Academic journal article Auditing: A Journal of Practice & Theory

The Effect of Stage of Development and Financial Health on Auditor Decision Behavior in the Going-Concern Task

Academic journal article Auditing: A Journal of Practice & Theory

The Effect of Stage of Development and Financial Health on Auditor Decision Behavior in the Going-Concern Task

Article excerpt

SUMMARY

The effect of different task settings within an industry on auditor behavior is examined for the going-concern task. Using an interactive computer process-tracing method, experienced auditors from four Big 6 accounting firms examined cases based on real data that differed on two dimensions of task settings: stage of organizational development (start-up and mature) and financial health (bankrupt and nonbankrupt). Auditors made judgments about each entity's ability to continue as a going concern and, if they had substantial doubt about continued existence, they listed evidence they would seek as mitigating factors. There are seven principal results. First, information acquisition and, by inference, problem representations were sensitive to differences in task settings. Second, financial mitigating factors dominated nonfinancial mitigating factors in both start-up and mature settings. Third, auditors' behavior reflected configural processing. Fourth, categorizing information into financial and nonfinancial dimensions was critical to understanding how auditors' information acquisition and, by inference, problem representations differed across settings. Fifth, Type I errors (determining that a healthy company is a going-concern problem) differed from correct judgments in terms of information acquisition, although Type II errors (determining that a problem company is viable) did not. This may indicate that Type II errors are primarily due to deficiencies in other stages of processing, such as evaluation. Sixth, auditors who were more accurate tended to follow flexible strategies for financial information acquisition. Finally, accurate performance in the going-concern task was found to be related to acquiring (1) fewer information cues, (2) proportionately more liquidity information and (3) nonfinancial information earlier in the process.

Key Words: Stage of development, Financial health, Going-concern judgment, Computer process tracing, Configural processing.

Data Availability Data are available upon request from the first author after the authors have completed work on related projects.

Auditing researchers and practitioners have focused on industry specialization as a way to improve auditor performance. Industry specialization enables auditors to gain knowledge of the business and economic factors that are critical to evaluating companies in particular lines of business (Solomon et al. 1997). While industry specialization is important in auditing, there are also factors within industries that can affect auditor performance such as task setting and context (Gibbins and Jamal 1993). For instance, the "characteristics" of start-up companies often differ greatly from mature companies (e.g., reliability of projected financial information). Such differences may be so profound that, even though the companies operate within the same industry, auditors may have to use very different decision processes for start-up and mature companies. Moreover, failure to adapt decision processes across such different decision settings has been shown to result in errors in judgment (e.g., Frensch and Sternberg 1989).

The purpose of this paper is to examine if and how auditors' decision behavior adapts to different task settings within an industry. The task that is studied is the going-concern decision and the industry setting is high technology. The research is guided by Newell and Simon's (1972) theory of problem solving that identifies two interrelated analyses of human behavior. The first analysis is referred to as "demands of the task setting." It is studied in Hypotheses 1 and 2, which examine the relationship between decision process and task settings that are varied on the basis of stage of development (start-up and mature) and financial health (healthy and unhealthy). The second analysis is referred to as the "psychology of the subject." It is studied in H3 and H4, which examine the relationship between performance and decision process. …

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