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Audit Partner Gender, Leadership and Ethics: The Case of Earnings Management

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Abstract

Our study examines whether gender-diverse engagement partners constrain unethical earnings management behavior in a French mandatory joint audit setting. The investigation of the joint audit setting, by raising concerns about audit team organization and management, provides new insights into how gender-diverse audit partners contribute to the effectiveness of audit decision-making, resulting in reduced earnings management. The need for effective collaboration and communication between joint auditors may foster a transformational leadership style on the part of audit engagement partners. In this regard, we argue that better interaction between male and female lead audit partners confers a comparative advantage on gender-diverse audit partners compared to all-male audit partners. In line with our expectation, our empirical results show that gender-diverse audit partners are negatively associated with discretionary accruals of client firms. Gender-diverse audit partners are also found to constrain earnings management irrespective of whether clients hire one or two brand-name audit firms. Finally, we find that the pervasiveness of earnings management declines when client firms switch from all-male audit partners to gender-diverse audit partners. Our findings underline the importance of considering audit partner gender by policy makers in contexts where joint audits are required or in countries that are considering introducing joint audits.

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Notes

  1. The literature proposes several incentives that might induce managers to manipulate earnings, such as decreasing the cost of transactions with stakeholders (Burgstahler and Dichev 1997), enhancing the amount of managers’ equity-based compensation (Bergstresser and Philippon 2006), or, in other circumstances, decreasing the firm’s value prior to management buyouts (Perry and Williams 1994).

  2. Apart from bankruptcy cases, there are several negative consequences of earnings management, such as the loss of corporate reputation (Rodriguez-Ariza et al. 2016), an increase in social desirability bias (Johnson et al. 2011), inefficient resource allocation resulting in suboptimal investment decisions (McNichols and Stubben 2008), and the erosion of investor confidence in capital markets (Jain and Rezaee 2006).

  3. The European Union 8th Directive obliged audit firms to disclose the identity of audit partners responsible for the engagement in 2006. In the UK, the Financial Reporting Council (FRC) also imposed a similar requirement in 2008. More recently, in the USA, the Public Company Accounting Oversight Board (PCAOB) rule 3211 became effective from January 31, 2017 requiring the disclosure of the identity of audit partners.

  4. https://pcaobus.org//News/Speech/Pages/03132014_Washington_Women.aspx.

  5. We start our sample period from 2002 because the data pertaining to various variables used in our study are not available prior to then.

  6. Laurion et al. (2017) use both Google and LinkedIn, as valuable professional-oriented social networks, to investigate audit partner rotation among US publicly listed firms. We also examined the accuracy of data provided by LinkedIn by cross-checking with information gathered on audit partners in the official CNCC website (http://annuaire.cncc.fr). No significant difference was observed between the two sources.

  7. In a joint audit setting, the composition of the joint audit engagement partners may be two male, two female, or one male and one female. However, we eliminated the case where both engagement partners are female because there were very few observations of such instances (only 25 firm-year observations) and we restrict our analysis to comparison of male–female joint engagement partner pairs (hereafter gender-diverse engagement partners) and all-male engagement partner pairs. Specifically, we examine whether gender-diverse engagement partners constrain excessive earnings management compared to all-male engagement partners.

  8. An increasing number of studies in the accounting and corporate governance literature use GMM estimation to examine various issues relating to quality of financial information, firm performance, earnings management and investors’ protection (e.g., Bennouri et al. 2015; Gull et al. 2018; Kang and Sivaramakrishnan 1995).

  9. We exclude firm-years audited by two non-Big audit firms due to the smaller number of observations.

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Authors and Affiliations

  1. Le Mans Université (ARGUMANS), Avenue Olivier Messiaen, 72085, Le Mans, France

    Mehdi Nekhili & Fahim Javed

  2. Emlyon Business School, 23 Avenue Guy de Collongue, 69130, Écully, France

    Haithem Nagati

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  1. Mehdi Nekhili
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  2. Fahim Javed
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  3. Haithem Nagati
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Correspondence to Mehdi Nekhili.

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Nekhili, M., Javed, F. & Nagati, H. Audit Partner Gender, Leadership and Ethics: The Case of Earnings Management. J Bus Ethics 177, 233–260 (2022). https://doi.org/10.1007/s10551-021-04757-9

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