Abstract

The purpose of this paper is to investigate the effect of audit quality on quarterly earnings management. This paper uses abnormal audit fees and abnormal audit hours as the proxy of audit quality. The annual accounting information is reliable, while the interim accounting information is not. On the other hand, the interim accounting information is timely, while the annual accounting information is not. So, managers have an incentive to manage annual earnings by using quarterly earnings management. This paper uses the variance of quarterly discretionary accruals as a proxy of earnings management and regards the firms to avoid negative earnings surprises, to avoid earnings decreases, and to meet or beet analyst’s forecasts as earnings management firms. The sample consists of non－banking firms with a December fiscal year－end listed on the Korean Stock Market over 2003－2007. We collect firm－specific financial data from KISVALUE database. The data on analysts's forecasts is collected from the Fn－DataGuidePro Database. So, the sample is limited to firms to be able to collect analysts's forecasts data from Fn －DataGuidePro Database. The results of this research are as follows. First, firms to pay positive abnormal audit fees have smaller variance of quarterly discretionary accruals. This implies the more audit fee, the better audit quality. But abnormal audit hours does not influence the variance of quarterly discretionary accruals. Second, the more positive abnormal audit fees, the smaller fourth－quarter earnings management to avoid negative earnings surprises, to avoid earnings decreases, and to meet or beet analyst’s forecasts. And the more positive abnormal audit hours, the smaller fourth－quarter earnings management to avoid earnings decreases. This proposes unlike previous research(Das and Shroff 2002), fourth－quarter earnings management is less then other quarter earnings management because of high quality audit firms. The contributions of this paper are as follows. First, previous papers analyze the relation between annual earnings management and audit quality, while this paper analyzes the relation between quarterly earnings management and audit quality. Second, previous papers analyze quarterly earnings management pattern and the reversal of quarterly earnings management, while this paper analyzes the relation between quarterly earnings management and audit quality. Third, most of previous papers use real audit fees (or audit hours)as the proxy of audit quality, while this paper uses abnormal audit fees (or abnormal audit hours)as the proxy of audit quality.

Keywords

• quarterly discretionary accruals
• avoid losses
• avoid earnings decreases
• meeting or beating an analyst forecast
• audit quality
• abnormal Audit fees
• abnormal Audit hours

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