Do critical audit matters signal higher quality of audited financial information? Evidence from asset impairment

Abstract

ABSTRACTChinese auditing standards mandate the disclosure of critical audit matters (CAMs) in audit reports for all listed companies since 2017. Risk-oriented auditing requires auditors to assess material misstatement risks and provide reasonable assurance on financial statements that should reflect the firm’s underlying economics, regardless whether a CAM is disclosed. However, given a material misstatement risk, if some auditors effectively identify it as a CAM while others do not, the financial information with a CAM would exhibit higher quality than that without a CAM, leading to a positive association between CAM disclosure and the audited information quality. Using asset impairment-related CAMs, we show the relation between asset impairment and worsened economics is notably stronger for companies with an impairment-related CAM than those without any. Further, this association is more pronounced in smaller audit firms. Our findings reveal inadequate implementation of risk-oriented auditing, particularly in audit firms with greater resource constraints.