When controls matter: evidence of non-linear association between Internal Control Weaknesses and Audit Quality

Abstract

ABSTRACT This study aimed to analyze the association between Internal Control Weaknesses (or Internal Control Deficiencies - ICDs) and Audit Quality (AQ). The article fills a gap in the national literature, as it provides evidence of an association between reported ICDs and the main AQ proxies. The study is relevant because it evinces the lack of contemporary association between reported ICDs and the AQ of listed Brazilian companies, but found a lagged association between these variables. Unlike prior studies, it was observed that the ICDs reported in the previous year can function as an Audit Red Flag in the current year, thus contributing to risk assessment by accountants, auditors, members of governance and audit committees, and regulators. The study, documentary and descriptive, with a quantitative approach, analyzed data from a sample of 257 companies listed on the Brazil Stock Exchange and Over-the-Counter Market (Brasil, Bolsa, Balcão [B3]) in the period 2010-2018. Data were assessed using regression models with panel data, logistic and negative binomial. The results showed that, although there are significant differences between the AQ proxies for companies that reported ICD and those that did not, there is no contemporary and statistically significant association between ICD disclosure and AQ proxies. However, it was observed that audit delay and the probability of being involved in an Administrative Sanctioning Procedure (ASP) are associated with the number of ICDs reported in the previous year.

Keywords

• internal control weaknesses
• audit quality
• audit regulation
• corporate governance
• financial reporting