The effects of fee pressure and partner pressure on audit planning decisions

Abstract

Significant concerns have been voiced about the negative impact of competition on audit quality. Recent research suggests that auditors may reduce budgeted hours in response to fee pressure despite an increase in client risk (Houston, 1999). However, only one prior study Gramling, (1999) has considered the role of the auditor's superiors, who may encourage subordinates to increase audit efficiency, particularly in cases where audit revenues have been reduced McNair, (1991). Gramling focused on reliance on internal auditors rather than a generic program planning decision. Further, there is little empirical evidence on the program planning strategies pursued by auditors with respect to the nature of tests, and no prior evidence regarding staffing assignments in response to these pressures. In developing program plans auditors are accountable to multiple sources such as an immediate superior (e.g. a manager), the partner, the firm and, in a broader sense, to the public. Often these sources provide conflicting forces, which have been referred to by Gibbins and Newton (1994) as “complex accountability”. To investigate these issues, eighty-three auditors completed a case based on an actual audit client in which they were asked to perform program planning for the revenue cycle. Fee pressure and partner pressure were manipulated (present or absent) in a between-subjects design. There were three main findings. First, corroborating prior studies, auditors reduced total budgeted hours in response to fee pressure. Second, auditors reduced planned tests in response to partner pressure to improve audit efficiency. Third, there is evidence to suggest that in response to multiple competitive pressures auditors are more likely to reduce budgeted hours of more experienced staff. Specifically, auditors subject to both fee pressure and partner pressure may focus on reducing second year staff hours because greater efficiency gains (i.e. cost reductions) come from eliminating hours assigned to this more experienced personnel than first year staff. These results suggest that both fee pressure and partner pressure motivate auditors to improve audit efficiency. Moreover, fee pressure may be perceived by auditors, based on previous experience, as an implicit suggestion to improve audit efficiency. These findings suggest firms must be cautious in communicating audit fees to staff, and that the audit partner plays a key role in communicating ways to manage competitive pressures.