The Effect of Board Links, Audit Partner Tenure, and Related Party Transactions on Misstatements: Evidence from Chile

Berta Silva Palavecinos,Hanns De La Fuente-Mella,Sakthi Mahenthiran

doi:10.3390/ijfs8040078

Abstract

Companies restate when material misstatements are identified in previously issued financial statements. Misstatement research in Latin America is sparse, even though they are an important context to study this phenomenon. Chile’s corporate governance regulations are considered exemplars for Latin American countries but its auditing profession is not well developed. Thus, Chile provides an interesting context to study the complementary roles of audit and board governance affecting misstatements. Using a sample of 104 Chilean listed firms over seven years, our study finds that the board links and audit partner tenure negatively affect misstatements. Specifically, given the prevalence of related party transactions (RPTs) in conglomerates, the finding suggests that cross directors monitor high-value RPTs, but that this is not a substitute for auditor expertise. The findings raise questions about the advisability of mandating audit partner rotation to strengthen auditor independence because the results indicate that a short audit partner tenure leads to the auditor not developing client-specific knowledge. The study makes contributions to the corporate governance literature by highlighting that board monitoring is not a good substitute for auditor monitoring of financial reporting integrity, and suggesting the need for having licensing requirements to become an auditor.

Highlights

Chile’s capital market and corporate governance regulations are considered exemplars for Latin American countries (OECD 2003; Gjerde et al 2013)
The correlation between the size of excess dividends and the use of private debt is positive, but the relationship between the size of excess dividends and the use of public debt is negative. These Chilean governance studies suggest that the independent board of directors and outside creditors play important monitoring roles, but the role of the external auditors monitoring the financial reporting integrity is relatively unexplored in Latin American (LA) countries
This result is consistent with findings of Ball et al (2015) and Gul et al (2017), which have shown that a longer audit partner tenure with a client is positively associated with higher audit quality that is unlikely in Chile’s audit environment because the median partner tenure is only 2 years

Summary

Introduction

Chile’s capital market and corporate governance regulations are considered exemplars for Latin American countries (OECD 2003; Gjerde et al 2013). The correlation between the size of excess dividends and the use of private debt is positive, but the relationship between the size of excess dividends and the use of public debt is negative. These Chilean governance studies suggest that the independent board of directors and outside creditors play important monitoring roles, but the role of the external auditors monitoring the financial reporting integrity is relatively unexplored in Latin American (LA) countries. The partner rotation requirements must balance the need to achieve a fresh look of financial reporting and auditor independence against the need for an audit engagement team to obtain the necessary experience to do their job effectively

Methods

Results

Discussion

Conclusion