Auditor’s Independence and Audit Quality: An Empirical Study

The study examines the effect of auditor’s independence on audit quality of listed oil and gas companies in Nigeria over a period of ten (10) years (from 2007 to 2016). The sample size comprises of nine (9) out of the fourteen (14) companies listed in the downstream sector of the Nigeria Stock Exchange selected using purposive sampling technique. The study uses secondary data which were sourced from the audited annual financial statements of the sampled companies. The panel data were analyzed using descriptive statistics, correlation matrix and binary logit regression technique. The findings show that there is a significant positive relationship between auditor’s independence and audit quality, while the control variable of company size and leverage showed positive and negative relationship with audit quality respectively. The study recommends that the entire components of audit fees pricing and calculation should be regulated and disclosed in order to provide public insight into the financial dependence of an auditor on a client and whether the fee corresponds with the complexity of the audit assignment. 1.0 INTRODUCTION The financial statements statutorily produced by the management contain vital information that guides the business decision of both internal and external users. And since the preparers of such information (agents) are different from the real owners of the business (principals), there is need for a third party whose duty is to supervise the work performed by management in order to provide assurance that the financial information presented to investors and other stakeholders represents the true financial position of the company (Zayol & Kukeng, 2017). Thus, the need for auditing can be adjudged to have emanated due to the separation of the management from the ownership of companies as statutorily practiced in all listed companies around the world. JEL Classification Codes: M41 M48 This is an open access article that uses a funding model which does not charge readers or their institutions for access and is distributed under the terms of the Creative Commons Attribution License. (http://creativecommons.org/licenses/by/4.0) and the Budapest Open Access Initiative (http://www.budapestopenaccessinitiative.org/read), which permit unrestricted use, distribution, and reproduction in any medium, provided the original work is properly credited. © 2018. The authors. This work is licensed under the Creative Commons Attribution 4.0 International License Accounting & Taxation Review, Vol. 2, No. 2, June 2018 16 Generally, auditors are saddled with the responsibility of examining the financial report of organizations for the purpose of ascertaining whether it represents that which they purport (Abubakar, N.d). The primary purpose of an audit, therefore, is to provide company shareholders with an expert and independent opinion as to whether the annual financial statement of the company reflects a true and fair view of the financial position of such company, and whether they can be relied upon for investment decision purposes. However, for the auditor to give the expected unbiased and honest professional opinion on the trueness and fairness of financial statements to the shareholders, the auditor needs to be independent from the client company, so that the audit opinion will not be influenced by any relationship between them. Auditor independence, therefore, refers to the ability of the external auditor to act with integrity and impartiality during his auditing functions (Akpom & Dimkpah, 2013). Independence, in this context, represents the means by which an auditor demonstrates that he can perform his task in an objective manner. However, doubts are sometimes expressed regarding the independence of external auditors as most auditors could reach audit opinions and judgments that are heavily influenced by the wish to maintain good relations with the a client company. If this happens, the auditors can no longer be said to be independent and the shareholders may not rely on their opinion. A typical example would be the relationship between Enron and their auditors, Arthur Andersen in the year 2000, where it was reported that the latter received about $27million for nonaudit services, compared with $25million for audit services (Ferdinard & Fung, 2014). In the aftermath of Enron‟s demise, the accounting firm was accused of not acting independently. Similar cases of corporate and accounting scandals in Nigeria such as Cadbury Nigeria Plc, African Petroleum (AP), Savannah Bank, Wema Bank, Nampak, Finbank, Spring Bank, Intercontinental Bank, Bank PHB; Oceanic Bank Plc, AfriBank Plc, among others, were equally highly publicized. One common phenomenon in majority of these corporate failures is that most of the distressed corporations had clean auditor‟s reports prior to their eventual collapse (Dabor & Dabor, 2015). These have called to question the validity of the financial statements prepared by corporations as well as the independence of the external auditors. Numerous studies have attempted to examine the nexus between auditor independence and audit quality in the Nigerian audit market. Majority of these existing studies, such as Enofe, Mgbame, Okunega and Ediae (2013); Akpom & Dimkpah (2013); Oladipupo and Emife (2016); Babatolu, Aigienohuwa and Uniamikogbo (2016), were of the view that the length of the audit tenure is among the major factors that affects auditor‟s independence, with Enofe et al (2013) and Babatolu et al (2016) adopting the tenure of an auditor as proxy for auditor independence. Several schools of thought exist in this regards, one group (such as Enofe et al, 2013) believes that lengthy audit tenure tend to result in an opportunity cost of auditor independence, which in turn impairs audit quality. Other groups (such as Tepalagul & Lin, 2015) argue that auditor independence and audit quality tend to increase with lengthy auditor tenure because auditors may require ample time in order to gain expertise in audit business and acquire client-specific knowledge over time. On the other hand, other crop of researchers (Okolie, 2014; Babatolu et al, 2016; Maria, 2016) suggest that the amount paid for an audit service could act as impediment for auditor independence arguing that higher audit fees will likely increase the economic bond between the auditor and the auditee, thereby impairing the auditor‟s independence (Fiitriany, Sylvia, & Viska, 2016; & Okolie, 2014) while audit firm that charges little fees might be influenced by the institution management who may decide to offer more money for the auditor to Aliu, Okpanachi & Mohammed. Auditor’s Independence . 17 compromise his professionalism hence interfere with his independence. Thus, the linkage between the fees received for audit services and auditor independence in determining audit quality has been a thing of concern to stakeholders for some time, especially since after the Enron‟s case. In Nigeria, much of the empirical evidences from this area of study dwells more on listed deposit money banks (Babatolu et al, 2016; Kighir, 2013; & Enofe et al, 2013). Not much empirical studies exist, particularly about auditor‟s independence and audit quality among companies listed in the downstream sector of the Nigerian Stock Exchange (NSE). This is an indication of a possible paucity of auditor independence and audit qualityresearches in the oil and gas sector, hence the need for this study. More so, considering that one of the major players in the Nigerian oil and gas market (i.e Forte Oil formerly African Petroleum) was not long ago engulfed in a corporate scandal where about “24billion Naira worth of credit facility was omitted from the financial statement” leading to their subsequent restructuring (Aliyu & Ishaq, 2015, p.35); beaming the research light on auditor‟s independence in the Nigerian oil and gas sector will contribute to the recent discussions on auditor independence in response to global best practices. To this extent, the broad objective of this paper is to examine the effect of auditor‟s independence on audit quality of listed oil and gas companies in Nigeria. The study expects to expand the body of literature on audit quality as well as the recent discussions and calls on regulatory bodies towards monitoring of the audit fees chargeable by the audit firms in respect of auditor independence. 2.0 LITERATURE REVIEW Auditor‟s independence may be defined as an auditor‟s unbiased mental attitude in making decisions throughout the financial reporting auditing process. An auditor‟s lack of independence increases the possibility of being perceived as not being objective. This means that the auditor will not likely report a discovered breach (Deangelo, 1981). Auditor independence is seen as very important for the reliability and integrity of financial reporting (Wallman, 1996). Auditor independence not only comprises independence of mind but also, independence in appearance. Two types of auditor independence were developed by Mautz and Sharaf (1961) namely practitioner-independence (or independence in fact), and profession independence (or independence in appearance). The Code of Ethics for professional accountants defines independence of mind as “the state of mind that permits the expression of a conclusion without being affected by influences that compromise professional judgment, thereby allowing an individual to act with integrity and exercise objectivity and professional skepticism” (IFAC, 2009, p.21). The Code of Ethics defines independence in appearance as the avoidance of facts and circumstances that are so significant that a reasonable and informed third party would be likely to conclude, weighing all the specific facts and circumstances, that a firms, or a member of the audit team‟s, integrity, objectivity or professional skepticism has been compromised. Safeguarding auditor independence is essential for creditworthiness of the auditor and