AUDIT QUALITY IT IMPACT ON FINANCIAL PERFORMANCE OF QUOTED FIRMS IN NIGERIA
ABSTRACT
This report presents the outcome of a research that examines audit quality it impact on financial performance of quoted firms in Nigeria. Specifically, the study drew inference from quoted companies in Nigeria, with data covering 10 years (2011 to 2020). The proxy for audit quality were statutory audit services, audit tenure, auditor’s independence, and audit-firm size; whereas, firm performance was measured by Return On Assets (ROA). Firm year data which were collated from their respective annual reports were obtained from the database of machameratios. The study adopted the Panel Least Square technique, descriptive analysis and relevant diagnostic tests as part of the tools used in analyzing the data collated. From the results, while we notice that audit independence exerts significant negative influence on ROA; audit tenure and audit firm size had positive relationship with ROA, although, this relationship was not significant. Conversely, statutory audit service on its own significantly influenced firm performance (ROA). Overall, measures of audit quality exert joint significant influence on ROA. With the study’s results, we recommend among others that the country’s Financial Reporting Council and other regulators should develop policy guidelines to specifically checkmate auditors’ tenure vis-à-vis compliance to existing regulatory framework for financial reporting.
TABLE OF CONTENTS
TITLE PAGE - - - - - - - ii
DECLARATION - - - - - - - iii
CERTIFICATION - - - - - - - iv
DEDICATION - - - - - - - v
ACKNOWLEDGEMENTS - - - - - - vi
CHAPTER ONE: INTRODUCTION
1.1 Background to the Study - - - - - 1
1.2 Statement of Problem - - - - - - 8
1.3 Objective of the Study - - - - - 10
1.4 Research Questions- - - - - - - 11
1.5 Statement of the Hypothesis - - - - - 12
1.6 Significance of Study - - - - - - 13
1.7 Scope of the Study - - - - - - 14
1.8 Definition of Key Terms - - - - - 15
CHAPTER TWO: LITERATURE REVIEW
2.1 Introduction - - - - - - - 18
2.2 Conceptual Framework - - - - - - 33
2.3 Theoretical Framework - - - - - - 45
2.4 Empirical Review - - - - - - - 50
CHAPTER THREE: RESEARCH METHODOLOGY
3.1 Research Design - - - - - - 56
3.2 Population of the Study - - - - - - 57
3.3 Sample Size - - - - - - - 57
3.4 Sampling Technique - - - - - - 58
3.5 Method of Data Collection - - - - - 58
3.6 Technique for Data Analysis - - - - - 59
3.7 Model Specification and Variable Definition - - - 59
3.8 Measurement of Variables - - - - - 59
CHAPTER FOUR: PRESENTATION AND ANALYSIS OF DATA
4.1 Presentation of Data - - - - - - 60
4.2 Discussion of Findings - - - - - 79
CHAPTER FIVE: SUMMARY, CONCLUSION AND RECOMMENDATIONS
5.1 Summary - - - - - - - 80
5.2 Conclusion - - - - - - 80
5.3 Recommendations - - - - - - 93
References - - - - - - - 95
Appendix - - - - - - - - 98
CHAPTER ONE
INTRODUCTION
1.1 Background to the study
Financial reporting is one of management's major tasks, as it allows for reporting on management. Managers of public companies are required to prepare and present annual financial reports to shareholders, and the company's owners, as well as other stakeholders for the purpose assess the reporting entity's performance and financial position (Amahalu and Obi, 2020). This means that financial reports that do not match the information needs of their users do not accomplish their goal.
Auditors are expected to make objective assessments of whether organizations are managed responsibly and successfully to achieve the desired goals in the business world. Investor confidence is critical to the successful operation of the world's financial markets, and it is one of the most hotly debated topics among auditors, politicians, the media, regulators, and the general public (Eshitemi & Omwenga, 2016 & Matoke & Omwenga, 2016)
After the Enron Scandal in 2002 and the collapse of both small and large organizations around the world, there was a heated debate regarding audit quality and the factors that might influence audit quality. The audit profession took damage to its fundamental principles of auditor independence and public disclosure of audit reports (Enekwe, et al, 2020).
The auditor's opinion is critical in attesting and verifying the financial statements created by clients' management, and if the auditor's performance is not objective, the auditor's view will not add anything to the financial statements' credibility and reliability. As a result, an independent audit provides a reasonable basis for an unbiased assessment of the quality of financial statement information. The trustworthiness of financial statements among stakeholders is enhanced by the quality of audit reports, which reduces investors' risk in the firm (Enekwe, et al, 2020; Eshitemi & Omwenga, 2016 & Matoke & Omwenga, 2020).
The audit quality can be defined in two ways: first, by discovering financial statement misstatements and errors, and second, by disclosing the major misstatements and errors. Because these qualities are mainly unobservable, researchers have relied on proxies such as audit size, audit hours, audit fees, auditor reputation, Audit litigation, Audit tenure, timeliness, joint audit, and discretionary accruals to assess audit quality (Esezobor and Funmi, 2020). Audit quality is a critical component in maintaining a company's financial success; an objective quality audit establishes confidence in the integrity and reliability of financial reports, which is critical for markets to function efficiently and increase financial performance (Erasmus and Akani, 2021).External audits conducted in accordance with excellent auditing standards, on the other hand, can help relevant businesses develop their application of accounting principles and ensure that their financial reporting are helpful, transparent, and dependable. An independent audit would help organizations reinforce robust internal control mechanisms, risk management, and corporate governance codes, ultimately improving financial performance (Abdullahi, Norfadzilah, Umar and Lateef, 2020).
A reputable auditor's audit of a financial report informs market participants that the financial reports are more credible and reliable than those audited by untrustworthy auditors (Ogbodo and Akabuogu, 2018).The audit market considers independent auditors and their size to be of higher quality than compensation provided to auditors by companies, which are reflected in higher or lower share price increases or reductions. Taking into account the results of an independent audit as well as the quality of the audit, plays an important role in maintaining a well-functioning market environment by instilling confidence in the authenticity and dependability of financial reporting, which is essential for efficient markets (Ugwunta, Ugwuanyi, & Ngwa, 2018).
The purpose of auditor independence is to improve the quality of financial reporting by increasing the effectiveness and efficiency of the audit process and ensuring that an auditor's integrity is not jeopardized by their familiarity with the client, thereby compromising their independence (Muotolu and Nwadialor, 2019). The independence of auditors plays a crucial role in sustaining users' trust in audited financial statements. Some circumstances, such as offering non-audit services to the customer and having relationships with the client firm, may influence auditor independence. Also, if auditors stay with a client for an extended period of time, their independence may be jeopardized (Tobi, Osasrere and Emmanuel, 2016).
The credibility and integrity of financial statements are essential for well-functioning markets and improved financial performance; an independent quality audit underpins confidence in the credibility and integrity of financial statements, which is essential for well-functioning markets and improved financial performance (Orjinta and Ikueze, 2018). For business organizations, investors, and third parties, the issue of firm performance and tactics for improving it are critical. One strategy to improve a company's performance is to increase the quality of the services provided by auditors (audit quality), which is known as external monitoring (Matoke & Omwenga, 2020; Orjinta, et al, 2018).
When the audit quality of a company's financial reporting is questioned, it's likely that the company may change auditors to avoid the capital market ramifications of incorrect financial reporting (Abdullahi, et al, 2020). Researchers are concerned about the direct impact of audit quality on business performance of manufacturing firms listed on the Nigerian stock exchange (NSE). Audit quality is examined in this study using five primary determinants: audit independence, audit firm size, audit fees, audit report timeliness, auditor tenure, and return on asset (ROA).
1.2 Statement of the problem
In Nigeria, there has been widespread fraud and unethical behaviour within and among a variety of institutions (Mustafa and Abdulwahab, 2018). Recent insider trading, widespread fraud as a result of corrupt practices, and an inefficient rubber stamped board have all contributed to the current firm's lack of success or failure, this can be seen in the banking sector in Nigeria widely reported many accounting irregularities, such as; Spring Bank, Fin Bank, Afri Bank, Union Bank, Oceanic Bank and Intercontinental Bank was because of lack of good supervision roles by the board and poor audit qualities (Gambo, Bello and Raimanshing, 2018). The events have had a severe impact on stakeholders in terms of investment losses. Hundreds of jobs have been lost as a result of the events, and non-financial sector is not an exception in case of Cadbury Nigeria Plc and African Petroleum (AP) (Okolie & Agboma 2008), and the share prices of most listed businesses on the Nigerian stock exchange have plummeted.The public and stakeholders were taken back, and the question of "how" such an earning management could have occurred when corporations were claiming billions of naira in profit remained unanswered (Ugwu, Aikpitanyi and Idemudia, 2020). Investors' confidence in the integrity and quality of financial reports produced by company management could no longer be supported because the financial reports were deemed misleading. Therefore, there is a greater need to protect stockholders' interests in order to avoid another massive shock. Although the relevance of audit quality is increasingly recognized in the literature, there has been very little research on audit quality aspects in emerging economies such as Nigeria.
However, employing a longer period of time and expanding the scope of research by studying non-financial enterprises will help to provide a more in-depth explanation, which could lead to more accurate findings, as no study in Nigeria has ever examined non-financial organizations, This is the gap that the current research aims to fill, by proxing audit quality with Audit Independence (AI), Audit Firm Size (AFS), Audit Fees (AF) and Audit Report Timeliness (ART)} while financial performance is proxy with Return on Assets (ROA) of manufacturing firms (firms listed on consumer goods sector) in Nigeria.
1.3 Research questions
For the purpose of this research study, the researcher will adopt the following research questions:
1. What is the relationship between Audit Independence (AI)and Return on Assets (ROA) of manufacturing firms in Nigeria?
2. To what extent does Audit Firm Size (AFS)influence the Return on Assets (ROA) of manufacturing firms in Nigeria?
3. What is the influence of Audit Fees (AF)on Return on Assets (ROA) of manufacturing firms in Nigeria?
4. What are the effects of Audit Report Timeliness (ART) on Return on Assets (ROA) of manufacturing firms in Nigeria?
1.4 Objectives of the study
The major purpose of this study will pursue is to ascertain the effect of audit quality on financial performance of manufacturing firms in Nigeria. The specific objectives that will guide the study will be to:
1. Ascertain the influence of Audit Independence (AI) on Return on Assets (ROA) of manufacturing firms in Nigeria.
2. Examine the effect of Audit Firm Size (AFS) on Return on Assets (ROA) of manufacturing firms in Nigeria.
3. Determine the effect of Audit Fees (AF) on Return on Assets (ROA) of manufacturing firms in Nigeria.
4. Investigate the effect Audit Report Timeliness (ART) on Return on Assets (ROA) of manufacturing firms in Nigeria.
1.5 Research hypotheses
In order to register the validity of the research finding, the following hypotheses will be subjected to tests.
H01: There is no significant effect of Audit Independence (AI) on Return on Assets (ROA) of manufacturing firms in Nigeria;
H02: There is no significant effect of Audit Firm Size (AFS) on Return on Assets (ROA) of firms in Nigeria;
H03: There is no significant effect of Audit Fees (AF) on Return on Assets (ROA) of firms in Nigeria;
H04: There is no significant effect of effective Audit Report Timeliness (ART) on Return on Assets (ROA) of firms in Nigeria.
1.6 Significances of the study
Firstly, this study will be of immense value to shareholders of companies, prospective investors, academics and other relevant stakeholders. It will also provide a platform for future researchers who intend to move the frontier of knowledge forward.
Secondly, this study will provides insight to investors on how to ensure that the management is running the company with globally acceptable principles to guarantee profitability of the business entity and to ensure the sustainability and competitiveness of the organization. Also, to give credibility to financial reports produced by the management. It will also serves as a monitoring tool by the shareholders to enhance the effectiveness and efficiency of the management team. Though the focus of the study is on publicly quoted companies as a result of their size and relevance to the growth of the economy but private companies can adopt the result of the study to drive the growth of their businesses into a big conglomerate.
Thirdly, this study will serves as reference point for academicians, scholars, researchers and studies, on the effect of audit quality and performance of listed manufacturing firms in Nigeria; since previous studies on the subject matter are mixed and inclusive.
Finally, the findings from this study will serves as essential materials and guides to the management of manufacturing firms in Nigeria on how audit quality of their financial statement will enhances their performance.
1.7 Scope of the study
This study will examine the effect of audit quality on financial performance of manufacturing firms in Nigeria for the period of 2012-2021(10years). There are over 274 manufacturing companies listed in the Nigeria stock exchange; due to the inability of the study to cover it all, the focus of this study will be the 28 consumer goods manufacturing firms listed in the Nigerian Stock Exchange. However, due to the difficulties in computing the ratios and time frame required to carry out this research, a sample of 15 firms will be been drawn for this study. The data for the study will be collected from the annual reports and accounts of the fifteen (15) consumer goods manufacturing firms on the basis of the independent variables [Audit Quality proxied with Audit Independence (AI), Audit Firm Size (AFS), Audit Fees (AF) and Audit Report Timeliness (ART)] while the independent variable [Financial Performance proxy with Return on Assets (ROA)].
1.9 Operational definition of terms
Audit quality: Audit quality is the probability that a given auditor will both (a) discover and (b) report a breach in the client accounting system, i.e., that the auditor has both the technical competence to detect material errors during the audit process and the independence to ensure that material errors and omissions are corrected or disclosed in the auditor's report (Okolie and Izedonmi, 2014).
Audit Independence: Means that an entity's financial statements are free of influence from parties with a vested interest in the results. The client company's Audit Committee's support and relationship, the contract and contractual reference to public accounting standards/codes generally provide independence from management, and the Public Accountant Profession's code of ethics) helps provide guidance on independence from suppliers, clients, and third parties (Egbunike and Abiahu, 2017).
Audit Firm Size: In the empirical literature, the size of the audit firm is regarded the most essential indicator for assessing the quality of the external audit. The Big 4 are widely regarded as producing higher-quality audits (Okolie, 2014).
Audit Fees: The amount of audit fees paid by a client firm to its audit firm represents the quantity of audit work that the latter must complete during the auditing process (Okolie, 2014).
Audit Report Timeliness: Inordinate audit lag, or the number of days between the end of the fiscal year and the issuance of the audit report, jeopardizes the quality of financial reporting by not giving timely information to investors (Okolie, 2014).
Firm Performance: Profit after tax, return on assets, return on equity, return on capital used, and other financial performance measures are used in this study (Rahimi, and Amini, 2015).
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