Literature Review: Audit Reports Influence on Financial Reporting

This literature review investigates the effect of audit reports on the quality of financial reporting, particularly in the Australian context. It addresses the research question of the association between audit quality and financial reporting quality, considering the backdrop of global financial crises and corporate scandals. The review delves into the components of financial reporting quality, including relevance, reliability, comparability, understandability, timeliness, and faithful representation. It examines how auditing, defined as an independent verification process, enhances the reliability and usefulness of financial statements. The review also discusses different categories of audits and processes for fraud detection, emphasizing the role of auditors in verifying accounts, detecting errors, and preventing fraud, ultimately aiming to improve the overall reliability of financial reporting.

Running head: ACCOUNTING RESEARCH
Accounting Research
University Name
Student Name
Authors’ Note

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Topic of Research
Effect of audit reports on Annual financial reporting quality of an organisation
Introduction
This research was undertaken in order to assess the influence of audit quality on financial
reporting in Australia. The study intended to examine, investigate and ascertain the
interaction between quality of audit and corporate financial reporting in Australia. Therefore,
the study can be considered to be a movement towards enhancement of the quality of audit
exercises in Australia.
Aim and objective of the study
The aim of the research study is to augment quality of audit and overall reliability of financial
reporting. Particularly, this study intends to
- Examine the relationship between audit quality in association to financial reporting quality
of business concerns in Australia
Research Question
1) What is the nature of association between audit quality and overall quality of financial
reporting in Australia?
Research Problem
The global financial crises, various failures of corporate and financial scandals worldwide
raise doubts and questions regarding the efficacy of financial reporting as well as quality of
auditing. Several auditing firms, certified and regulatory bodies are therefore under fire and
encounter immense pressures to refurbish confidence in particularly auditing (Sirois et al.,
2018). In essence, regulatory and certified bodies attempted to uphold quality of audit to

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restore tarnished image as well as to enhance their legitimacy along with standing. Thus, this
study intends to analyse whether superior audit quality directs the way towards superior
quality of financial reporting that subsequently is a mechanism to avert financial crises.
Section: Literature Review
Introduction
The current section presents articles along research papers cope with control on and
dimensions of quality of financial reporting, as regards focus, concerns, as well as findings.
Essentially the section on review includes different elements of quality of financial reporting,
auditing and influence of auditing on financial reporting.
Measures of Financial Reporting Quality
Components of Quality
As righty put forward by Lennox et al., (2016), the important principle of evaluating the
financial reporting quality can be associated to faithfulness of overall objectives along with
quality of divulged information in financial reports of a business enterprise. In essence, these
qualitative characteristics augment facilitation of process of reviewing the effectiveness of
financial statements. This can show the way to superior level of quality. In order to attain this
level, different financial reports have the need to be faithfully reflected, comparable,
understandable, well timed and verifiable (Gaynor et al., 2016). Therefore, the stress is on
getting transparent financial assertions in place of misleading financial pronouncements. In
this connection it can also be said that there is also significance of preciseness along with
predictability as indicator of a superior quality of financial reporting.
According to the Conceptual Framework for the purpose of accounting, there are various
agreed upon components of superior quality financial pronouncements. In essence, different

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qualitative characteristics of pecuniary reporting include faithful representation, relevance,
timeliness, verifiability understandability as well as comparability. In actual fact, these are
also divided into different fundamental qualitative characteristics along with enhancing
qualitative features (Badolato et al., 2014). In essence, a theoretical illustration for the said
terms help in stressing and focussing on significance as qualitative characteristics, and also
indicates towards various qualities that are regarded to be fundamental among various
structures.
Relevance
As rightly mentioned by Abbott et al., (2016), relevance can be said to closely related to
terms of usefulness as well as materiality. In particular, relevance depicts ability of
undertaking various business decisions bya users of information presented in the financial
reporting. As such, at the time when information is presented in the financial assertions also
exert influence on economic decisions. This information is said to have the quality and
characteristic of relevance. In addition to this, at the time when this specific information aids
various users to analyse, correct and at the same time substantiate current as well as previous
incidents. The effectiveness of framing a decision that is a significant part of the quality of
relevance is said to be consistent with the framework presented by the conceptual framework.
As suggested by Brasel et al., (2016), fair value can be regarded as one of the most important
indicators or signs of relevance. Utilizing fair value in a business entity, as a foundation for
the enumeration can be regarded as an important sign of higher level of relevance in the
financial reporting information. Essentially annual declarations have an important role in the
process of ascertainment of level of relevance by divulging specific information regarding
opportunities of business along with risks. This can help in delivering feedback on the way
major market incidents and important business transactions can affect operations of business
entities (Pucheta‐Martínez & García‐Meca, 2014).

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Reliability
As correctly put forward by Robert Knechel et al., (2015), reliability can be considered to be
an important facet of quality of financial reporting. In particular, in case of financial
reporting, specific information has the need of quality of specifically reliability in a bid to be
effective. In essence, this quality can be attained at the time when information that users
depend upon is free from primarily bias as well as material errors.
Comparability
Cohen et al., (2013) suggests that comparability can be considered to be an important theme
of permitting various users to ascertain financial health and position, flow of cash and
performance of business entity. In essence, this process of comparison can help in the process
of carrying out comparisons across different time period and among different other
corporations during the same period of time. Particularly, comparability calls for the need
that similar incidents in the two different situations need to be represented by identical
accounting facts as well as numerals (Abbott et al., 2010). There are essentially different
events that can be represented by diverse accounting facts as well as figures in a manner that
can quantitatively represent the variances in both a comparable and at the same time and
interpretable way.
In a bid to point out towards this point, specific notes presented in financial statement have
the need to divulge as well as illustrate all the requisite alterations in the policies of the
accounting (Carcello & Nagy, 2014). In addition to this, notes also need to present the
implications of the alterations and applications of accounting principles as well as principles.
Furthermore, the present accounting period also have the need to compare with the ones from
prior ones. Finally, presentation of financial index along with financial ratios can contribute
towards comparison to other corporations.

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Understandability
Understandability is one of the essential qualities of information in financial reports.
Achieving the quality of understandability is through effective communication. Thus, the
better the understanding of the information from users, the higher the quality that will be
achieved (Robert Knechel et al., 2015). It is one of the enhancing qualitative characteristics
that will increase when information is presented and classified clearly and sufficiently. When
annual reports are well organized, users can comprehend what their needs are (Robert
Knechel et al., 2015). Usage of graphs and tables helps to present information clearly, and the
usage of language and technical jargon can be followed easily.
Timeliness
As recommended by Krishnan et al., (2016), timeliness can be considered to be enhancing
qualitative features. In a bid to illustrate specific information in a well timed manner there is
need to present financial information to decision makers before losing its authority as well as
appropriate influences. Therefore, in a bid to assess overall quality of financial reporting in a
yearly financial reporting, timeliness can be analysed utilizing the time period between year-
end and issuing date of report of auditor.
Faithful Representation
Christ et al., (2015) says that faithful representation can be referred to as the notion of
representing the actual economic position of financial information that is presented in the
reports. In essence, this notion has the value of illustrating the way the obligations as well as
economic resources, counting real economic position of financial information, transactions,
and various incidents are entirely represented in financial reports. Furthermore, this specific
quality has neutrality has a theme that is regarding objectivity along with balance. As

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recommended by Bowlin et al., (2015), scholars concluded that reports of the auditor can
necessarily add value to the entire financial reporting by delivering reasonable assurance
regarding degree to which yearly pronouncements an reflect specific economic phenomenon.
Additionally, how business organizations are controlled and directed affects the faithful
presentation quality; this, in fact, is represented as a corporate governance factor when there
is extensively disclosed information on corporate governance issues in the annual report
(Rezaee et al., 2018). Besides, the annual report clarifies assumptions and estimates and
explains the usage of the accounting principles in the company clearly. It also highlights
positive and negative changes and events by discussing them in the annual results. The last
important factor that strengthens this quality is having an unqualified auditor‘s report in the
annual report (Berger et al., 2017).
Influence of Auditing on quality of financial reporting
Definition of auditing
Auditing is an independent verification that enhances financial statement reliability and
usefulness. Since auditing is an integral part of the system, the inclusion of auditing variables
better reflects overall financial reporting quality. As rightly put forward by Aobdia et al.,
(2015), auditing can be regarded as an assessment of various books of accounts along with
vouchers of a business by a specific independent individual who need to be qualified for
specific jobs, in a bid to determine the level of accuracy. As correctly indicated by Hayes
(2014), the primary objectives of auditing include verification of various accounts along with
statements, detection of errors along with fraudulent actions and prevention of various errors
along with frauds.

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Kausar et al., (2016) suggests that auditors are provided free hand to particularly books,
various accounts along with statements that can enable auditors to verify the same. In case if
they get satisfied then they can substantiate that the books are appropriately drawn up and
reflect a true as well as fair view of financial position of the corporation. As such, auditors
provide special attention to different directions of mistakes/errors that might be intentionally
or else unintentionally committed. However, the auditor can find out the unintentional
mistakes by way of vouching various business transactions and by way of comparing as well
as tallying different balances between as well as among different books of accounts.
Nonetheless, in case of intentional mistakes, errors can be categorised as frauds since it
directs the way towards defrauding different proprietors. Chen et al., (2016) recommends that
frauds can be recognized by way of detailed assessment of the books along with documents
namely cash books, various invoices, documents on wage sheet and many others.
Categories of audit
As suggested by Christensen et al., (2014), auditing can be categorised into two different
types namely continuous or else detailed audit and periodical/final audits. Lennox et al.,
(2016) suggests that continuous audit is necessarily effective in case of big business
enterprises with large corporations that have scope for maintaining the audit staff engaged
and business throughout the year. The auditors might perhaps attend to auditing at different
intervals that are fixed and carry out an interim audit. As such, in this specific case, routine
business operations can be carried out all at once with the work of audit. On the other hand,
the periodical auditing refers to a audit work that is carried out continuously till the period of
completion. As such, this can be regarded as the system that can be referred to be the most
satisfying from the viewpoint of the auditors (Gaynor et al., 2016)

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Audit Processes for detection of fraud
Badolato et al., (2014) says that there are various processes of audit that can help in detection
of fraud. Whilst audits are not formulated to root out all the possibilities of fraudulent actions,
assessors have the accountability to recognize material misstatements in financial assertions
of business enterprises caused by fraudulent actions or else error. As suggested by Brasel et
al., (2016), audit engagements teams have the need to undertake brainstorming sessions at the
start of audit. Essentially, this session directed by the partner liable for audit, is formulated to
deliver time for the entire audit team to take into account the way business enterprises can
commit fraud. In addition to this, brainstorming meeting can be necessarily utilized to
establish a specific tone of professional scepticism in the process of audit. In particular, fraud
specialist also attend meetings to deliver deep insight into different forms of fraud committed
by various business enterprises and recognizes diverse risk factors of the client. Audit process
also helps in the process of testing of audit. Detection of fraud of material misstatement in
financial statements calls for the need of undertaking adjustments in financial records
(Pucheta‐Martínez & García‐Meca, 2014). In this case, assessors would test the journal
entries of the firm for any kind of adjustments and manipulations. In addition to this, in a bid
to carry out the test, after acquiring a clear understanding regarding the controls as well as
procedures of the business enterprise, the evaluator has the need to select from the journal
entries of the business concern. Furthermore, auditors also have the need to typically choose
different entries that are particularly large and designed by upper management of firm and
posted in particular accounting period. Once the process of selections has been carried out,
the evaluator can think about presenting supporting documentation that can substantiate each
and every entry.
As suggested by Cohen et al., (2013), another probable place for fraudulent actions is in the
estimates for accounting. As accounting estimates are necessarily subjective concepts,

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management might perhaps be able to exert influence overall accounting estimates for the
purpose of manipulations of the financial assertions. First, evaluators have the need to
complete an entire look back processes for the purpose of ascertainment in case if the
methods for completing accounting approximations has altered from previous years. Again,
alterations in the methods can be a sign of manipulation. Evaluators can also properly asses
overall directionality of approximations as a whole (Christ et al., 2015). For instance, in case
if around all the approximations in the previous years of declining earnings and
approximations in the present year were of declining earnings, assessors might perhaps be
concerned that the business enterprise is shifting overall earnings from a specific period to
another period.
Audit Committee
As rightly indicated by Abbott et al., (2010), audit committee is said to have the
accountability for carrying out the activities of hiring, assessment of performance and
compensating various external assessors in business entities. In addition to this, the audit
committee accountable for overseeing as well as supervising different financial assertions as
well as various disclosures of the corporation can help in maintenance of financial reporting
quality (Abbott et al., 2010). Essentially, audit committee formed in a specific business entity
can help in the process of tracking different selected policies, principles of accounting and
diverse internal controls that the management of business concerns have utilized.
As presented in the prior literature, audit committees of various business concerns have
contributed towards the process of enhancement of overall quality of firm’s financial
pronouncements (Hayes, 2014). Self-governing, competent, and qualified audit committees
have better capability to recognize material misstatements in particularly financial assertions,
and cam help in avoiding different opportunities of the management of the corporation to

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carry out manipulations. Therefore, audit committee of a business concern exerts
fundamental influences of quality of financial reporting along with inputs of audit. in addition
to this, alterations in the committee for audit governance can be linked to augmentation of
quality of financial reporting. Prior scholars have delivered specific substantiations that
recommend a relationship between existence of a financial expert on particularly committee
of audit and superior level of quality of financial reporting. Nevertheless, the significance of
including financial accounting expert in the firm’s committee for audit can help in leading to
superior quality of financial declarations (Chen et al., 2016). Thus, financial expertise might
perhaps be wide, and have the need to mention the significance of including financial
accounting specialist in the committee for audit. Essentially having a financial accounting
expert in the committee for audit can help in the process of the forecasting accurately.
Therefore, in this connection it can be said that there exists a positive association between
financial accounting expert and forecast accurateness. In addition to this, there is said to be a
negative association between qualified financial accounting specialist and the forecast
dispersion (Lisowsky et al., 2017).
As regards audit influences it can be mentioned that there exist a positive as well as
considerable influence on quality of financial reporting founded on overall size of auditing
corporations, fees disbursed to different external assessors.
Different advantages of auditing financial reports
As correctly mentioned by Lisowsky et al., (2017), auditing has different advantages that
helps in enhancement of overall quality of financial reporting. Sirois et al., (2018) suggest
that auditing facilitates the process of detection of errors as well as frauds with
recommendations for the prevention. However, in order to avert the mistakes to be
committed, the accounts can be maintained and upgraded on a regular basis. In addition to

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this, the parties in this case might also feel confident regarding report of the audit as it was
carried out by a specific independent individual or a body. Again, financial accounts after
audit stand to be authentic. As such, the people carrying out work of audit in the field of
accounts are qualified and proficient enough to deliver advice in the management of business
enterprises (DeFond et al., 2016). However, in case of joint stock corporations, the director of
the firm gets no opportunity of acquiring undue benefits. Apart from this, auditing accounts
also helps in the process of settlement among diverse parties.
Effectiveness of particularly internal auditing with regard to financial reporting
With the increasing complication of the necessities of financial reporting with regard to
internal control and management of risk and mounting pressure on board to comprehend the
wide range of value-added internal auditing actions in particularly governance, research
concentration has shifted to the empirical contributions of internal auditing (IA) and
recognizing criteria for analysis of performance of IA Robert (Knechel et al., 2015).
In an important body of research, it is necessarily documented that effectual internal audit
function is related to augmented financial reporting with respect to assurance regarding
quality of internal control in financial reporting, low levels of management of earnings and
low incidence of fraud. Robert Knechel et al., (2015) observed that internal audit function as
a vital mechanism to safeguard overall reliability of yearly accounts. Also, this study
reflected that executing IA as a specific function in particularly corporate governance and
their coordination with effectual audit committee could contribute towards minimization of
earnings management.
There are numerous scholars who have empirically confirmed the fact that dynamics
replicating positive influence of internal audits on the procedures of financial reporting.
Rezaee et al., (2018) suggests that corporate governance mainly relies on the definition of