The contagion effect of decreasing audit's quality on financial statement audit engagement: the Indonesian case

Abstract

PurposeThe main objective on this research is providing evidence of the contagion effect of decreasing audit's quality. Audit failure affects the quality of the financial analysis that has been carried out and has a big impact on the accuracy of decision making due to the material information bias. Findings of this research will urge the Public Accounting Firm (PAF) to design a quality control of the audit services. This action is taken with the consideration of maintaining the quality of audit services and the reputation of auditors.Design/methodology/approachUtilizing manufacturing data listed on Bursa Efek Indonesia (BEI), the researchers developed a model to explain the audit failure which is seen from restatement of financial statement in the subsequent period.FindingsThis research indicates that audit failure to detect the misstatement will decrease the audit's quality of other companies audited by the same auditor. There is also an insight that contagion effect of decreasing auditor quality was stronger for non-big four and non-industry specialist auditors.Research limitations/implicationsAudit failure still has the potential to occur. There is the potential that a failure in an audit of a particular client entity has an impact on defects of other clients served. If this allegation is proven, there are big challenges faced by the public accounting profession and PAF to pay special attention in order to maintain the professional reputation.Practical implicationsProfessional body and government need to develop a robust standard and operating procedures as well as quality control on audit engagement.Originality/valueDue to the intention of fraud occurred in Indonesia, namely SNP Finance and Garuda Indonesia case. It is important to learn from that cases. This research gives fruitful insights to prevent the same case in the future.