Abstract
Article history: Received March20, 2014 Accepted 10September2014 Available online September202014 This paper presents an empirical investigation to study the effect of real earnings management on audit fees in selected firms from Tehran Stock Exchange. The study gathers the necessary information from selected stocks listed in Tehran Stock Exchange. The proposed study uses the information of 63 firms over a four-year period from 2009 to 2012, which leaves us to have 252 data. Using some regression study, The study has confirmed real earnings management influences positively on audit fees in general. In addition, while real earnings management through an increase in sales does not influence on audit fees, the survey has concluded that real earnings management through increase in production costs as well as decrease in discretionary expenditures influences positively on audit fees. © 2014 Growing Science Ltd. All rights reserved. Real earnings management Accrual-based earnings management Audit fees
Highlights
During the past few decades, there have been tremendous efforts on learning the effects of audit fees on profitability of firms (Fama & French, 1997; Fama & MacBeth, 1973; Dechow et al, 1995; Dechow & Dichev, 2002). Simunic (1980) identified determinants of audit fees and categorized them into three distinct groups: auditee size, operation complexity, and inherent audit risk
He reported that the level of audit fees could increase in client firms’ size, operation complexity, and inherent audit risk because more quantity of resources utilized by the auditor in performing the audit examination would be needed and auditors were exposed to larger possible litigation risks when auditing become more complex
Because auditors know that litigation risk increases due to adding real earnings management (REM) to accrual-based earnings management (AEM), they have incentives to be ex ante compensated for this increased litigation risk through higher audit fees
Summary
During the past few decades, there have been tremendous efforts on learning the effects of audit fees on profitability of firms (Fama & French, 1997; Fama & MacBeth, 1973; Dechow et al, 1995; Dechow & Dichev, 2002). Simunic (1980) identified determinants of audit fees and categorized them into three distinct groups: auditee size, operation complexity, and inherent audit risk. In the process of verifying their client firms’ compliance with accounting standards and detecting AEM, auditors require to put more resources to the firms with more extensive REM It is because the reported earnings are more “contaminated” by different real operation manipulation activities and because the impacts of AEM and REM get entangled in distorting reported earnings. Because auditors know that litigation risk increases due to adding REM to AEM, they have incentives to be ex ante compensated for this increased litigation risk through higher audit fees Consistent with this argument, Kim and Park (2009) documented that auditors care about REM in client change. It is an empirical question whether REM is positively related to the level of audit fees, especially after controlling for the effects of other audit fee determinants and AEM
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