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Rotation May Hinder Audit Quality, Study Says

Tammy Whitehouse | July 21, 2015

A new academic paper suggests rotating auditors may not be such a good idea, especially as regulators are getting tough on auditors to show more skepticism and objectivity in their work.

The study appears in the latest issue of The Accounting Review, the research journal of the academic American Accounting Association. The authors say they used psychology theory and a lab experiment to show that the prevailing assumption about the benefits of rotating audit partners -- that it will encourage skepticism -- is off target. In fact, the study says, skepticism “disappears and even reverses when auditors rotate. That is, rotation and a skeptical mindset interact to the detriment of audit effort and financial reporting quality.”

Engagement partners are required to rotate audit engagements every five years under existing audit rules. James Doty, chairman of the Public Company Accounting Oversight Board, stumped for rotation of entire audit firms by setting mandatory term limits on audit engagements, but failed to garner the evidence or support necessary to show it would improve audit quality or auditor performance. Through its inspection process, the PCAOB has placed a heavy focus in recent years on requiring auditors to exercise more professional skepticism and objectivity in their work.

Now this new research suggests the existing rotation rules may curtail the exercise of skepticism. 

"Rotating auditors, aware that they will not be in a long-term relationship, will...likely perceive themselves to be less competent in evaluating the honesty or dishonesty of the [corporate] manager relative to auditors who do not rotate," the authors wrote. As a result, "rotating auditors would find it difficult to garner psychological support for the probability of manager dishonesty, leading them to be less likely to choose high levels of audit effort than non-rotating auditors."

 The study, titled “The Effects of Auditor Rotation, Professional Skepticism, and Interactions with Managers on Audit Quality,” is authored by Kendall Bowlin of the University of Mississippi, Jessen Hobson of the University of Illinois at Urbana-Champaign, and M. David Piercey of the University of Massachusetts Amherst. The study asserts that rotating auditors, lacking familiarity with the companies they audit that comes with tenure, "will likely encounter difficulty finding psychological support for the probability of their current assessment frame, making them less likely to choose the audit action associated with their mental frame.”