Jurnal Fikrah Jilid 8, Special Issue 1, 108-122, 2017

Available at : www.jurnalfikrah.org ISSN 1511-1113

© 2017 Pusat Pemikiran dan Kefahaman Islam (CITU)

108

Study of the Effect of Size, Rotation and Fee of

Auditing - On Audit Quality in Tehran Stock

Exchange

Allah Karam Salehi

Department of Accounting, Masjed-soleiman Branch, Islamic Azad University

Masjed-soleiman, Iran

Ahmad Kaab Omeir

Department of Accounting, Ahvaz Branch, Islamic Azad University Ahvaz, Iran

Habib Alah Rasooli

Department of Accounting, Abadan Branch, Islamic Azad University Abadan,

Iran

Mahdi Hashemian

Department of Accounting, Ahvaz Branch, Islamic Azad University Ahvaz, Iran

ABSTRACT

Considering situation and role of auditing report and financial statements in

making decision by users, the quality of work of audit office is taken for as key

factors in preparing audit report. For this reason, different solutions have been

presented by professional authorities and experts to increase quality of work and

maintain independency of audit office, those, orderly evolution of audit office and

charge of auditing are their recommending suggestions by them, so the purpose

of this study is investigating the effect of value, evolution and charge of auditing

on quality of auditing in Tehran stock exchange in period during 2009-2013.

Considering limitations of this study, a sample including 49 firms is chosen.

Theories of this study had been tested by data panel regression by software named

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901

Eviews. Results show that of value and charge of audit office have a positive and

significant effect on quality of auditing; but evolution of audit office doesn’t have

a significant effect on quality of auditing .

Keywords: quality of auditing, audit office size, evolution of audit office, charge

of auditing.

Issue statement

The conflict of interests would be created between managers and stakeholders by

separating ownership and management in stock companies. Since this conflict of

interests would be with coincidence of information, prepared reports should be

auditing by independent and qualification persons by management to decreasing

costs of agency. In simple terms, there should be some other person or persons

(including juridical or nature persons) except information suppliers and

information users to improve the assurance in financial statements. These days by

increasing number of audit office, the competition also have been increased

between them. Users of these financial statements to make appropriate and helpful

decision are the client of this market. In every competing market surmounting

requirement information users, those are the correct and reliable financial

statements, are in priority. Financial statements are correct and reliable when are

audited and the audited that is done have requirement quality. Bankruptcy of some

firms like Enron, Worldcom, Parmalat and bankruptcy of some large banks in

recent like Lehman brothers, Northern rock and … caused pointing accusing

fingers at accounting and financial reporting specially accountants. In this case

necessities of audit offices to changing the employers in predicts was concerned

as a solution to maintain independency. Because most of them specially

legislators believed that long relation between accountant and employer would

decrease supervisory power of auditor and quality of auditing. After these events

legislators and formulators of accounting standards have tried to in formulating

some rules to improve auditor independency and audit quality. Meanwhile we can

note approval the rule of Sabnes Oxley. In a part of this rule obligates audit offices

to change their mangers and partners after working auditing in 5 years

successively for an employer. This rule also like other rules had its proponents

and opponents. Proponents with obligatory changing the auditor believe that

auditors after working with an employer for a long time have more incentive to

keep employer and accepting his prospects and desires because of economic

dependences that this is the case that distort the independency. They believe that

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long time being in charge would cause some sort of emotional relation to the

extent that make some kinds of fealty and loyalty feelings in auditors and thus put

their independency in dangerous. Opponents of obligatory changing maybe

approve this prospect but they believe cost of accomplishing and dispensing this

rule is more than its profits. On the other hand, they argued that there some

another factors like requirement to keep their reliability and honor and fear of sue

against them that make auditors to keep their independency. In this case

necessities of audit offices to changing the employers in predicts was concerned

as a solution to maintain independency. Because most of them specially

legislators believed that long relation between accountant and employer would

decrease supervisory power of auditor and quality of auditing. Quality of auditing

shows the ability and efficiency of an auditor and shows that this auditor has

quality in his audit but audit quality shows the qualitative of every audit project.

Existence of clear and reliable financial information that is from an appropriate

and comprehensive reporting system, is one of the pillars of evaluating

performance statue of a firm and making decision about published interchanging

stock exchange from that system. In professional societies of these days, from

user’s prospects, information is reliable when an independent organization

administers reporting process of firms and gravity center of these process i.e.

financial statements. Audit offices are a sample of these kinds of independent

organizations that mostly in business units administer and consider structure of

internal control of reporting unit and final output of this internal control system

means financial statements. Based on what have been noted this study investigate

the effect of audit evolution and cost of audit offices on audit quality. Indeed, this

study is an answer to this question that, do audit evolution and costs of audit

offices have effect on audit quality?

Literature and history of study

Audit quality

Up to now, various tries have been accomplished for definition of quality in

auditing, yet none of them cause an acceptable definition or being accepted by

professional congresses and accountant communities or recognition by

international community. Because quality in fact it’s not a one sided concept but

is an extent and polyhedral concept and different factors either directional and in

directional effects on audit quality. In pervious researches, different definitions

are stated about audit quality that some of important ones are noted:

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De Angelo (1981), defined audit quality contains two probabilities: first auditor

find accounting system errors and in second step reports them. Finding errors

evaluating audit quality in form of auditor knowledge and ability, while reporting

them depends on audit incentive to expose (Arab Salehi, et.al,1930; 127-147).

Palmrose(1988) defined auditing in form of value of accreditation, because

financial statement accreditation is the purpose of audit. Thus, audit quality is the

probability of lack of important incorrect statements in financial statements

(Aghaee and Ardakani, 2012; 4-17).

Seize of audit office

From auditor’s perspective, Seize of audit office is one of the particularities that

effects on audit quality. De Angelo (1981) believes that larger audit offices would

represent more qualified audit services, because they’re interested in being well

known in market and due to they have a lot of clients, they’re not worry about

losing them. Assumption is that such offices represent more qualified audit

services because of their accession to sources and having more facilities for

training their auditors and taking different examinations (Mojtahed zadeh and

Aghaee, 2004; 53-76).

Auditor evolution

Attendance of auditor with employer for a long time causes some kind of

tendency to maintain and observe opinion of employer, the situation that would

tarnish his independency and disinterest (Rajabi, 2006; 53-62). Being in charge

for a long time with personnel of audit office and employer would lead to more

familiarization between them and would entail increasing concerning about

auditors independency. There are two mechanisms for this concern. On the one

hand, changing auditor leads to decrease trust of investors to financial statement

reliability, and thus audit credit would decrease, on the other hand, costs of

auditing would be increased either for auditor or employer. Concerning history,

there are two basic points about obligatory changing auditors:

A) Being in charge for a long time for auditor may lead to auditing faintness or

tarnish auditor independency in term time.

B) New auditor may have new perspective about potential evolution. While most

of the initial studies have emphasized on the first point, a few empirical study

examine next point directly (Rahimian and Jan Fada, 2014; 39-64).

Charge of audit

Audit economic profits supply of fees that is from contract with employer.

Auditors use different factors for pricing audit services. Base of determination fee

audit is period of auditors operations that is count based on work progressing.

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991

Rate of fee for an hour for every auditor based on their skill and experience and

thus their responsibility is different. Given research, auditing fees contain charge

of direct work hours, other direct costs (like costs of outdoor missions and going

and returning traffic), assignable handicap would be estimate totally (Mousavi

and Darogheh Hazrati, 2011; 173-141). In economic literature, size of audit

offices and offices dignity may effect on audit fee and office quality (Vaez et al.,

2013; 92-114).

History of study

Rahimian and Jan Fada (2014) studied the effect of obligatory and voluntary

changing audit offices on quality of auditing reports of accepted companies in

Tehran stock exchange. In this research, financial information of accepted

companies in Tehran stock exchange has been studied that had obligatory and

voluntary changing. This research has investigated 330 accepted companies in

Tehran stock exchange in period during 2006- 2012. Results showed that

obligatory and voluntary changing audit offices have no effect on audit quality.

Vaez et al. (2014) investigated the effect of audit quality on auditing fee. In this

research audit office size, auditor proficiency in industry and audit selection

continues are considered as audit quality factors. For this purpose, data related to

72 accepted companies in stock exchange have been investigated in period during

2007-2011. Findings showed that there is negative and significant relation

between audit offices proficiency and auditing fee. And also audit selection

continues and audit office size has positive and significant relation with auditing

fee. Kraub et al. (2015) worked on relation between unusual pricing of audit fee

and audit quality. They used a sample contains 2334 companies during 2005-

2010. Results showed audit manual costs have negative relation with audit

quality. Ilaboya and Okoye (2015) worked on examination relation between audit

office size, none audit services and audit quality. Their statistical society was

containing accepted commercial banks in Nigeria stock exchange and for this

purpose 200questionnaires were distributed to responders. Results showed that

there is positive and significant relation between audit office size, none audit

services. Audit term time and independency auditing have positive relation but

doesn’t have significant relation to each other's. And also there is negative relation

between audit costs and audit quality. Eventually, they found that audit office size

leads to increasing quality audit.

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Research methodology

Type of this research based on purpose is operational and based on nature and

method is type of correlation. Toward gathering information related to research

data and variables, firms financial statements and also from information banks

Tadbir pardaz, Rah avard Novin and Kedal and also websites belongs to stock

exchange organization have been used. Analyzing data of this research and

examine theories is accomplished by Excel and Eviews software. Thus that

gathered information by data bases, first classified in Excel software then

transferred to Eviews software in order to be examined by statistical tests.

Statistical society in this research was accepted commercial banks in Tehran stock

exchange from early 2009 until late 2013 for 5years. To achieve reliable results,

companies those entered to the stock exchange after2009 and those exited during

research period have not been in statistical sample. Moreover, to achieve

appropriate statistical sample systematical removal method is used. So, statistical

sample is adjusted by below situations and limitations:

1- Sample doesn’t contain financial supplier, investor or insurance companies.

2- Sample companies should be part of stock exchange entire period of

examination.

3- Sample companies should have fiscal year to the end of Esfand29th.

4- Research variables data should be available for considering companies.

5- Sample companies have been audited and audit shouldn’t be rejected.

Considering above limitations 49 Sample companies gained.

Research theories

1. There is significant relation between audit office and quality audit.

2. There is significant relation between changing auditor and audit quality.

3. There is significant relation between audit yearly fee and audit quality.

Variables and model of research

The dependent variable

The dependent variable in this research is quality audit that in this research for

evaluating quality audit of selected companies, extended model from Kotari et el.

(2005) is used that is taken from Jones performance model, which this model

would be calculated as below:

𝑇𝐴𝑖𝑡 = 𝛼0 + 𝛼1(∆𝑆𝑎𝑙𝑒𝑠𝑖𝑡 − ∆𝐴𝑅𝑖,𝑡) + 𝛼𝑃𝑃𝐸𝑖,𝑡 + 𝛼3𝑅𝑜𝑎𝑖,𝑡 + 𝜀𝑖,𝑡

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𝑇𝐴𝑖= Total accruals that is equal with net profit minus operating net cash flow in

year ,t, for company i

∆𝑆𝑎𝑙𝑒𝑠𝑖𝑡= (sales changes) sales of this year minus sales of last year in year t and

for company i

∆𝐴𝑅𝑖,𝑡= (changes in receivable accounts) receivable accounts of this year minus

last year receivable accounts in year t for company i

𝑃𝑃𝐸𝑖,𝑡= gross value of properties, machines and equipment ( those are

standardized by last year total assets) in year t for company i

𝑅𝑜𝑎𝑖,𝑡= efficiency of this year assets in year t for company i

𝜀𝑖,𝑡= Random error

Independent variables

1. Size that is Dummy variable that way if audit office is audit organization,

number is 1, otherwise is equal with zero.

2. Length of term audit contract is Ternur that if audit office be selected again

number is one, otherwise is equal with zero.

3. Yearly audit office is Fee that is equal with natural logarithm of total audit fee.

Control variables

1. Total assets (TA) that is calculated by natural logarithm of firm total assets as

a firm size.

2. Age of audit office (age) that is extractable base on history of audit office.

In order to exanimate the relation between researches variables, data panel

regression is used which model of research is as below:

𝐴𝑄 = 𝛼 + 𝛽1𝑆𝑖𝑧𝑒 + 𝛽2𝑇𝑒𝑟𝑛𝑢𝑟 + 𝛽3𝐹𝑒𝑒 + 𝛽4𝑇𝐴 + 𝛽5𝐴𝑔𝑒 + 𝜖(1)

AQ: Audit quality

Size: Audit office size

Ternur: changing auditor

Fee: Auditor fee

TA: Total assets

Age: Audit office age

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Research results

Descriptive statistics

Table 1: Descriptive statistics Average Medial Maximum Minimum Standard deviation Extension Skidding

Age 19.15 19 42 2 9.40 -0.016 1.747

AQ -77.11 3658.22 1734786 -2765178 250021.6 -4.039 71.89

Fee 2.69 2.54 3.19 2.300 0.31 0.447 1.856

Size 0.24 0 1 0 0.43 1.160 2.347

TA 947360.2 533540 11545895 22725 1501952 4.350 24.90

Ternur 0.816 1 1 0 0.38 -1.633 3.669

According to above table the most Standard deviation belongs to total assets and

less belongs to auditor fee. And also the most extension and skidding respectively

are belongs to total assets and Audit quality and the less ones are belongs to audit

office age.

Being normal test of waste sentences

One of the theories that is exanimated in the regression method is being normal

distribution remaining estimates. In this research, we used Jarque-Bera test to

exanimate remains for being normal. Below diagram represent waste remaining

Histogram test and statistic Jarque-Bera for being normal, and some simple

descriptive statistics of waste sentences.

H0= remains are normal

H1= remains aren’t normal

Diagram 1: Jarque-Bera

Since significant level of Jarque-Bera test is more than 0.05, so result would be

assumed as 0 and remains are normal.

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Stability test

In usual methods of econometric doing every estimate is limited to making sure

about variables stability. In this research, we used Levin, Lin and Chaw test.

Theories of H0 and H1 are as below:

H0= variable is not stable

H1= variable is stable

Table 2: Variables stability test Variable Type of test Statistic 1 Significant level Result

Audit office age

Level 04.2772 0.9999 Unstable

First time difference 5.975.9 0.9999 Unstable

Second time difference ..09274- 0.0000 Second time

difference stability

Audit quality Level 9.49.25- 0.0000 Stability in level

Fee audit Level 09.29.9- 0.0000 Stability in level

Audit office size Level 2.59.54- 0.2697 Unstable

First time difference 7.92470- 0.0000 First time difference stability

Total assets Level 9.0.909 0.8909 Unstable

First time difference 9.59042- 0.0254 First time

difference stability

Changing auditor Level 7.29.9.- 0.0000 Stability in level

Since value of significant level for variables of audit quality, audit fee and audit

rotation is obtained less than 0.05, so theory of zero would be rejected and above

variables are in stable level; but variables of auditor age, auditor size and total

assets weren’t stable in all data of levels and stability test had been repeated for

them by differences which eventually audit office age variable with second time

difference and auditor size and total assets with first time difference have been

stable.

Heterogeneity variance

One of the most important issues we face with in econometric is Heterogeneity

variance. Heterogeneity variance means in estimation of regression model values

of errors sentences are unequal variance. When the data panel test is using,

expression ratio test can be used. Assumption of H0 and H1 in test is as below:

H0=No Heterogeneity variance

H1= present of Heterogeneity variance

Table 3: Heterogeneity variance test Heterogeneity variance test Result Significant level Statistic

970.0. 0.0000 Present of Heterogeneity

variance

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Considering value of significant level obtained less than 0.005, so theory of zero

would be rejected and considered model contains heterogeneity variance. In this

case, generalized panel should be used.

Multiple linear test

Before doing multiple linear regression tests, considering that number of

independent variables are a lot, it should be make sure that independent variables

don’t have any effect on each other. If this relation be between independent

variables, regression model that contains multiple linear and its result are not

reliable, because calculated beta coefficient would be contains diagonal; and it

may be have high credit by having high R2. For this purpose, Pearson correlation

test has been used, if the correlation coefficient be less than 0.5 it shows lack of

coincidence between variables. If the correlation coefficient be between 0.5 and

0.8 it shows incomplete linearity and finally if the correlation coefficient be more

than 0.8 it shows the complete linearity and should try to appease it.

Table 4: Result of multiple linear test Audit firm age Auditor fee Audit office size Total assets

Audit office age 1

Auditor fee 0.026956 1

Audit office size 0.493682 -0.01334 1

Total assets 0.161401 0.074986 0.278976 1

Auditor rotation 0.09452 0.150439 0.126857 0.056779

As it can be seen in above table, correlation coefficient between independent

variables is so weak. So there is no problem of linear between independent

variables.

Limer F test

For selecting heterogeneity of units, Limer F can be useful. If heterogeneity of

units be approved, pattern would be estimate by panel data, otherwise would be

estimate by usual OSL method.

Assumption of H0 and H1 in test is as below:

H0= using ordinary least squares method

H1= using data panel

Table 5: Result of Limer F test Limer F test Statistic Significant level

1.854238 0.0056

Result of table suggests rejection of zero assumption and existence of none

harmonic sections and suggests that panel data method is appropriate.

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Hausman test

After approving that there is none harmonic in sections and individual differences

are considerable, and combined data method is suitable for estimating, it should

be determined that estimate error is because of changing in sections or it happens

during the time. In the way of considering such errors we face two steady effect

and random effect. For determining steady effect and random effect Huasman

Test is used. Assumption of H0 and H1 in test is as below:

H0= Existence of random effect

H1= Existence of steady effect

Table 6: Result of Haunsman test Haunsman test statistic Significant level Result

5.176167 0.3948 random effects

Result of Huansman test above shows that value of significant level is more than

0.05, so assumption of zero about suitably of random effects can be accepted. So

in assurance of 95 percent random effects model is priority.

Since above items are determined, now regression panel data can be used.

Table 7: Regression Independent variables Regression

coefficient

Statistic t Significant level Result

Audit age AG 0.007452 0.128905 0.8976 None significant

Auditor fee FEE 0.128113 4.037855 0.0001 significant

Audit office size SIZE 0.653237 2.348278 0.0202 significant

Total assets TA 0.595123 2.249093 0.0261 significant

Auditor rotation TERNUR -0.209659 1.298109 0.1964 None significant

Constant C 0.320816 2.039148 0.0433 significant

Coefficient of determination 0.164685 Statistic F 5.559727

Adjusted Coefficient of determination 0.135064 Significant level F

0.000 Watson camera statistics 1.909406

* Independent variables: Audit quality

Analyzing table: to decide about being significant or none significant of the

effect of every independent variable on dependent variables would be judge base

on significant level. When significant level is less than 0.05 it can be concluded

that considering independent variable doesn’t have any significant effect on

dependent variable. Base on above table, the effect of variables fee auditor, audit

office size and total assets on audit quality is significant. Considering the

regression coefficient it can be said that fee auditor, audit office size and total

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991

assets have a positive effect on audit quality; but audit office age and auditor don’t

have a significant effect on audit quality.

Considering above table, value of Watson camera statistic indicates on lack of

problem of self-solidarity. Base on statistic F probability, generally regression

equation is significant. Adjusted determination coefficient of model is 0.135 that

shows 13.5 percent of dependent variable changes are according to independent

variable changes and rest of the dependent variable changes are caused by another

factor changes those are ignored here.

Checking research theories

* First theory: there is a significant relation between audit office size and audit

quality.

According to table (7) audit office size has significant effect on audit quality;

because significant level between them is less than 0.05. So it can be said that in

assurance level 95 percent audit office size has a significant effect on audit

quality. Since regression coefficient between them is positive, the effect of audit

office size on audit quality is positive. It means if audit office size is more and

more audit quality would be more and more.

* Second theory: there is a significant relation between auditor rotation and audit

quality.

According to table (7) auditor rotation doesn’t have a significant effect on audit

quality; because significant level between them is more than 0.05. So it can be

said that on assurance level 95 percent auditor rotation doesn’t have significant

effect on audit quality.

* Third theory: there is a significant relation between annual auditor fee and

audit quality.

According to the table (7) annual auditor fee has a significant effect on audit

quality; significant level between them is less than 0.05. So it can be said that on

assurance level 95 percent annual auditor fee has significant effect on audit

quality. Since regression coefficient between them is positive, the effect of annual

auditor fee on audit quality is positive, it means when annual auditor fee is a lot,

audit quality would be more.

Discussion

According to the obtained results audit office size has significant effect on audit

quality; because significant level between them is less than 0.05. So it can be said

that in assurance level 95 percent audit office size has a significant effect on audit

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quality. Since regression coefficient between them is positive, the effect of audit

office size on audit quality is positive. It means if audit office size is more and

more audit quality would be more and more. In auditor’s perspectives, larger audit

offices represent more qualified audit services; because they are more interested

in achieving a better dignity in market; because such offices represented more

qualified services because they have accession to more recourse and facilities for

training their auditors and taking difference tests. Indeed from auditor’s

perspectives audit size is one of features that have effect on audit quality. In Iran

also audit office is considered as large and credit establishment, thus audited firms

by audit offices are considered as firms that their financial statements items have

high credit and eventually have more qualified audit. Result of this theory are

correspond with researches by Ilaboya And Okoye (2015), Guo & Lai-lan Mo

(2014), Suprapto and Suwardi (2013), and they are not correspond with Nagy

(2005). Result of second theory showed that auditor rotation doesn’t have a

significant effect on audit quality; because significant level between them is more

than 0.05. So it can be said that on assurance level 95 percent auditor rotation

doesn’t have significant effect on audit quality. Rotation of auditor has its

proponents and opponents that all of them have reasons. Proponents believe that

auditors after working with an employer for a long time have more incentive to

keep employer and accepting his prospects and desires, the situation that distort

the independency. Being in charge for long time between auditors and employer

leads to their more familiarity and increasing concerning about auditor

independency. Opponents believe that auditors after a while achieve more

knowledge and experience and thus their ability in being appropriate or not about

auditing and reporting methods would be increased; so long relation between

auditor and employers may improve the quality of audit. They believe by

changing auditors , investors trust in reliability of financial statements would be

decreased and so credit of audit would decrease too, and on the other hand, audit

costs for auditors and employers would increase. As it said in this research,

auditor rotation had not significant effect on quality audit; so rotation or not

rotation can’t have a significant effect on audit quality. Results of this theory is

correspond with internal and external researches by Rahimian and Jan Fada

(2014), Hasas Yeganeh and Jafari (2010), Suprapto and Suwardi (2013), and they

are not correspond with researches by Imeokparia (2014), Onwuchekwa et el.

(2012), Arrunada and Paz-Ares (2004), Carcello and Nagy (2004). Result of third

theory showed that annual auditor fee has a significant effect on audit quality;

significant level between them is less than 0.05. So it can be said that on assurance

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level 95 percent annual auditor fee has significant effect on audit quality. Since

regression coefficient between them is positive, the effect of annual auditor fee

on audit quality is positive, it means when annual auditor fee is a lot, audit quality

would be more. Paid costs to auditors can have effect on audit quality in two ways;

paying high fees can increase auditor effort, so quality of audit would increase.

Another way, paying high fees to auditors, especially about not auditing services,

would make them dependent to their clients in economic part. Paying high fees

can be paid by audit offices to supply all costs of audit process and extending

auditing ways, but generally there are difference evidences about the relation

between fee and audit quality. Some researchers believe that paying high fee to

auditors is a kind encouragement them to make more effort in auditing. On the

other hand, paying high fee may lead to more dependency between auditor and

client and make auditor not to have tendency to expose; but result of this research

shows that paying more fee make auditors encourage to make more effort in

auditing and so it leads to increasing audit quality. Results of this theory are

corresponding with researches by Suprapto and Suwardi (2013), Choi et el.

(2010), Yu (2007). According to the results of search below suggestions are

represented:

1. According to the obtained results of this research, audit office rotation has not

effect on audit quality; means having along relation with auditors or not doesn’t

have any effects on audit quality; so it is suggested to firms, investors and users

of this research not to attend on changing auditors as an effective factor on audit

quality and if they are looking for increasing quality look for another factors.

2. According to obtained results from this research audit office size has positive

effect on audit quality; it is suggested to select larger establishments; because

these establishments are interested in keeping their dignity in market and have

more accession to recourse and facilities they present more qualified audit

services. 3. According to the obtained results of this research auditor fee has a

positive effect on audit quality; so it is suggested to stock firms and users of this

research pay the fees on the suitable level; because if fee be suitable increase

auditors efforts and also leads to improving auditing process and extending

auditing methods that lease to high qualified auditing.

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