The influence of the auditor's report on investors' evaluations after the Sarbanes‐Oxley Act

Abstract

PurposeThis research study aims to examine how differences in opinions on the material weaknesses identified in the auditor's assessment of the financial statements, and the auditor's assessment of internal control affect investment analysts' assessment of the financial strength of the company and willingness to recommend the stock for purchase to clients. It also aims to examine how the auditor's opinion on management's assessment of internal control affects investment analysts' assessment, providing additional evidence of the appropriateness of the elimination of this requirement under Auditing Standard No. 5.Design/methodology/approachThe paper examines these research questions using data from a laboratory experiment with investment analysts as participants in the study.FindingsThe findings indicate that adverse audit opinions on the effectiveness of internal control result in investment analysts making a higher assessment of company risk, a lower assessment of the strength of internal control over financial reporting, and a marginally significant difference in the likelihood of recommending stock to their client.Research limitations/implicationsThese findings provide evidence that auditors' assessment of internal control risk provides information to investment analysts.Originality/valueThis study contributes to the literature by examining the implications of Section 404 of the Sarbanes‐Oxley Act on the judgment of users of financial statements.