHMHsono Momm .NNHN. u Hm>mH mogmoHMHsmHm .mmwvm.N u muwsvmlHno 3mm o.OOH v.NH N.NN N.Nw v. 197 m N.N wv.N QNNN Nm Hm NNH NH NH Hmuoa N.NN N.N v.m H.NH N.N o.H ov.N NN HH mN mN mflmu N.NN o.m o.N N.NH mN.N mm NH HN NN mzmo o.Nv N.N N.HH N.NH «N.N NNH 0N mm mm mdmu coo: Hmuoe .mmch .Qmch .mwng .mwch .moch ommouocH mmmmuogH uommm¢ mmmmuoma ommouomo NHumew aHuanHm muoz mmHuanHm wthmme mzmHm omm mozmazmmmazHunmamo\mzmo\m¢mo HIHHH> mqmde 198 “noncommmulcozn .pmcHnEoo mum mGEDHoo wmmnu mwmomusm goHuMHsono Homo .mlmflmu uNImEmU «mlmémo .HNvm. u Hm>wH oocmonHgmHm .vmmmo.N u mumsqmlwso 3mm o.o0H m.vH w.vN N.Nv N.N v.m NN.N nNmN Ne NN NvH NH NH Hmuoe N.NN v.N H.N N.NH N.H o.H N¢.N Nm OH mN ov v N mdmo N.NN o.v H.N m.vH N.N o.N NN.N mm NH NH Ne m N mzmo N.Nv H.N H.OH N.HN N.H o.N Nv.N NNH HN 0N mm m w m mqmdB 199 The mean for the CPA respondent group is substan- tially higher than that for the CFAs regarding SEC firms. In reference to non-SEC firms, the means for the CPAs and CFAs are identical. The CBMs remain the group with the lowest mean. It is also interesting to note that the CFAs as as a group feel that a greater increase in independence will be achieved with non-SEC firms than with SEC regis- tered firms. H0-3: CPAs/CBMs/CFAs--Costs/Benefits with SEC registered firms Examining the costs and benefits of the proposed requirements in reference to SEC registered firms, all three groups agree that the benefits will exceed the costs. The CBMs have the highest group mean, the CFAs, the lowest, while the mean of the CPAs falls midway be- tween the two. H0-4: CPAs/CBMs/CFAs--Costs/Benefits with nonéSEC registered firms Table VIII-4 indicates that, compared with the means for SEC registered firms, the means of all three groups drop in reference to non-SEC firms. The mean of the CPAs shows the largest drop--from 1.58 to 1.43. The mean of 1.43 suggests that on an average, CPAs feel that the costs to society will exceed the benefits to society under the adoption of the proposed requirement that fees and arrangements for auditors be handled by audit 200 TABLE VIII-3 CPAs/CBMS/CFAs--COSTS/BENEFITS SEC FIRMS Costs Benefits Exceed Exceed Benefits Costs Total Mean CPAs 47 65 112 1.58 17.4 24.1 41.5 CBMs 31 49 80 1.61 11.5 18.1 29.6 CPAs 34 44 78 1.56 12.6 16.3 28.9 Total 112 158 270a 1.59 41.5 58.5 100.0 Raw chi-square = .39947. Significance level = .8189. aNon-responses: CPAs-17; CBMs-10; CPAs-6. TABLE VIII-4 CPAs/CBMs/CFAs--COSTS/BENEFITS NON-SEC FIRMS Costs Benefits Exceed Exceed Benefits Costs Total Mean CPAs 66 49 115 1.43 24.2 17.9 42.1 CBMs 37 43 80 1.54 13.6 15.8 29.3 CFAs 35 43 78 1.55 12.8 15.8 28.6 Total 138 135 273a 1.49 50.5 49.5 100.0 Raw chi-square 3.75104. a Non-responses: CPAs-l4; CBMs-10; CPAs-6. Significance level = .1533 201 committees. The means for CBMs and CFAs are almost iden- tical, as is the distribution of responses for each of those two groups. HO-S: Years of experience--Independence with SEC registered firms Table VIII-5 indicates that, regarding SEC firms, all respondent experience groups feel that proposed requirements will increase independence. The least expe- rienced group has the highest mean, while the two groups with the most experience have the two lowest means. Ho-6: Years of experience--Independence with non-SEC registered firms Unlike respondents' feelings about SEC firms, regarding non-SEC firms, two of the respondent groups feel that the proposed requirements will not increase independence. Although both of these groups are the groups with the most experience, and are represented by a relatively small number of respondents, they are con- sistently lower in their indications of how much inde- pendence will be increased or decreases. In fact, the group with 30-39 years of experience feels that independence will be decreased. The highest mean belongs to the least experienced group, which has 0-9 years of experience. 202 .NINNION .UOCHnEoo mum mzou ommnu mmmomusm COHuMHSOHmo Mom uNumHIOH uHflalo "noncommmulcozo n .pngQEoo mum ngsHoo mmmnu mmmomusm cOHUMHsono Momm .Nmom. u Hm>mH wogmonHcmHm .mNN¢H.N n mumsvmlHno 3mm o.NoH o.NH N.NN N.Nv v.N N.N vv.N oNNN Nm HN NNH NH NH Hmuos N.N o N.H N.H N. o NN.N NH 0 m m N o n+ov N.N N.H N. o.N N. o.H NH.N NH v N N N N QNNIoN N.NH o.N o.N N.N o.H N. mv.N No m CH NN N N NNIoN N.NN o.N H.N v.NH N.H N.N NN.N NN mH VN NN m N NHIOH N.vv H.N o.NH N.NH N.N N.H NN.N NNH vN ow Nm N w mic cmoz Hmuoe .mmch .mmch .mwch .moch .mmch .Homxm mmmmuocH mmwmuocH vommwd mmmmuomo mmmmuown mo NHummuo NHoanHm muoz maHuanHm omHummuo onto» mZmHm 0mm MUZMDZMAWDZHIImmbomU MUZMHmmmxm mIHHH> mqmflfi 203 .mummu HMUHumHumum HON mmuHm HHoo pmuoomxw ucmHOHmwsmcH .Huamnom uHummuom uunannoH umuauo "mmmoommmuucoz .pmcHnEoo mum m3on mmmnu mwmomnsm goHHMHsono Mom (0.0013 .pmanEoo mum mGEsHoo mmonu mmmomuom coHUMHsono How c.00H m.vH N.NN N.Nv N.N N.N NN.N onN Nv NN NvH NH NH Hmuoa o.N o o.H o.N o.H o NN.N NH o N N N o n+ov N.N N. N. N.N N. o.H HN.N NH N H N N N bNNIoN N.NH N.N N.N v.N N. N. vv.N Nw N HH mN N N leoN N.NN N.N N.N N.NH o.H N.N NN.N mN NH NN Nv N N NHloH v.vw N.N H.NH N.NN v.N N.H HN.N NNH NN NN NN N v mlo cmmz Hmuos .mmch .mwogH .mwng .mmch .mmch .Hmmxm wmmouocH ommwuocH poommm wmmwuomo mmmmuooo mo NHooouo NHosmHHm ouoz maHoanHm mNHuwouo onto» mzmHm UmleOZ MUZmDZMAMQZHIImmDOMU MUZmHmmmxm NIHHH> MHmde 204 HO-7: Years of experience--Costs/Benefits fiith SEC registered firms Table VIII-7 illustrates that the respondent groups are close to agreement that the benefits to society will exceed the costs to society for the proposed require- ments. The two highest means belong to the most experi- enced groups; the lowest means belong to the middle expe- rience groups. TABLE VIII-7 EXPERIENCE GROUPS--COSTS/BENEFITS SEC FIRMS Years Costs Benefits of Exceed Exceed Exper. Benefits Costs Total Mean 0-9 48 77 125 1.62 17.8 28.5 46.3 10-19 36 42 78 1.54 13.3 15.6 28.9 20-29 19 22 41 1.54 7.0 8.1 15.2 30-39a 6 10 16 1.63 2.2 3.7 5.9 40+a 3 7 10 1.70 1.1 2.6 3.7 Total 112 158 270b 1.59 41.5 58.5 100.0 Raw chi-square = a . For calculation purposes these rows are com- bined. b 30-39=l; 40+=2. Non-responses: 2.09434. 9; 10-19=l3; 20-29=8; Significance level = .5531. 205 Ho-8: Years of experience--Costs/Benefits with non-SEC registered firms Although not statistically significant, there is a definite difference of opinion among the respondent groups as to how the proposed requirements will affect the costs and benefits regarding non-SEC registered firms. Only the least experienced and most experienced groups feel that, on an average, the benefits will exceed the TABLE VIII-8 EXPERIENCE GROUPS--COSTS/BENEFITS NON-SEC FIRMS Years Costs Benefits of Exceed Exceed Exper. Benefits Costs Total Mean 0-9 58 70 128 1.55 21.2 25.6 46.9 10-19 45 34 79 1.43 16.5 12.5 28.9 20-29 23 18 41 1.44 8.4 6.6 15.0 30-39a 9 6 15 1.40 3.3 2.2 5.5 40+a 3 7 10 1.70 1.1 2.6 3.7 Total 138 135 273b 1.49 50.5 49.5 100.0 Raw chi-square = 3.27383. Significance level = .3513. aFor calculation purposes these rows are combined. bNon-responses: 0-9=6; 10-19=12; 20-29=8; 30-39=2; 40+=2. 206 costs, while the other three respondent groups feel that the costs will exceed the benefits. Again it should be noted that the most experienced group (40+), has a very small number of respondents. H0-9: CPA Breakdown--Independence with SEC registered firms8 Table VIII-9 shows that the CPA respondent groups are in agreement as to the effect of the proposed require- ments that fees and arrangements for auditors be handled by audit committees. The "Big Fifteen" respondent group does have a higher mean than the group of respondents who work/worked for other firms. Ho-lO: CPA Breakdown--Independence With non-SEC regiStered firms Table VIII-10 shows that there is a statistically significant difference of opinion between the two respon— dent groups as to how the proposed requirements will affect independence for non-SEC registered firms. Both groups do agree that independence will not be increased as much for non-SEC firms as it will be for SEC firms. The largest disagreement is how much less the proposed requirements will affect independence for non- SEC firms. While 50% of the "Big Fifteen"respondents feel that independence will not be increased, fully 72% 8For more information on the distribution of CPAs, see Chapter IV, "CPA Breakdown Information." 207 .Hluwnuo “HucmoumHm mHm “momcommmulcozn .pmcHnEoo mum mGEoHoo mums» mmmomgsm GOHUMHsono Homm .mmom. n Hm>oH outmoHHHcmHm .Hmoam. muooomano 36m o.NOH N.HN N.NN H.vv N.N N.N «N.N nNHH NN HN NN N N Hmuoa N.NN H.NH N.NH o.NN N.H N.N mEHHm Nv.N ON NH NH NN N N Hmnuo N.Nv o.HH N.NH o.NN N. N.H somHMHm ao.m mm mH oH om H N mHm com: Hmuoe .mmch .moch .mmch .mmch .mmch EHHm mmmmuogH wmmmuocH voommd mmmmuomo mmmmuooo mo NHumme NszmHHm muoz whHuanHm mmHumme mNHm mEmHm 0mm MUZmQZWQMQZHIImeBmHm UHm mIHHH> mHmdB 208 ”mmmcommmulgoz .HucmmuHHm mHm a .pmcHQEoo mum mGEoHoo mmmnu mmmomusm coHHMHoono Homo .NNNo. u Hm>mH mocmoflmwcmHm .ONNNo.N u wnmswmlHno 3mm o.ooH N.NH o.Hm m.~m ~.a N.H ma.m anH om NH mm m m Hopes N.Hm N.N N.N H.Hm N.N m.m manm mm.m Ho a m an m a nonuo N.Na N.a H.NH N.HN N.H m. awoumHm ~o.m mm HH NH om N H mHm :mmz Hmuoe .mmch .mmch .mmch .mmch .Qmng EHHm mmmmuocH mmmmuocH uommm< mmmmnoma wmmmnomo mo NHumouo NHusmHHm muoz oNHuanHm maHpmmuo muHm mzmHm UMmIZOZ mUZmQmemOZHIIZMMBhHm UHm OHIHHH> mqm<fi 209 of the respondents who work/worked for other firms feel that independence will not be increased. Ho-ll: CPA Breakdown--Costs/Benefits with SEC registered firms Regarding the question of costs and benefits for SEC firms, both respondent groups feel that the benefits to society will exceed the costs to society with implemen- tation of the requirements that fees and arrangements for auditors be handled by audit committees. The mean for the "Big Fifteen" respondent group is higher than the mean of the group of respondents who work/worked with other firms. TABLE VIII-ll BIG FIFTEEN--COSTS/BENEFITS SEC FIRMS Size Costs Benefits of Exceed Exceed Firm Benefits Costs Total Mean Big 20 30 50 1.60 Fifteen 19.3 28.8 48.1 Other 23 31 54 1.57 Firms 22.1 29.8 51.9 Total 43 61 104a 1.59 41.3 58.7 100.0 Raw chi-square = .00476. Significance level = .9450. aNon-responses: Big Fifteen-9; Other firms—7. 210 Ho-12: CPA Breakdown--Costs/Benefits with non-SEC registered firms In contrast to their reactions regarding SEC regis- tered firms, both respondent groups feel that the costs will exceed the benefits if there were a requirement that fees and arrangements for auditors be handled by audit committees. Nearly 60% of the total CPA respondents feel that costs will exceed benefits. TABLE VIII-12 BIG FIFTEEN--COSTS/BENEFITS NON-SEC FIRMS Size Costs Benefits of Exceed Exceed Firm Benefits Costs Total Mean Big 28 24 52 1.46 Fifteen 26.2 22.4 48.6 Other 34 21 55 1.38 Firms 31.7 19.6 51.4 Total 62 45 107a 1.42 57.9 42.1 100.0 Raw chi-square = .40832. Significance level = .5228. aNon—responses: Big Fifteen-7; Other firms-6. Data Review Hypotheses rejected Review of the data shows that the only chi-square test that rejects the hypothesis of consensus at an alpha level of .05 is Big Fifteen - Independence Non-SEC firms 211 (Table VIII-10). No other tests even approach rejection at the .05 level. Examination of the means of all groups (see Table VIII-13), shows that all respondent groups feel that a requirement that fees and arrangements for auditors be handled by audit committees will increase the independence of the CPA with respect of SEC registered clients. Analysis of means independence decision Using the l to 5 scale, it is possible to state that a group mean of below 3.0 indicates an average response that independence will be decreased. It is also possible to state that a group mean of 3.0 indicates an average response that independence will not be affected; a group mean above 3.0 indicates an average response that independence will be increased. The lowest means (3.12 and 3.25) represent the two respondent groups with the longest experience. The highest mean (3.64) belongs to the respondents who work/ worked for "Big Fifteen" firms. Two explanations seem possible for the high mean of the "Big Fifteen" respondents. Perhaps the respondents feel more management presssure (high fees for large firms) and believe that it will be reduced when an audit com- mittee is used. Also, it may be that the members of this group of respondents have seen more audit committees in practice (since the bigger clients are more likely to have 212 TABLE VIII-l3 COMPARISON OF GROUP MEANS--FEES Inde- Inde- Grou pendence pendence Costs Costs p Decision Decision Benefits Benefits SEC Non-SEC SEC Non-SEC CPAs 3.54 3.43 1.58 1.43 CBMs 3.35 3.23 1.61 1.54 CFAs 3.40* 3.45* 1.56 1.55 0-9 3.55 3.51 1.62 1.55 10-19 3.37 3.28 1.54 1.43 20-29 3.45 3.44 1.54 1.44 30-39 3.12 2.81 1.63 1.40 40+ 3.25 3.00 1.70 1.70 Big 15 3.64 3.62 1.60 1.46 Other CPAs 3.45 3.25 1.57 1.38 Total of All Respondents 3.44 3.37 1.59 1.49 *This is the only instance in which the means seem to suggest the recommended change would be more beneficial with Non-SEC firms than with SEC firms. audit committees), and that they approve of what they see. Regarding non-SEC firms, again, the two lowest means (2.81 and 3.00) belong to the two most experienced respondent groups. Neither group feels that independence will be increased. In fact, the group with 30-39 years 213 of experience feels that the independence will be de- creased. Again, because of the small number of respon- dents in these two groups, caution should be exercised in drawing conclusions about their willingness to accept major changes. All other respondent groups feel that independence will be increased when fees and arrangements for auditors are handled by audit committees. Only the CFA respondent groups feels that inde- pendence will be increased more for non-SEC firms than it will be for SEC firms. All other groups feel that inde- pendence will be increased more with SEC firms than it will be with non-SEC firms. When discussing the comparison of SEC and non-SEC firms, it should be noted that the costs for non-SEC firms is likely to be higher than for SEC firms. This is due in large part to the fact that currently many more SEC firms have audit committees than do non-SEC firms. Analysis of means of coststenefits Using the l, 2 scale, it is possible to state that a group mean above 1.5 indicates an average response that the benefits will exceed the costs. A group mean below 1.5 indicates an average response that the costs will exceed the benefits. Further examination of Table VIII-13 shows that all respondent groups feel that the benefits to society will exceed the costs to society if SEC firms were to be 214 required to have fees and arrangements for auditors handled by audit committees. Except for the group with 40+ years of experience, the means of all groups show a surprising closeness to one another. Regarding non-SEC firms, the respondent groups seem to disagree as to how the proposed requirement will affect costs and benefits. The CPAs feel the costs will exceed the benefits, while the CBMs and CFAs feel that the benefits will exceed the costs. The least experienced and most experienced respondents also feel that the benefits will exceed the costs. The remaining groups feel that costs will exceed benefits. Conclusions There is only one statistically significant differ- ence among respondent groups as to how requirements that fees and arrangements for auditors be handled by audit com- mittees will affect independence. All groups feel that independence will be increased when an SEC client is in- volved. All but two respondent groups feel that indepen- dence will be increased for non-SEC clients. All respondent groups feel that the benefits to society will exceed the costs to society should the requirements be ordered for SEC clients. However, the opinions of the two groups are divided regarding non-SEC clients. 215 The findings are consistent with the recommenda- tions of the Commission on Auditors' Responsibilities that companies should have fees and arrangements for auditors handled by audit committees. CHAPTER IX GOVERNMENT SELECTION AND PAYMENT OF AUDITORS Literature Review Little has been written about government selec- tion and payment of independent auditors. Even the Met- calf Report, which recommends that "The Federal Govern- ment should establish . . . auditing standards and other accounting practices in meetings open to the public,"1 stops short of recommending government selection and pay- ment of independent auditors. An argument that can be offered in favor of gov- ernment selection and payment is that it allows the auditor independence from the client. Although this may be true, problems are possible. As one CPA states, "You cannot be truly independent when you have to interact with the people who pay you. Government regulation of CPAs is not the answer--it would just create another government agency and lots of rules and regulations.2 Referring to the more general question of auditing standards and responsibilities, Forbes states: lMetcalf, Accounting Establishment, p. 23. 2Included in remarks to field questionnaire by James Richardson, former Ernst & Ernst manager. 216 217 It would be a bad thing for everybody if, in punishing the accountants for sins now atoned for, the politicians were to subvert the true (if somewhat limited) functions of certified public accounting--and at the same time foist upon this country yet another maze of regula- tions, yet more miles of costly red tape. Referring to the issue of government selection and payment of auditors the Commission on Auditors' Responsibilities states: Thus, while there may be some deficiencies in the independence of public accounting firms, it is not clear that increased government in- volvement would be free of similar difficulties.4 The Commission continues: Some significant advantages are gained from having the auditor compensated by the company where financial statements are audited. Man- agement is in a position to reduce the cost of auditing by establishing effective internal accounting controls and, in general, by oper- ating a well-disciplined accounting system. Requiring companies to pay the audit fee, therefore, gives them added incentive to insti- tute internal procedures to produce reliable financial information. Analysis of Data The remaining portion of this chapter is devoted to the presentation and interpretation of the data. Each hypothesis is investigated separately; a review and and summary are presented in the section titled Data Review. 3"WurEverybody's Jumping on the Accountants These Days," Forbes, March 15, 1977, p. 43. 4 . . AICPA, Report, ConcluSions, and Recommendations, p. 105. 51bid., pp. 105-106. 218 Specific hypotheses The specific hypotheses to be tested in this sec- tion are: Ho-l: There are no significant differences among mem- bers of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the effect that government selection and payment of auditors will have on the independence of the CPA with respect to the CPA's SEC registered clients. There are significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the effect that government selection and payment of auditors will have on the independence of the CPA with respect to the CPA's SEC registered clients. There are no significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the effect that government selection and payment of auditors will have on the independence of the CPA with respect to the CPA's non-SEC registered clients. There are significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the effect that government selection and payment of auditors will have on the independence of the CPA with respect to the CPA's non-SEC registered clients. 219 There are no significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the costs and benefits to society as a whole of government selection and payment of auditors for SEC registered firms. There are significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the costs and benefits to society as a whole of government selection and payment of auditors for SEC registered firms. There are no significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions as to the costs and benefits to society as a whole of government selection and payment of auditors for non-SEC registered firms. There are significant differences among members of the AICPA, Corporate Bar, and ICFA regarding their perceptions of the costs and benefits to society as a whole of government selection and payment of auditors for non-SEC registered firms. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years regarding their perceptions of the effect that government selection and payment of auditors will have on the independence of the CPA with respect to the CPA's SEC registered clients. 220 There are significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years, and over 29 years regarding their perceptions of the effect that government selection and payment of auditors will have on the independence of the CPA with respect to the CPA's SEC registered clients. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years regarding their perceptions of the effect that government selection and payment of auditors will have on the independence of the CPA with respect to the CPA's non-SEC registered clients. There are significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years regarding their perceptions of the effect that government selection and payment of auditors will have on the independence of the CPA with respect to the CPA's non-SEC registered clients. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years regarding their perceptions of the costs and benefits to society as a whole of government selection and payment of auditors for SEC registered firms. 221 There are significant differences between respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years regarding their perceptions of the costs and benefits to society as a whole of government selection and payment of auditors for SEC registered firms. There are no significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years regarding their perceptions of the costs and benefits to society as a whole of government selection and payment of auditors for non-SEC registered firms. There are significant differences among respon- dents who have experience of 0-9 years, 10-19 years, 20-29 years and over 29 years regarding their perceptions of the costs and benefits to society as a whole of government selection and payment of auditors for non-SEC registered firms. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect that government selection and payment of auditors will have on the independence of the CPA with respect to the CPA's SEC registered clients. There are significant differences between 222 respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect that government selection and payment of auditors will have on the independence of the CPA with respect to the CPA's SEC registered clients. Ho-lo: There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect that government selection and payment of auditors will have on the independence of the CPA with respect to the CPA's non-SEC registered clients. Hl-lo: There are significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for other CPA firms regarding their perceptions of the effect that government selection and payment of auditors will have on the independence of the CPA with respect to the CPA's non-SEC registered clients. HO-ll: There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for the other CPA firms regarding their perceptions of H -11: H -12: H -12: 223 the costs and benefits to society as a whole of government selection and payment of auditors for SEC registered firms. There are significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for the other CPA firms regarding their perceptions of the costs and benefits to society as a whole of government selection and payment of auditors for SEC registered firms. There are no significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for the other CPA firms regarding their perceptions of the costs and benefits to society as a whole of government selection and payment of auditors for non-SEC registered firms. There are significant differences between respondents who work/worked for the "Big Fifteen" CPA firms and respondents who work/worked for the other CPA firms regarding their perceptions of the costs and benefits to society as a whole of government selection and payment of auditors for non-SEC registered firms. 224 HO-l: CPAs/CBMs/CFAs--Independence with SEC registered firms Table IX-l shows that there is not a statistically significant difference among the respondent groups and the effect that they feel government selection and payment of 6 On the auditors will have on the independence of CPAs. average, both the CPAs and CFAs feel that the change will decrease independence. At the same time, the CBMs seem to feel that independence will be increased. However, it should be pointed out that the mean in all three cases approaches 3.00 closely enough to suggest that there is no clear feeling in either direction for any of the three groups. Ho—2: CPAs/CBMs/CFAs--Indepencence with non-SEC registered firms In reference to non-SEC registered firms, the results are essentially the same. Sixty three percent of all of the respondents do not feel that independence will be increased by the proposed change for non—SEC firms. Ho-3: CPAs/CBMs/CFAs--Costs/Benefits with SEC registered firms Table IX-3 indicates that the groups are basically in agreement as to their feelings about how government selection and payment of auditors will affect the 6For more information on the statistical analysis, see Chapter IV. 225 "noncommmnncozn .pngnEoo mum ngsHoo mmmnu mmmomusm GOHumHDOHmo uomw .mlmdmu nNlmzmu «Nlmdmu .NONN. u Hw>mH wocmonHcmHm .NvNHH.¢ u mHMDUmIHno 3mm 0.00H N.NH N.ON N.ON N.N N.NN OO.N QONN NN ON NN NH ¢N Hmuoa N.NN N.N N.N N.N v.N N.N vN.N NN NH NH NH N NN mfimo N.ON N.N N.N O.N O.H N.N NH.N NN ON NH NN N ON mzmo v.Nv N.N N.N N.NN H.N N.OH HN.N NNH NH NN Nv N HN mdmu cam: Hmuoe .mmch .mmch .Qmch .mmch .mmch mmmmuocH mmmmuocH Hommmm mmmmuomo mmmwnomo NHumonw NHuanHm muoz meusmHHm MNHumqu mzmHm omm mozmozmmmazHnummH mocmonHcNHm .HNNNO.N u mumsomano 3mm 0.00H N.NH H.NH N.NN N.N N.NN OO.N nNNN VN NN NN NH HN Hmuoe H.NN N.N N.N N.N v.N O.N NN.N NN NH NH NH N NN mdmo N.ON N.N N.N O.N N.H N.N NH.N NN HN NH NN v ON mzmo N.Nv N.N N.N H.NH N.N N.N NN.N NNH NH NH NN N NN mmH TUCMOHMHGNHN .OHHHN.v u mumsvmlwco 3mm 0.00H N.NH N.ON N.ON N.N N.NN OO.N oONN NN ON NN NH NN Hmuoe N.N N. N. N. N. N.H NN.N HH N H N N v Q+Ov N.N N.H N. N.H O v.N NN.N NH v N N O N QNNION N.NH H.N v.N N.N N. N.N NN.N Nv N OH NH N NH NNION N.NN N.N N.N N.N H.N N.N HN.N NN NH NH NN N «N NHIOH N.vv N.N N.OH H.NH H.N O.N NH.N NNH NN HN Hv N NN NIO :mmz Hmuoe .mmch .mmch .mmch .mmch .moch wmmwuocH mmmmuocH vowmmfl mmmmuowo mmmwuoma NHuooHo NHonoHHm 6uoz osHogoHHm oNHomouo mZmHh 0mm muzmazmmeZHllmmDomw mUZmHmmmxm mle mqmfie 231 .Hu+o« hHHNNION “NHNNION .pmcHQEoo mum msou .pmcHQEoo mum mcESHoo uNHNHIOH mmwnu mmmomuom goHumHsono Mom uNHNIO “mmmcommoulcozo mmmsu mmmomusm coHumHsono Homw .HNNN. u Hm>mH oocmoHMHcmHm .N«NON.N mumsvmlwno 3mm 0.00H N.NH H.NH N.NN N.N N.«N OO.N oNNN «N NN NN NH HN Hmuoe N.N N. N. N. N. N.H N«.N HH N H N H N Q+O« N.N o.H N. «.H O «.N NN.N NH N N « O N QNNION N.NH H.N N.N N.N N. N.« NN.N N« N OH NH N NH NNION N.NN N.N N.N N.N N.N O.N ON.N NN NH NH NN N NN NHIOH «.«« N.N N.N O.NH «.N O.N HN.N NNH NN «N N« N NN NIO cmmz Hmuoe .mmch .mmch .mmch .mmch .mwch .Hmmxm mmmmHOCH mmmmuocH Hommmd mmmmuown mmmwuoma mo NHooouo NHugoHHm 60oz mNHoanHm omHHoouo onto» mZMHm OmleOZ muzmazmmeZHllmmDOMU MUZMHmmmxm NIXH mqmmH TUCNOHNHCNHN .NNHNH. u mumsvmlHno 3mm 0.00H N.NH N.NH O.NN N.N N.NN NN.N Q«HH NH NN H« N ON Hmuoe N.HN O.N N.OH H.«H N.H «.NH mEHHm NN.N NN N NH NH N HN Hmnuo N.N« H.N N.N O.NN N.N N.N gmmumHm «o.H mm N oH mm a a mHm cow: Hmuoe .mmch .mmch .mmng .mmch .mmch EHHm mmmwuocH ommmuocH pommmd mmmmuomo mmmmuomo mo NHummHo NHucNHHm muoz mmHusmHHm maHumme mNHm leH mamfifi mzmHh 0mm mUZMDZWQMDZHIIZMHBmHm UHm 236 .Hunmnuo “«IcmmumHm NHm ”Noncommmuucozn .pmanEoo mum ngSHoo mmwnu monomnsm goHumHsono Homm .NNNN. u Hm>mH OOQMOHMHGNHN .NNNNN. u OHMDUmIHno 3mm N.OOH O. NH N.NH N.O« H.N N.«N NN.N nNHH NH NH N« N NN Hmuoe N.NN H.N N.N N.NH N.H N.NH mEuHm «N.N ON N N HN N HN Hmnuo N.N« O.N N.N N.NN «.« H.N somHMHm HH.m mm m a mm m N NHm cam: HMUOB .mwch .mwch .mmch .mmng .mmch EHHm ommmuogH mwmmnocH pommmfi mmmmuowa mmwmuomo mo NHummHU NHuanHm Hwhoz MNHUQNHHN maHummuw ouHm mZMHh UmmIZOZ MUZMDZWQMQZHIIZMMBhHh UHm OHIxH mqmfiB 237 HO-ll: CPA Breakdown--Costs/Benefits with SEC registered firms Considering the costs and benefits of government selection and payment of auditors, the respondent groups are remarkably similar in their opinions. As Table IX-ll reveals, both group means are extremely close as are the raw scores. More than 93% of the total respondents feel that the costs to society will exceed the benefits to society. TABLE IX-ll BIG FIFTEEN--COSTS/BENEFITS SEC FIRMS Size Costs Benefits of Exceed Exceed Firm Benefits Costs Total Mean Big 53 3 56 1.05 Fifteen 46.9 2.7 49.6 Other 53 4 57 1.07 Firms 46.9 3.5 50.4 Total 106 7 113a 1.06 93.8 6.2 100.0 aNon-responses: Big Fifteen-3; Other-4. bInsufficient expected cell sizes for statistical tests. 238 Ho—12: CPA Breakdown--Costs/Benefits with non-SEC registered firms The responses of the CPA groups are virtually the same for non-SEC registered firms as they are for SEC registered firms. In fact, the only difference among their responses for non-SEC registered firms is that one respondent in the category of "Other Firms" who did not answer the cost/benefit question for SEC registered firms, feels that costs will exceed benefits for non-SEC regis- tered firms. TABLE IX-12 BIG FIFTEEN--COSTS/BENEFITS NON-SEC FIRMS Size Costs Benefits of Exceed Exceed Firm Benefits Costs Total Mean Big 53 3 56 1.05 Fifteen 46.5 2.6 49.1 Other 54 4 58 1.07 Firms 47.4 3.5 50.9 Total 107 7 114a 1.06 93.9 6.1 100.0 aNon-responses: Big Fifteen-3; Other-3. bInsufficient expected cell sizes for statistical tests. 239 Data Review Hypotheses rejected Examination of the data shows that no chi-square test even approaches rejection of the hypothesis of con- sensus at the alpha level of .05. This suggests that there is general agreement of all groups on all issues concerning government selection and payment of indepen- dent auditors. No clear-cut statement can be made as to how the respondent groups feel that government selection and pay- ment of independent auditors will affect independence either for SEC registered or non-SEC registered clients. Analysis of means of independence decision Using the l to 5 scale, it is possible to state that a group mean of below 3.0 indicates an average response that independence will be decreased. It is also possible to state that a group mean of 3.0 indicates an average response that independence will not be affected; a group mean above 3.0 indicates an average response that independence will be increased. The highest means for SEC and non-SEC firms belong to the CBMs (3.18 and 3.16), to the group with 0-9 years of experience (3.18 and 3.21), and to the "Big Fifteen CPAs (3.04 and 3.11). The lowest means belong to the group with 30-39 years of experience (2.76 and 2.63), to the group with 40+ years of experience (2.55 and 2.45), 240 and to the CPAs from other firms (2.73 and 2.65). Based on many of the comments volunteered on the questionnaires, this researcher has to speculate as to what question the respondents are actually addressing. Are they honestly answering how they feel that indepen- dence will be affected? Or are they indicating how they want selection and payment of independent auditors to take place? Analysis of means of costs/benefits Using the 1, 2 scale, it is possible to state that a group mean above 1.5 indicates an average response that the benefits will exceed the costs. Conversely, a group mean below 1.5 indicates an average response that the costs will exceed the benefits. Asked about the issue of costs and benefits to society when there is government selection and payment of auditors, all respondent groups clearly agree. By a very wide margin, every group mean suggests that the respon- dents feel that the costs to society as a whole will exceed the benefits to society as a whole. The closeness of the means makes it futile to look at differences among group means. The data in Table IX-l3 reveals that there is no correspondence between the respondent groups when their means for SEC and non-SEC registered firms are compared. Some of the group means are higher for SEC firms than for 241 TABLE IX-l3 COMPARISON OF GROUP MEANS--GOVERNMENT Inde- Inde- G pendence pendence Costs Costs roup Decision Decision Benefits Benefits SEC Non-SEC SEC Non-SEC CPAs 2.91 2.92 1.07 1.07 CBMs 3.18 3.16 1.08 1.07 CFAs 2.94 2.95 1.14 1.10 0-9 3.18 3.21 1.07 1.05 10—19 2.91 2.90 1.10 1.08 20-29 2.87 2.87 1.13 1.13 30-39 2.76 2.63 1.06 1.06 40+ 2.55 2.45 1.10 1.10 Big 15 3.04 3.11 1.05 1.05 Other CPAs 2.73 2.65 1.07 1.07 Total of All Respondents 3.00 3.00 1.09 1.08 non-SEC firms. The reverse is true of the other groups both for the issue of independence and for the costs and benefits decisions. Although no clear reason seems to exist for the differences of means for the CPA groups, it is possible 242 that the respondents from smaller firms are concerned that the government is more likely to select large firms. Conclusions All respondent groups seem to agree on all of the research questions in this chapter. Independence will be neither increased or decreased by government selection and payment of independent auditors. It is clear that all respondent groups feel the costs to society as a whole will far exceed the benefits to society as a whole. This was the strongest position taken by the respondents for any of the questions in this research. The position of the Commission on Auditors' Responsibilities on government selection and payment of auditors is strongly supported by this research. CHAPTER X SUMMARY AND CONCLUSIONS For many years the business community has relied on statements from Certified Public Accountants about the appropriateness of the financial statements of the CPAs' clients. This has created a vast trust for the CPA which until recently was seldom questioned. In the last few years many incidents have come to light that have cast doubt on the CPAs and the relationships that they have with their clients. In an attempt to look more closely at this problem, committees were set up in both houses of the U.S. Congress as well as within the AICPA. The primary emphasis of this research is to examine some changes possible as a result of the report titled The Commission on Auditors' Responsibilities: Report, Conclu- sions, and Recommendations, issued by the AICPA early in 1978. Using the questionnaire approach, this study examines potential changes in the CPA/client relationships, and how various response groups view these changes. Summagy Review of the data chapters shows that ten of the tests are significant at the .05 alpha level; another 243 244 seven are significant at the .10 level. Table X-l sum— marizes the results of the statistical tests. Since the study deals with six issues, each question or set of questions is considered separately below. Rotation of audit firms There are a number of significant differences of opinion regarding the rotation of independent auditors, but the group means suggest that on the whole, the groups do feel that rotation will increase independence. At the same time all groups are of the opinion that rotation will be more costly than the benefits received by society. CPAs who work/worked with firms other than the Big Fifteen are the group most in favor of rotation. The groups least in favor of rotation are the Big Fifteen CPAs and those respondents with 30 or more years of experience. It should be noted that the two groups with the most experience do have limited numbers of respondents. One of the questions left unanswered, and one that remains unresolved by this research is what the respon- dents are actually saying. Possibly some of the CPA respondents are indicating how they think the possible change will affect their billings, rather than how it will affect independence. This conclusion is to some degree supported by the numbers. Those respondent groups (Big Fifteen CPAs and the older groups) most likely to have large, stable clients indicate the effect least favorable 245 .mmep HmoHumHumum HON mmuHm HHmo pwuommxm ugmHonmomcHttt .Ho>mH manm oH. um unmonHcmHmaa .Ho>mH mamHm NO. um uconchmHmt ««« NNN. NNN. NNN. «NHo. HON. mfihflm 0mm Icoz muHmwcmm\mumou I cmmumwm NHm «tt N«N. NNN. NNN. tN«O. ««NNO. mEHHm 0mm muHmmgom\mumoo I comumHm NHm NNN. «NNO. ««NNO. NNH. tHHO. ««H. mEHHm ummlcoz mogmpgmmmch I cOOHMHm NHm Ham. mom. tame. oaH. mam. 44HNo. msuHm omm moooocommooH I amoumHm mHm «tt HNN. NNN. NNN. «HN. NNN. mEHHm ummIgoz munmgmm\mumOU I masono mocmHummxm «tt NNN. NNN. NON. «NN. NNN. mEHHh 0mm muHmwcmm\mumou I mmsouw mocwwuwmxm NNN. *«« *«s «NN. «*s «NH. mEHHm UMmIGOZ mocmpcmmmng I mmoouw mogmHHmmxm N«N. NON. «at NON. NNN. ««NNO. mEHHm 0mm mocmpcmmmch I mmoouo mucoHnomxm NHN. NNH. NNN. «OH. ««NNO. «NOO. mEHHm UNNIGGZ mpHmmgom\mumou I moo ImomHa \mooHo ImHo Imuom u a mBmMB HdUHBmHfidfim m0 dezzom Hlx mqmfla 246 to independence. The results suggest that none of the groups feel that the benefits derived from rotation warrant mandated rotation. This finding is consistent with the recommen- dation made by the Commission on Auditors' Responsibilities that rotation not be required. Disclosure of independent auditor changes On the question of a management report containing disclosure of independent auditor changes, there are again a number of statistical differences of opinion among the respondent groups. All respondent groups feel that independence will be increased for SEC firms; all but one of the groups feel that independence will be increased with non-SEC firms if changes in independent auditors are disclosed. Regarding the issue of costs and benefits for the proposed change, all groups feel the benefits will ex— ceed the costs for SEC firms; all but two groups feel the same way regarding non-SEC firms. Possibly the respondents are actually saying that, while they believe the proposed change may not signifi- cantly increase independence, still the cost of implementing such a change is so low that it is worthwhile nevertheless. This explains to some degree those groups who do not feel independence will be increased significantly, yet still think that the costs will be less than the benefits. Finally, it should be noted that, based on the 247 comments volunteered on many questionnaires, a number of respondents do not understand the format of the suggested management report. A number of respondents think that this disclosure will appear in the "highlight" section of the current annual reports--illustrating the problems possible in communication when questionnaires are used. However, this researcher does not believe that it con- stitutes a major problem here. The findings in this chapter are consistent with the recommendation of the Commission on Auditors' Respon- sibilities that a management report be used to disclose the changes of independent auditors. Gifts and discount purchases Although there are a few statistically significant differences among groups as to how prohibition of gifts and discount purchases will affect independence, the issue is the degree of the effect and not its direction. All groups feel that independence will be increased for both SEC and non-SEC firms if gifts and discount purchases from clients are prohibited. All groups feel that for SEC and non-SEC firms, the costs of such a prohibition will be less than the benefits. The more experienced groups are consistently the 'most emphatic about the benefits of a prohibition. CBMs also seem to feel strongly about this issue. However, it is still useful to examine further some of the possible 248 reasons for the groups means. Possibly the more experi- enced groups feel as strongly as they do because over the years they have seen more abuses. Perhaps lawyers are more likely to see the bargaining and deals that reportedly take place. It may also be true that Big Fifteen firms have so many built-in safety guidelines that few abuses occur, and consequently the need for reform is not as great in these firms. This line of reasoning has been neither supported nor refuted by research. The findings of this research suggest that gifts and discount purchases should be prohibited. This is con- sistent with the recommendation of the Commission on Auditors' Responsibilities which also suggests a prohibi- tion. Executive search and placement Only one significant difference exists among the respondents on this question. The difference is between the CPAs who work/worked for Big Fifteen firms (mean of 3.37) and those who work/worked for other firms (mean of 3.76). All groups feel that independence will be in- creased if executive search and placement service were prohibited. However, a number of groups feel that with such a prohibition, the costs to society as a whole will exceed the benefits to society as a whole. In all but one case the respondents feel the benefits of a prohibition will be less (smaller increase 249 of independence), for non-SEC firms than for SEC firms. Sometimes the difference was large when comparing responses for SEC vs. non-SEC firms. It can be argued that the CPAs who work with the Big Fifteen firms have seen the usefulness of recruit- ment, and have seen few abuses considering the many built- in constraints of the large firms. It may be more likely that, given their larger search and placement services, the big firms have more to lose if such a prohibition is enacted. Consequently, it is necessary again to speculate as to which question the respondents are actually addressing. Because of the mixed results on this question, it is not wise to draw any conclusions on the correctness or incorrectness of the stand taken by the Commission on Auditors' Responsibilities on the issue of executive search and placement. The data in this study gives no clear indi- cator as to the direction which should be taken by the pro- fession. Fees and arrangements for auditors Only one test is significant on this question, one involving the two groups of CPAs. All groups feel that independence will be increased if fees and arrangements for auditors are taken care of by audit committees for SEC firms. Only the group with 30-39 years of experience feels that independence will not be increased for non-SEC firms. 250 The groups with the highest means (that is, those who believe independence will be increased the most) are the CPAs with the Big Fifteen firms, and the respondents with 0-9 years of experience. One possible explanation for the findings above is the heavy pressure, due to large fees, on CPAs in large firms. Also, it is more likely that pressure is put on the new and least experienced employees. Once again the lowest means are for the two most experienced groups. In fact, neither the groups with 30-39 years of experience, nor those with 40+ years of experience feel that indepen- dence will be increased for non-SEC firms by this proposed change. Regarding the costs and benefits for this question, all groups think that the benefits will exceed the costs for SEC firms. At the same time, a number of groups do not feel the costs will be covered by the benefits for non- SEC firms. It should be noted that many non-SEC firms have no members of the board of directors who are not management. Consequently, for these firms, the cost of an audit com- mittee made up of non-management people would be costly. It is likely that this is a consideration when respondents refer to non-SEC firms. One point of misunderstanding on the questionnaire may have been due to the respondents' ignorance of the current state of audit committees in the U.S. A number of 251 respondents suggest that this is already the law. Typi- cally they are referring to the fact that the New York Stock Exchange requires audit committees. At the time of this questionnaire, the requirements had not spelled out any duties for these committees; they state merely that they must exist. This may have affected some respondents' evaluation of the costs and benefits of such a mandate. The findings of this research support the position of the Commission on Auditors' Responsibilities that SEC firms should have audit committees handle fees and arrange— ments for independent auditors. The position of the com- mission on non-SEC firms has been neither supported nor refusted by this research. Government selection andgpayment of auditors On this issue there seems to be little disagree- ment among the various respondent groups. None of the tests are statistically significant. Regarding both SEC and non-SEC firms, only three respondent groups feel that independence will be increased by government selection and payment of auditors. All of the other groups feel that independence will be decreased. Regarding the issue of costs and benefits, all respondents feel that the costs of government selection and payment of auditors will exceed the benefits of such action to society. 252 Over-all Comparisons Table X-2 shows that the means of the CPAs are consistently lower than the means for CBMs and CFAs. Only on the issue of fees and arrangements is the mean of the CPAs higher than those of the other two groups. Consis- tently this indicates that the CPAs do not feel indepen- dence will be increased as much as the CBMs and CFAs. Table X-3 indicates that for the costs/benefits decision, the means of the CPAs are again consistently lower than those of the other two groups. Another observation that can be made based on Tables X-2 and X-3 concerns the CPAs who are with the Big Fifteen and the CPAs with other firms. Although the direc- tion differs from question to question as to which group has the high or low mean, regarding the issue of inde- pendence, the two groups never approach agreement. There is always a large gap between the means for the two groups. Referring to the costs/benefits decision, the CPAs agree much more closely. The means for the costs/benefits deci- sion are very close for the two groups. 253 oo.m mo.~ HH.m ma.~ NH.m NN.N msuHm ommIcoz moooooomoooH I Homecu0>oo oo.m HN.N «o.H «o.N mH.m HN.N meHHm omm mocmoowamocH I pomscum>oo Nm.m m~.m ~o.m m«.m m~.m m«.m mauHm ommIooz mocoocmmoocH I moon ««.H m«.m ao.m oa.m mm.m 4m.m maHHm omm outmocomowaH I 600m mm.m mo.m am.m am.m om.m mm.m mauHm ommIooz mooooammoocH I HoosmomHo oo.m NN.m Nm.m «o.m «N.H om.m meuHm omm moooocmmmocH I HomewomHa oa.m oo.m oa.m mm.m ~o.m mm.m meuHm omm Icoz wogmpcmmmch I mpgsoomHo\muwHw HN.m so.m Nm.m oa.m am.m om.m mEHHm omm moamocmamocH I monsoomHo\mumHo o«.m mo.m o«.m om.m m4.m Hm.m msuHm ommIcoz wocmoooamooH I ousmoHomHo mm.m mm.m 4m.m mm.m ~o.m m«.m meuHm omm outmocommocH I muomoHomHo mn.m NN.m N~.m om.m ma.m Ho.m mauHm ommIooz moooocmaoocH I :oHumuom Nm.m oo.« ma.m oo.m am.m «N.H msaHm omm mocooammmocH I :oHumuom Hopes memw NH NHm mNmo mzmo m¢mo conHomo MUZMQZQQMDZH HHflIImZ¢mE ho ZOmHmow mo.H No.H mo.H «H.H No.H No.H msuHm omm muHmmcmm\mumoo I Hamscum>oo m«.H mm.H N4.H mm.H «N.H m«.H msuHm ommIaoz muHmocmm\mumoo I mmmm mm.H Nm.H oN.H NN.H HN.H mm.H msuHm omm muHmmcmm\mumoo I 600m a«.H Hm.H m4.H NN.H N«.H N«.H maHHm ommIaoz muHH0o0m\mumoo I ucosmomHm «N.H mm.H m«.H NN.H mm.H om.H manm omm muHmmcmm\mumoo I ucmsmomHm oN.H mo.H om.H «N.H NN.H mo.H msuHm omm Isoz muHmocwm\mumoo I mugsoomHo\mumHo «N.H oN.H HN.H MN.H om.H mo.H msuHm 0mm muHmmgmm\mumou I mugsoomHo\mumHo HN.H m«.H mo.H NN.H NN.H mm.H maHHm ommIcoz muHmocom\mumoo I musmoHomHa NN.H 4m.H NN.H NN.H mN.H NN.H msuHm omm muHHmoom\mumoo I musmoHomHo H~.H mH.H mo.H mm.H N~.H NH.H msuHm ommIooz muHmmcmm\mumoo I coHumuom m~.H NN.H m~.H om.H om.H om.H msHHm omm muHmmawm\mumoo I aoHumuom Hopes memw mH NHm m