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Contributions to Management Science

Chiara Demartini
Sara Trucco

Integrated
Reporting and
Audit Quality
An Empirical Analysis in the European
Setting
Contributions to Management Science
More information about this series at http://www.springer.com/series/1505
Chiara Demartini Sara Trucco

Integrated Reporting
and Audit Quality
An Empirical Analysis in the European
Setting

123
Chiara Demartini Sara Trucco
Department of Economics and Management Faculty of Economics
University of Pavia Università degli studi Internazionali di Roma
Pavia Rome
Italy Italy

ISSN 1431-1941 ISSN 2197-716X (electronic)
Contributions to Management Science
ISBN 978-3-319-48825-7 ISBN 978-3-319-48826-4 (eBook)
DOI 10.1007/978-3-319-48826-4
Library of Congress Control Number: 2017936908

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To my mother
—Chiara Demartini

To Delio
—Sara Trucco
Contents

1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
1.1 A Brief Overview of the Book . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
1.2 Theoretical Contributions of the Present Work . . . . . . . . . . . . . . . . 3
1.3 Managerial Implications of the Present Work . . . . . . . . . . . . . . . . . 4
1.4 Structure of the Book . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
2 Integrated Reporting . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
2.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
2.2 Non-Financial Voluntary Disclosures . . . . . . . . . . . . . . . . . . . . . . . 9
2.3 The Role of Integrated Reporting in Company Disclosure . . . . . . . 12
2.4 Integrated Reporting: Literature Review . . . . . . . . . . . . . . . . . . . . . 16
2.4.1 Integrated Reporting and Sustainability . . . . . . . . . . . . . . . . 16
2.4.2 Integrated Reporting and Corporate Governance . . . . . . . . . 17
2.4.3 Integrated Reporting and Its Components . . . . . . . . . . . . . . 17
2.4.4 Empirical Research on Integrated Reporting . . . . . . . . . . . . 18
2.4.5 Assurance of Integrated Reporting . . . . . . . . . . . . . . . . . . . 20
2.5 Integrated Reporting: Comparison of the Main Frameworks . . . . . . 21
2.5.1 Novo Nordisk . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
2.5.2 The King Reports . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
2.5.3 The Integrated Report <IR> . . . . . . . . . . . . . . . . . . . . . . . . 24
2.5.4 The UN Global Compact . . . . . . . . . . . . . . . . . . . . . . . . . . 25
2.6 A Focus on the South African Experience . . . . . . . . . . . . . . . . . . . 27
2.6.1 The South African Context . . . . . . . . . . . . . . . . . . . . . . . . . 28
2.6.2 The Quality of Integrated Reporting in South Africa . . . . . 28
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
3 Audit Quality . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37
3.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37
3.2 Assessment of the Audit Quality . . . . . . . . . . . . . . . . . . . . . . . . . . 38

vii
viii Contents

3.2.1 Audit Risk Model: Standard Setter’s Viewpoint . . . . . . . . . 42
3.2.2 Audit Risk Model: A Theoretical Framework . . . . . . . . . . . 45
3.3 The Literature Stream on Audit Risk . . . . . . . . . . . . . . . . . . . . . . . 47
3.3.1 Audit Risk and Audit Fees . . . . . . . . . . . . . . . . . . . . . . . . . 47
3.3.2 Audit Risk Evaluation in the Client-Acceptance
Decision . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .... 48
3.3.3 Audit Risk and Corporate Governance . . . . . . . . . . . . .... 49
3.3.4 The Audit Risk Model in Light of the Global
Financial Crisis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .... 50
3.4 A New Proposal for the Audit Risk Model . . . . . . . . . . . . . . .... 53
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .... 54
4 Relationship Between Integrated Reporting and Audit Risk
in the European Setting: The Research Design . . . . . . . . . . . . . . .... 59
4.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .... 59
4.2 Does Integrated Reporting Have Some Effects
on the Audit Risk? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60
4.2.1 The Research Design . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 62
4.3 Sample Selection and Data Collection . . . . . . . . . . . . . . . . . . . . . . 66
4.4 Variable Measurement . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67
4.4.1 Variable Measurement: Audit Risk . . . . . . . . . . . . . . . . . . . 67
4.4.2 Variable Measurement: Audit Fees . . . . . . . . . . . . . . . . . . . 69
4.4.3 Variable Measurement: Integrated Reporting. . . . . . . . . . . . 69
4.4.4 Variable Measurement: Control Variables . . . . . . . . . . . . . . 73
4.5 Factor Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 75
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 79
5 Relationship Between Integrated Reporting and Audit Risk
in the European Setting: The Empirical Results . . . . . . . . . . . . . . . . . 83
5.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 83
5.2 Descriptive Statistics and Correlation Analysis . . . . . . . . . . . . . . . . 84
5.3 Research Models . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 90
5.4 Empirical Results . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 93
5.4.1 Empirical Results for the Entire Dataset of Firms . . . . . . . . 93
5.4.2 Empirical Results—T Test . . . . . . . . . . . . . . . . . . . . . . . . . 97
5.5 Additional Analysis: Empirical Results for Different Sectors . . . . . 99
5.5.1 Additional Analysis: Empirical Results for Industry
Classification 1 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .... 99
5.5.2 Additional Analysis: Empirical Results for Industry
Classification 2 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .... 102
5.6 Additional Analysis: Empirical Results for Assurance
on Voluntary Disclosure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .... 104
Contents ix

5.6.1 Additional Analysis: Empirical Results for Voluntary
Disclosure Auditor . . . . . . . . . . . . . . . . . . . . . . . . . . . .... 104
5.6.2 Additional Analysis: Empirical Results for Same
Auditor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .... 108
5.7 Summary Results for the Entire Dataset . . . . . . . . . . . . . . . . . .... 114
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .... 116
6 Concluding Remarks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ......... 117
6.1 The Future of Corporate Reporting . . . . . . . . . . . . . . . . ......... 117
6.2 Developing the Next Integrated Reporting Framework . ......... 118
6.3 Integrated Reporting as a Tool to Enhance Audit Risk
Assessment? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ......... 121
6.3.1 Linking Integrated Reporting to Qualitative
and Quantitative Audit Risk . . . . . . . . . . . . . . . ......... 122
6.3.2 Integrated Reporting and Audit Fees . . . . . . . . . ......... 123
6.3.3 Assurance on Integrated Reporting, Audit Risk
and Audit Fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 123
6.4 Practical Implications . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 125
6.5 Limitations and Further Development . . . . . . . . . . . . . . . . . . . . . . . 125
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 126
Chapter 1
Introduction

Abstract The manuscript seeks to analyze the effects that the quality of integrated
reporting and its classes of capital may have on the assessment of the audit quality,
in particular involving audit risk and audit fees in Europe. Specifically, it aims at
exploring the theoretical and practical background of audit risk and integrated
reporting by comparing different frameworks. The analysis was based on a sample
of European listed firms in 2014 using the ESG Asset 4 Database (Thomson
Reuters Datastream), which provides objective, relevant and systematic environ-
mental, social and governance (ESG) information based on individual data points of
the Key Performance Indicators (KPIs) along with their original data sources. To
test the research hypotheses, a set of regression and t-test analyses was performed.
The empirical results for Europe shed some light on (a) both the evaluation of audit
risk and the auditing model by contributing to that part of the literature focused on
the evaluation of audit risk; (b) the measurement of the Integrated Reporting and its
different frameworks across the world; and (c) the relationship between Audit Risk
and Integrated Reporting. This study is useful for managers in the audited firms,
investors at large, the partners of audit firms, and standard setters at both the
national and international level.

1.1 A Brief Overview of the Book

The manuscript seeks to analyze the effects that the quality of integrated reporting
and its classes of capital may have on the assessment of the audit quality, in
particular on the audit risk and audit fees in the European setting. Moreover, it aims
at exploring the theoretical and practical background of audit risk and integrated
reporting by comparing different frameworks.
Disclosure theories applied to Integrated Reporting point out that social, human
and environmental disclosure should reduce information asymmetry and thus the
information risk of a company (Beattie et al. 2004; Holland 2006). On the one hand,
non-financial information is thus used for external and internal decision making

© Springer International Publishing AG 2017 1
C. Demartini and S. Trucco, Integrated Reporting and Audit Quality,
Contributions to Management Science, DOI 10.1007/978-3-319-48826-4_1
2 1 Introduction

(Cohen and Simnett 2014; Dhaliwal et al. 2011), and on the other audit firms agree
on the relevance of this kind of soft and non-numerical disclosure (KPMG 2013).
According to a literature review by Guthrie and colleagues (Guthrie et al. 2012),
auditing has received little attention within the field of human, social and envi-
ronmental disclosure since the beginning of the 21st century. Previous studies, in
fact, have mainly focused on financial voluntary disclosure and audit risk (Ball et al.
2012), with some recent exceptions related to the link between corporate social
responsibility disclosure and audit risk (Chen et al. 2016) and between intellectual
capital disclosure and both audit risk and audit fees in common law and civil law
countries (Demartini and Trucco 2016).
Scholars have primarily measured audit risk using a proxy for audit effort: audit
fees. In particular, Chen et al. found that firms with a better corporate social
responsibility performance face lower audit fees and a propensity to issue a mod-
ified audit opinion (Chen et al. 2016). In a similar vein, Zhanxia et al. analyze the
relationship between Intellectual Capital Disclosure (ICD) and the audit results of
public accounting firms, concluding that human capital and customer capital are
key assets for audit firms (Zhanxia et al. 2011).
Scholars have called for more research in this area. The literature on the rela-
tionship between audit risk and integrated reporting (IR) is not so vast, and there is a
call for more research to explore how different types of non-financial and voluntary
information can play a role in the evaluation of audit risk (Krishnan et al. 2012).
Furthermore, several standard setters, such as IIRC (2014), and some scholars,
such as Cheng et al. (2014), de Villiers et al. (2014), Simnett and Huggins (2015),
and Dumay et al. (2016), have stressed the need to provide assurance on the content
of IR to both preparers and users. To assure non-financial information, auditors
should be independent and have appropriate skills in the various ways of measuring
and reporting non-financial information (Huggins et al. 2011). This study also
argues that a more synergic effect of auditing could be achieved if the auditor
provides assurance to both IR and annual report. Since the knowledge acquired by
the auditor in the process of auditing the six forms of capital and their connections
reported by the IR can be used and exploited in auditing the annual report, this
enables auditors to cross-check the information reported in the mandatory disclo-
sure with voluntary and reliable information.
To measure audit risk, we propose a framework in which audit risk is composed
of two elements: qualitative and quantitative parts of audit risk. Qualitative audit
risk is determined by the corporate governance (Barac and Van Staden 2009;
Carcello et al. 2002; Dechow et al. 1996). Some scholars have found that client
firms with a strong corporate governance also have high quality in the auditing
procedure since they are able to reduce the audit effort (Cohen and Hanno 2000),
whereas the quantitative audit risk is due to the size and complexity of the client
firms.
Therefore, to shed some light on the relationship between non-numerical
information contained in integrated reporting and audit quality in the European
setting, we investigate whether the quality of components of the integrated
reporting affect the evaluation of audit risk and audit fees. Moreover, we investigate
1.1 A Brief Overview of the Book 3

whether auditors report lower levels of audit risk for those firms reporting an
external audited integrated report compared to those with non-audited integrated
reports, and whether auditors report low levels of audit risk when they audit the
integrated report compared with firms with integrated reports audited by a different
auditor. Furthermore, we assess whether auditors charge lower audit fees to those
firms reporting an external-audited integrated report compared with firms with
non-audited integrated reports. Finally, we evaluate if qualitative and quantitative
audit risk negatively affect audit fees directly.
The analysis is based on a sample of non-financial European listed firms in 2014,
using the ESG Asset 4 Database (Thomson Reuters Datastream). The ESG Asset 4
database provides objective, relevant and systematic environmental, social and
governance (ESG) information based on individual data points of the Key
Performance Indicators (KPIs) along with their original data sources.
Empirical results from the entire dataset demonstrate that qualitative audit risk is
affected by the quality of some components of IR. Specifically, the results show that
if the quality of human capital is enhanced, the qualitative audit risk is enhanced as
well. Further, if the quality of intellectual capital increases, the qualitative audit risk
worsens.
Moreover, empirical results from all the datasets of firms in 2014 demonstrated
that the quantitative part of audit risk is affected by the quality of some components
of IR. Specifically, the empirical results show that if the quality of financial capital
increases, the quantitative audit risk worsens, whereas if the quality of human,
natural and intellectual capitals increase, the quantitative audit risk is enhanced.
Empirical results from all the datasets of firms in 2014 revealed that audit fees are
affected by the quality of the following capitals of IR: human, natural, social and
intellectual. The relationships between audit fees and the components of IR are
always positive, when they are statistically significant. This means that when the
quality of such capitals increases, the audit fees increase as well. Moreover,
quantitative audit risk is not correlated with audit fees, whereas qualitative audit risk
is negatively associated with audit fees.

1.2 Theoretical Contributions of the Present Work

From a theoretical standpoint, the present work contributes to:
– Shedding light on the evaluation of audit risk and on the auditing model, by
contributing to that part of the literature focused on the evaluation of audit risk.
According to some research streams and previous hypotheses, we follow that
part of the literature which argues that audit fees can be considered as a proxy of
the auditors’ effort, and consequently as a proxy of the audit risk (Hay et al.
2006; Hogan and Wilkins 2008; Houston et al. 1999). However, we try to
overcome previous limitations on the measurement of audit risk by proposing
our own evaluation of audit risk.
4 1 Introduction

– Replying to the call for more research on the measurement of the Integrated
Reporting and its different frameworks across the world. We test the compo-
nents of Integrated Reporting by carrying out a factor analysis regarding the
European setting in 2014. Thus, we end up with a new measurement model for
the quality of disclosures issued in an IR. This will enable future studies to
corroborate our results and, to compare the quality of IR at different levels of
analysis (single entity, conglomerate group, industry, country, geographical
areas, and so forth).
– Addressing and testing the relationship between audit risk and Integrated
Reporting. On the one hand, we demonstrate that the qualitative component of
audit risk improves when a firm shows higher levels of human capital (related to
both its corporate governance structure and accidents, training, and health and
safety). This result is consistent with that stream of the literature which high-
lights the role of non-financial voluntary disclosure as a tool to reduce audit risk,
since more transparent and truthful voluntary disclosure is often linked to higher
quality mandatory disclosure (Beattie and Smith 2012; Bozzolan et al. 2006;
Chen et al. 2016). More specifically, the qualitative part of audit risk is quite
related to the structure and processes of corporate governance and to how these
prevent misstatement and financial issues in corporate disclosure (Bedard and
Johnstone 2004; Cohen et al. 2008; Kirkpatrick 2009; Hogan and Martin 2009).
Thus, qualitative audit risk is expected to be positively affected by the skills,
training and attitudes of human resources working at different levels of the firm.
On the other hand, empirical findings show that qualitative audit risk increases
in association with higher levels of intellectual capital disclosure.
– Testing and discussing the value relevance of the assurance of integrated
reporting and audit risk. We find that qualitative audit risk is positively affected
by the presence of an independent third-party assurance and that qualitative
audit risk is negatively affected by the presence of the same auditor assuring
both mandatory and voluntary disclosure. This fact could be related to the lack
of independence regarding the assurance provided to each report by the same
auditor (Flower 2015).

1.3 Managerial Implications of the Present Work

Some implications for practitioners emerge from both the theoretical and empirical
analyses. The awareness of the composition of the audit risk could be considered
useful by auditors in setting audit fees, which has often been considered as a proxy
of audit risk in the prior literature (Chen et al. 2016; Simunic 1980).
Furthermore, the definition of the auditing model is also useful for: (1) managers
inside the audited firms, to aid them in improving their procedures of internal
control and the effectiveness of the procedures which affect the corporate gover-
nance sphere as well; (2) investors at large, in order to evaluate the quality of a
1.3 Managerial Implications of the Present Work 5

listed firm; (3) partners of audit firms, in order to design and use the revised audit
model; (4) standard setters at both the national and international level.
By taking a normative approach to the minimum set of items that should be
included in the IR, this study represents a valuable step in the advancement of the
harmonization process of the IR framework, which can be useful for both IR
preparers and users. When a standard framework is agreed upon by standard setters,
companies, stakeholders and auditors, some of the issues of assurance such as
materiality, reporting boundary and completeness can be solved (IIRC 2014;
Wallage 2000). On the value relevance of the assurance of IR, this study provides
firms with increased knowledge about which kind of audit component is affected by
IR assurance (qualitative audit risk) and about the decision to ask the same auditor
to provide assurance on both mandatory and voluntary disclosure.

1.4 Structure of the Book

The remainder of the book is organized as follows.
Chapter 2 focuses on analyzing integrated reporting from the point of view of
both theory and practice, thereby analyzing different frameworks of integrated
reporting and its role within the voluntary non-financial disclosure of a company.
An analysis of the literature reveals some streams of studies, such as integrated
reporting and sustainability; integrated reporting and corporate governance; inte-
grated reporting and its components; and assurance of integrated reporting.
Chapter 3 analyzes the assessment of audit quality, audit risk, audit risk’s fea-
tures, frameworks and components, along with an analysis of the literature streams
that regard audit risk which are: audit risk and audit fees, audit risk in the client
acceptance-decision, audit risk and corporate governance, and audit risk in light of
the global financial crisis. Chapter 3 ends with a new proposal for measuring audit
risk from a qualitative and quantitative point of view. On the one hand, qualitative
features of the audit risk model are related to the corporate governance system in
place within the firm, and the quality of the internal control system. On the other
hand, quantitative features of the audit risk model refer to the size of the company,
usually measured by total revenues, total assets or total shareholder equity
(Contessotto and Moroney 2014).
Chapter 4 presents the development of the research hypotheses on the rela-
tionship between integrated reporting and audit risk as well as a definition of the
research design, the sample selection and data collection, the descriptive statistics,
and the factor analysis in the European setting. We assessed the research and
control variables of our work and the items encompassed in each variable. The
research variables are Qualitative Audit Risk, Quantitative Audit Risk, and Audit
Fees and Integrated Reporting split into its six pillars: financial capital, manufac-
tured capital, intellectual capital, human capital, social and relationship capital, and
natural capital.
6 1 Introduction

Chapter 5 presents the development of the empirical results in the European
setting in 2014. To test the research hypotheses in Chap. 4, we carried out a set of
regression and t-test analyses. We also discuss the empirical results regarding the
entire dataset of firms and carry out additional analysis on a sub-dataset of firms.
Chapter 6 presents some final considerations along with a discussion of the
theoretical and practical contributions of the present work. It also contains con-
cluding remarks on the future of corporate reporting, develops a new type of
integrated reporting framework, and presents Integrated Reporting as a tool to
enhance audit risk assessment.

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Chapter 2
Integrated Reporting

Abstract The voluntary decision to issue an integrated reporting is in the hands of
internal managers and managers in different countries behave differently, by pro-
ducing different kinds of social and environmental information. We focus on the
analysis of non-financial voluntary disclosure with a further investigation on the
Integrated Report (IR) and its role within the corporate disclosure. In particular, we
provide a practical and theoretical framework of integrated reporting and propose a
comparison of the main frameworks available within the relevant literature. An
analysis of the literature reveals some streams of studies in this area, such as integrated
reporting and sustainability, integrated reporting and corporate governance, inte-
grated reporting and its components, and the assurance of integrated reporting. This
Chapter ends with a focus on the South African experience. Since the end of apartheid
in 1994, the need for the social and economic empowerment of the black population
has been a driving force in the development and evolution of the King Reports. As a
matter of fact, it has been widely acknowledged that South African companies were
the first to address IR issues because of the consequences of the end of apartheid.

2.1 Introduction

The following sections deal with the analysis of non-financial voluntary disclosure
with a focus on the integrated report (IR) and its role within the corporate disclo-
sure. In particular, we will provide a practical and theoretical framework of IR and
propose a comparison of the main frameworks available within the relevant liter-
ature. Furthermore, we will analyze the IR standards in South Africa.

2.2 Non-Financial Voluntary Disclosures

Corporate disclosure is an important means that management can use to commu-
nicate a firm’s performance and governance to stakeholders (Healy and Palepu
2001); therefore, it is mainly aimed at satisfying a wide range of stakeholders and

© Springer International Publishing AG 2017 9
C. Demartini and S. Trucco, Integrated Reporting and Audit Quality,
Contributions to Management Science, DOI 10.1007/978-3-319-48826-4_2
10 2 Integrated Reporting

should be disclosed to improve the firm’s consensus and reputation among stake-
holders (Watts and Zimmerman 1990). However, a firm’s reputation can increase
only if its disclosure is reliable (Anderson 1978; Root and Grumman 1998).
According to Beyer et al. (2010), corporate disclosure has a twofold role. The first
role regards the ability of disclosure to allow investors and capital providers to
evaluate the return of investment opportunities. In this context, investors and capital
providers have less information than managers, since they are outsiders, while
managers could exaggerate the firms’ economic results to attract capital, thereby
generating lemons problems.1 The second role regards the ability of disclosure to
allow capital providers to define the corporate governance system and monitor the
use of capital resources (Beyer et al. 2010). In the end, corporate disclosure is used
by management as a mechanism for addressing market imperfections, thus reducing
information asymmetry between managers and investors (Bushman and Smith
2001; Christie and Zimmerman 1994; Khanna et al. 2004; Watts and Zimmerman
1990, 2006). However, corporate disclosure also addresses the internal need of a
company to correctly disclose information to the market about its performance,
thereby reducing uncertainties for investors and, as a result, the cost of capital
(Lambert and Verrecchia 2015).
It is possible to identify three levels of analysis of corporate disclosure:
mandatory and voluntary disclosure, financial and non-financial information, and
forward-looking and historical information, even if these three levels of analysis are
not independent of one other and the relative boundaries are not easily detected and
defined (Trucco 2015). The mandatory disclosure refers to corporate disclosure
which is mandated by legal requirements and audited by external parties (audit
firms), whereas the voluntary disclosure regards corporate disclosure which goes
beyond the legal requirements (Meek et al. 1995). The issue of voluntary disclosure
has been studied by several scholars for many years (Admati and Pfleiderer 2009;
Bamber et al. 2010; Ben-Amar and McIlkenny 2014; Bens et al. 2011; Bischof and
Daske 2013; Core 2001; Graham et al. 2005; Guidry and Patten 2012; Healy and
Palepu 2001; Verrecchia 1983). According to the literature, companies tend to
undertake voluntary disclosure in the form of management forecasts, press releases,
conference calls, and presentations and websites to provide greater clarity for
investors and thus reduce information asymmetry between the company and its
stakeholders (Verrecchia 1983), the cost of raising equity capital (Botosan 1997;
Shroff et al. 2013) and the cost of debts (Sengupta 1998). However, voluntary
disclosure can be considered as a complement of and not a substitute for mandatory

1
Akerlof (1970) defined the lemons problem as those situations in which buyers need to evaluate
the quality of goods offered by sellers in a situation of information asymmetry. If buyers do not
have enough information about the quality of goods sold, sellers of lower quality goods (lemons)
can exploit the information asymmetry for themselves (moral hazard). In this situation, buyers
could overestimate the price of lemons. As a consequence, the price of higher quality goods is
underestimated (adverse selection). Therefore, the only way for sellers of higher quality goods not
to be cheated is to eliminate the information asymmetry, by signaling the higher quality of their
products (e.g., through warranties, etc.) (Akerlof 1970).
2.2 Non-Financial Voluntary Disclosures 11

disclosure (Ball et al. 2012). Moreover, voluntary disclosure is aimed at reducing
the power imbalance between the company’s management and stakeholders, who
have more than just monetary interests in the company (Abeysekera 2013).
According to disclosure theory, companies provide voluntary disclosures if their
benefits cover their costs. Thus, the decision to disclose (and in what form) vol-
untary information is a strategic one (Abeysekera 2013). In particular, the costs of
disclosing voluntary information regard disadvantages linked to giving away sen-
sitive information of a firm, resulting in a dangerous loss of competitive advantage
or in litigation and proprietary costs (Beattie and Smith 2012; Elliot and Jacobson
1994; Healy and Palepu 2001). However, the recent trend has been a general
increase in the amount of voluntary disclosures, thanks also to some reforms issued
in an international setting, which have fostered a reduction in the information
asymmetry between managers and investors, and to the growing development of the
Internet, which allows managers to use corporate websites to present company
reports (Ismail 2002).
The increase of voluntary disclosure may reduce information risk, but only if the
disclosed information is reliable and accurate (Bebbington et al. 2008; Fombrun
et al. 2000). The consequences of unreliable voluntary disclosure are negative for
firms, since some authors have demonstrated that if stakeholders discover a firm
which discloses unreliable information, then they are likely to consider as unreliable
all information subsequently disclosed by the firm (Fama and Miller 1972; Jensen
and Meckling 1976). Some scholars have demonstrated that if the mandatory dis-
closure is reliable and credible, even the non-verifiable voluntary disclosure seems
to be perceived as credible by investors and stakeholders at large (Ball et al. 2012;
Gigler and Hemmer 1998; Lundholm 2003; Stocken 2000). Gigler and Hemmer
found that mandatory reporting plays a confirmatory role in an agency setting.
Furthermore, they argued that voluntary disclosures are more informative, since
they are mainly based on managers’ private information (Gigler and Hemmer
1998). In a similar vein, Stocken stated that voluntary disclosures are ignored by the
market and considered not credible if there are no mechanisms to enforce verifia-
bility (Stocken 2000). On the other hand, in the presence of proper mechanisms to
enforce verifiability, voluntary disclosure may be considered credible and infor-
mative (Dhaliwal et al. 2011; Lundholm 2003; Stocken 2000). Lundholm also
highlighted that if the mandatory disclosure is mainly backward-looking, the vol-
untary disclosure becomes more credible (Lundholm 2003).
Voluntary disclosure may be financial and non-financial in nature. An example
of voluntary financial information might be earnings estimates (Chow and
Wong-Boren 1987; Graham et al. 2005; Kent and Ung 2003), whereas voluntary
non-financial information could regard social, human and environmental disclo-
sures, such as Corporate Social Responsibility (CSR) (Dhaliwal et al. 2011),
Intellectual Capital disclosure (Bontis 2001) and IR (Abeysekera 2013).
Professional associations have pointed out the growing relevance of non-financial
information; the Association for Investment Management and Research argued that
this kind of disclosure could represent a good means of communicating a firm’s
progress and evolutionary paths to stakeholders (AIMR 1992).
12 2 Integrated Reporting

Disclosing voluntary, non-financial information could contribute to reducing the
gap between external and internal information and the cost of capital, and to
attracting institutional and specialized investors (Dhaliwal et al. 2011; Zhou et al.
2016). On the other hand, environmental reporting seems not to have improved
environmental performance (Cho and Patten 2013), and some scholars have shown
that even financial analysts have begun to use and to evaluate non-financial indi-
cators (Breton and Taffler 2001; Previts et al. 1994). Furthermore, other authors
have highlighted the increasing relevance of soft information, that is, unquantified
and unquantifiable information. In their view, soft information is not possible to
quantitatively determine and quantify with accuracy, especially when information is
future-oriented (Beattie et al. 2004).
The Global Reporting Initiative (GRI) contributes to promoting forward-looking
and non-financial indicators by helping firms to disclose environmental and social
sustainability items. Similarly, the World Intellectual Capital Initiative (WICI)
supports firms in defining and disclosing internal Key Performance Indicators
(KPIs) on intangibles (WICI 2010). Therefore, examples of non-financial and
forward-looking information are Intellectual Capital and the CSR disclosures.
Despite the aforementioned considerations about the growing relevance of this kind
of financial accounting information, a survey by PricewaterhouseCoopers (PwC
2007) demonstrates that analysts and investors do not rely on management infor-
mation, since they do not expect neutral behaviour by managers in disclosing
sensitive information. Managers are indeed prone to emphasizing the positive
performance of the company, hiding or simply omitting negative news and per-
formance (Silvi and Bartolini 2011).
In this framework, we can conclude that, especially recently, scholars have
emphasized the importance of reporting on governance, sustainability and social
topics in order to meet stakeholders’ expectations (Frías-Aceituno et al. 2013;
Skouloudis et al. 2010). The following sections will focus on IR, its role in
non-financial voluntary disclosure, and its theoretical and practical frameworks.

2.3 The Role of Integrated Reporting in Company
Disclosure

The voluntary decision to disclose IR is in the hand of internal managers, and firms
from different countries behave differently by producing different kinds of social
and environmental information (Dong and Stettler 2011; Frías-Aceituno et al.
2013). In this way, firms can meet stakeholders’ needs (Cohen et al. 2012) and
improve transparency, governance and decision- making (Adams and Simnett
2011). However, to date only 21% of listed firms disclose any sustainability
information (Bloomberg 2010). IR is embedded into the integrated thinking. As
pointed out by Churet and Eccles, integrated reporting is only the tip of the iceberg:
the visible part of what is happening below the surface. Integrated thinking is
2.3 The Role of Integrated Reporting in Company Disclosure 13

related to what is happening below the surface (Churet and Eccles 2014). The IR
framework clearly states that “The more that integrated thinking is embedded into
an organisation’s activities, the more naturally will the connectivity of information
flow into management reporting, analysis and decision- making. It also leads to
better integration of the information systems that support internal and external
reporting and communication, including preparation of the integrated report” (IIRC
2013: 2).
The IR Committee of South Africa defines the main aim of IR as follows, The
core objective of the Framework is to guide organizations on communicating the
broad set of information needed by investors and other stakeholders to assess the
organization’s long-term prospects in a clear, concise, connected and comparable
format. This will enable those organizations, their investors and others to make
better short and long-term decisions, (Integrated Reporting Council of South Africa
(IRCSA) 2011: 2). This confirms the relevance of IR in corporate disclosure in
order to create long-lasting value for each class of a firm’s stakeholders.
Furthermore, the International IR Committee defines IR as follows: “IR brings
together the material information about an organization’s strategy, governance,
performance and prospects in a way that reflects the commercial, social and
environmental context within which it operates. It provides a clear and concise
representation of how an organization demonstrates stewardship and how it creates
value, now and in the future. IR combines the most material elements of infor-
mation currently reported in separate reporting strands (financial, management
commentary, governance and remuneration, and sustainability) in a coherent whole,
and importantly: (1) shows the connectivity between them; and (2) explains how
they affect the ability of an organization to create and sustain value in the short,
medium and long term.” (International Integrated Reporting Council, U.K. (IIRC)
2011: 2).2
At the core of this framework is the need to link the financial and economic
impact of a firm to its social, governmental and environmental impacts as well. This
approach has its roots in ‘triple bottom line accounting’ (Elkington 1994), where
social and environmental reporting gained relevance.
Figure 2.1 shows the value creation process, presenting IR as designed by the
IIRC. The process encompasses the six pillars of IR, along with the mission, vision
and business model. In fact, IR is focused on six pillars, namely: (1) financial
capital; (2) manufactured capital; (3) human capital; (4) intellectual capital;
(5) natural capital and (6) social capital (see Fig. 2.1). The IIRC points out that the
role of the six forms of capital, in value creation, changes for different organiza-
tions, working in different industries, under different contextual factors
(International Integrated Reporting Council, U.K. (IIRC) 2011). For instance,
natural capital will be pretty much more important in the mining than in the service

2
The International IR Committee (IIRC) is an international cross-section of leaders from the
corporate, investment, accounting, securities, regulatory, academic, civilian and standard-setting
sectors (IIRC 2011: 3).
14 2 Integrated Reporting

Mission and vision

Financial Financial
Governance

Risk and Strategy and resource
Manufactured opportunities allocation Manufactured

Business model
Intellectual Intellectual

Inputs Business Outcomes
Outputs
activities
Human Human

Social and Social and
relationship Performance Outlook relationship

Natural Natural

External environment

Value creation(preservation, diminution) over time

Fig. 2.1 The value creation process (adapted from: IIRC (International Integrated Reporting
Council, U.K.) 2013)

industry. Moreover, intellectual capital will add a greater value in the fashion
industry, than in the commodity market, since the value relevance of brands will be
higher in the former, compared to the latter context.
Figure 2.2 shows that each class of capital is necessary to create value.
Moreover, the IIRC highlighted the relevance in disclosing the relationship between
different classes of capital in the value creation process (IIRC 2011). In fact,
reporting performance related to different classes of capital within the same firm is

EXTERNAL FACTORS

CAPITALS CAPITALS
Financial BUSINESS MODEL Financial
Manufactured Resources and How the organization Manufactured
Human relationships creates and sustains value VALUE Human
Intellectual in the short, medium and Intellectual
Natural longer term Natural
Social Social

Fig. 2.2 The business model (Adapted from: IIRC (International Integrated Reporting Council,
U.K.) 2013)
2.3 The Role of Integrated Reporting in Company Disclosure 15

different than issuing an IR. In order to effectively disclose the relationships
between different forms of capital, White contends that the concept of capital
stewardship should be taken into account (White 2010). This concept refers to the
“preservation and enlargement of multiple forms of capital, all of which contribute
to long-term value creation by the firm” (White 2010: 30). The capital stewardship
approach requires the reporting of three different linkages between capital classes
and their performance. First, the company’s ownership, control and influence of
different types of capital. Secondly, the change in the stock of each capital over the
observed period. Thirdly, how the change in stock of one form of capital affected
changes in other forms (White 2010).
The UK standard setter also identified content elements, which should be
included in an integrated report, i.e., an introductory section which should contain
the organizational overview and business model, the firm’s operating context (in-
cluding risks and opportunities), a section on strategic objectives and related
strategies to achieve them, followed by a governance and remuneration section, and
a performance and concluding section on the future outlook (IIRC 2011).
In order to produce an effective integrated report, companies should adhere to
the following main principles of IR:
1. Strategic focus and future orientation: an integrated report should provide
insight into the organization’s strategy and how that strategy relates to the
organization’s ability to create value in the short, medium, and long term and its
use of and effects on its forms of capital.
2. Connectivity of information: an integrated report should show, as a compre-
hensive value creation story, the combination, interrelatedness and dependencies
among the components that are material to the organization’s ability to create
value over time.
3. Stakeholder responsiveness: an integrated report should provide insight into the
quality of the organization’s relationships with its key stakeholders and how and
to what extent the organization understands, takes into account, and responds to
their legitimate needs, interests, and expectations.
4. Materiality and conciseness: an integrated report should provide concise
information that is material to assessing the organization’s ability to create value
in the short, medium, and long term.
5. Reliability and completeness: an integrated report should include all material
matters, both positive and negative, in a balanced way and without material
error.
6. Consistency and comparability: the information in an integrated report should be
presented on a basis that is consistent over time and in a way that enables
comparison with other organizations, to the extent it is material to the organi-
zation’s own value creation story (International Integrated Reporting Council,
U.K. (IIRC) 2011: 5).
16 2 Integrated Reporting

2.4 Integrated Reporting: Literature Review

The topic of IR has recently interested scholars, managers, professionals, organi-
zations, audit firms and the mass media from all over the world. The following
sections will analyze the literature streams which deal with IR. Recently, some
studies analyzed and reviewed the relevant literature on IR, by highlighting ante-
cedents and consequences of IR, such as country and firm characteristics correlated
to early-adopters of IR (Frias-Aceituno et al. 2013; Perego et al. 2016), or a relation
between the adoption of IR and quality of management (Churet and Eccles 2014).
According to Dumay and colleagues’ literature review (Dumay et al. 2016), the
relevant studies in IR can be analyzed according to jurisdiction, organizational
focus, country of research, research methods, IR frameworks and models, the
inclusion of academics, practitioners and consultants. Even though the literature
review by Perego et al. (2016) contends that the adoption of IR is higher in civil
law, compared to common law, countries, the investigation on the country of origin
of the firms adopting IR deserves more attention due to contextual variables that can
affect the decision and the implementation of IR and its thinking.

2.4.1 Integrated Reporting and Sustainability

IR can be seen as a response to a growing interest and requests from stakeholders
regarding social and environmental matters that affect the companies’ sphere
(Azcárate et al. 2011). Sustainability reporting and the transparency of environ-
mental and social performance have received more and more attention from
scholars, practitioners, and even the mass media (Kolk 2008). In fact, CSR could be
considered as a worldwide movement (Ditlev Simonsen and Gottschalk 2011) even
if this kind of reporting is mostly voluntary for firms all over the world. However,
recent literature has questioned the role of social and environmental accounting in
effectively supporting sustainable development, since many environmental indica-
tors are showing a decline in the natural environment condition (Cho et al. 2015;
Milne and Gray 2012).
IR provides some benefits in bringing together in a single document both
financial and non-financial information on the firm’s performance (Eccles and
Saltzman 2011). Such benefits could also be extended to not-for-profit organiza-
tions (Adams and Simnett 2011). In particular, Eccles and Saltzman have high-
lighted three main classes of benefits for firms that adopt IR, namely: (1) internal
benefits; (2) external market benefits; and (3) benefits from managing regulatory
risk. The first type of benefit, internal, regards lower reputational risk and a better
use of internal resources. On the other hand, external market benefits regard the fact
that stakeholders may be more and better informed about the financial and
non-financial performance of a company. Similarly, Arguelles et al. (2015) tested
the value relevance of IR and posited that early-movers, i.e., those companies which
2.4 Integrated Reporting: Literature Review 17

decided to voluntarily disclose an integrated report, also reported higher market
values compared to non-early-moving firms. However, there is a negative rela-
tionship between early-movers and market values for those firms showing a strong
adherence to the IIRC standards. Finally, the third class of benefits regards
advantages that firms can have regarding regulators, such as the possibility of being
involved as a main actor in developing frameworks and standards (Eccles and
Saltzman 2011).
Despite such considerations, only a few firms have adopted IR as a single
document (Eccles and Krzus 2010); this low rate of adoption could be due to extra
costs and resources needed to produce IR and to communicate this to external users
(Prado-Lorenzo and Garcia-Sanchez 2010).
Moreover, some scholars, such as Flower (2015), contend that IR has abandoned
the principles of sustainability, whereas others think that integrated and sustain-
ability reporting can coexist (Adams 2015).

2.4.2 Integrated Reporting and Corporate Governance

A recent debate among scholars has focused on the relationship between corporate
governance and sustainability, by investigating if good features of corporate gov-
ernance may foster sustainability in terms of social, environmental and organiza-
tional aspects (Aras and Crowther 2008; Jamali et al. 2008; Huang 2013). Some
scholars have investigated the relationship between board diversity and CSR per-
formance, finding that some features, such as generational and age diversity, are
relevant factors in improving corporate governance (Ferrero-Ferrero et al. 2015;
Post et al. 2011).
This topic has received growing attention from scholars and practitioners, since a
sound corporate governance is necessary to satisfy internal and external stakeholder
needs.
This kind of relationship is particularly relevant at a time where the topic of
corporate governance has become pivotal, especially after the global financial crisis
and the corporate scandals, since scholars have proven that weaknesses in corporate
governance may bring about earnings manipulation and financial statement fraud
(Carcello and Neal 2000) and, in the end, a firm’s failure (Kirkpatrick 2009).
Beltratti found that both corporate governance and CSR problems were responsible
for failures in the financial sector (Beltratti 2005), arguments which Sharma and
Khanna agree with (Sharma and Khanna 2014).

2.4.3 Integrated Reporting and Its Components

Although <IR> is the most common framework in the IR literature, there is still
open debate on which forms of capital and related items should be reported to
18 2 Integrated Reporting

assure the transparency and comparability of performance among companies.
Table 2.1 shows which items should be included for each component of the <IR>.
This list of items is not meant to be comprehensive, since in the spirit of integrated
thinking3 each company should report those components and items that best rep-
resent their social, environmental and economic position at the time of reporting.

2.4.4 Empirical Research on Integrated Reporting

Starting in 2013, when the IIRC framework was released, the amount of interest in
IR has mounted among accounting scholars (Velte and Stawinoga 2016). Velte and
Stawinoga (2016) have developed a research agenda for IR based on the level of
analysis, the main theories used by researchers, research methodologies, the main
input factors, and the output achieved. According to their findings, IR research is
mainly focused on the market and organizational levels of analysis, with few studies
at the group or individual levels of investigation. As for the research methodology
in use, surveys, interviews and archival studies are the most common methods. IR
assurance is an underdeveloped topic to date (Velte and Stawinoga 2016). The
quality of integrated reports issued by the top 40 listed companies on the JSE varies
from excellent to poor (Marx 2014). Recently, the IIRC has been strongly accused
of being a “story of failure” (Flower 2015: 1). Flower, in fact, stated that some of
the definitions of capitals are “tricky” and the boundaries between different capitals
are “fuzzy” (Flower 2015: 3). However, he also acknowledges that the main value
of the <IR> framework is not the structure of the scheme itself but its capability to
focus managers’ attention on the integrated management of the six forms of capital
included in the framework. When discussing the value that should be represented
and analyzed in the integrated report, Flower contends that there is a bias in the
selection of items included in the capitals, since they are included in the framework
only when they contribute to the creation of value for the firm. As a matter of fact,
capital items are not included when their value could be affected by the firm’s
operations.4 Adams replied to this argument by highlighting how IR is helping in
aligning the corporate objective of maximizing profit with social and environmental
objectives (Adams 2015). Moreover, when a trade-off between different types of
capital occurs, the company is allowed to describe it and justify its negative impact
(Flower 2015).

3
Integrative thinking is a term coined by the IIRC, which defines this approach as “The active
consideration by an organisation of the relationships between its various operating and functional
units and the capitals that the organisation uses or affect”. It adds “Integrated thinking leads to
integrated decision-making and actions that considers the creation of value over short, medium and
long term” (IIRC 2013: 2).
4
The IIRC framework states that, where a stewardship responsibility is not imposed by law or
regulation, the organization may nonetheless accept stewardship responsibilities in accordance
with growing stakeholder expectations, (IIRC 2013: 18).
2.4 Integrated Reporting: Literature Review 19

Table 2.1 Literature review on the components of IR
Items of each component of the IR Literature streams and standard setters
Financial Assets, debt, equity or grants IIRC
Intangibles, non-current assets, Abeysekera (2013)
short-term loans
Manufactured Buildings, equipment, and IIRC
infrastructure Novo Nordisk
Supplier audits Novo Nordisk
Product recalls Novo Nordisk
Failed inspections
Intellectual New patents IIRC, Novo Nordisk, Abeysekera
Intellectual capital (2013)
Culture IIRC, Abeysekera (2013)
Brands Abeysekera (2013)
Customers IIRC, Abeysekera (2013)
Copyrights Abeysekera (2013), Novo Nordisk
Software and organizational IIRC
systems IIRC
Procedures, processes, and IIRC
protocols
Human Corporate governance IIRC, King’s report
Number of employees Novo Nordisk
Employee turnover Novo Nordisk
Gender in management Novo Nordisk, Abeysekera (2013), UN
Frequency of accidents Global Compact
Training and development Novo Nordisk
Health and safety Abeysekera (2013)
Ethical values Abeysekera (2013), UN global compact
Leadership IIRC, Novo Nordisk, King’s report, UN
global compact
IIRC
Social and Donations Novo Nordisk
relationship Animal purchased for research Novo Nordisk
Independent directors Abeysekera (2013), King’s report
Audit committee Abeysekera (2013) King’s report
Common values and behaviours IIRC
Key relationships IIRC
Reputation, trust and loyalty IIRC, Novo Nordisk
Natural Energy consumption Novo Nordisk, Abeysekera (2013)
Water consumption IIRC, Novo Nordisk, Abeysekera
CO2 emissions from energy (2013)
consumption IIRC, Novo Nordisk
CO2 emissions from transport Novo Nordisk
Organic residues IIRC, Novo Nordisk
Waste Novo Nordisk
Non-hazardous waste Novo Nordisk
Breaches of regulatory limit Novo Nordisk, UN global compact
values IIRC
Minerals and forests IIRC
Biodiversity IIRC, UN global compact
Eco-system health
20 2 Integrated Reporting

2.4.5 Assurance of Integrated Reporting

Professional auditing of an organization’s financial performance is mandatory in
many European and non-European countries, whereas auditing of non-financial
performance is not mandatory in any country worldwide. Although integrated
thinking and reporting is becoming more and more widespread as a management
and accounting practice, few standards are available for the assurance of the
reported non-financial information. Hence, to get credibility on their reported
information and provide accountability, companies have to assure stakeholders that
they are committing themselves to creating social value (O’Dwyer and Owen
2005). Dando and Swift (2003) believe that independent third-party assurance
represents an instrument to bridge the credibility gap that characterizes the practice
of Social, Ethical and Environmental (SEE) reporting (Dando and Swift 2003).
However, to date assurance has been confined to some areas of the integrated
report: namely, sustainability performance, the GRI application check level, and
three accountability principles (Cheng et al. 2014). Some of the causes that prevent
an effective assurance of integrated reports are listed below:
1. liability concerns of the main accounting firms (Eccles et al. 2012);
2. lack of consensus on what “true and fair view” means for an integrated report
(Eccles et al. 2011);
3. lack of agreed upon guidelines and measures for the development of a standard
assurance procedure, or change in the extant standard auditing procedures (de
Villiers et al. 2014);
4. relevance of the assurance on the reported information, without an assurance of
the related procedures (Cheng et al. 2014).
Even though these limitations are not going to be sorted out in a foreseeable future,
preparers of the integrated report have to provide a strong assurance regarding the
disclosed non-financial information and find a way to link it to financial perfor-
mance (Adams 2015).
Mandating assurance of integrating reporting (IR) is another open question in the
related literature. As a matter of fact, Faisal et al. (2012) clearly stated that “‘vol-
untary’ assurance statements play an important role in improving the credibility of
disclosed information” (Faisal et al. 2012: 20). In fact, according to the findings of
research carried out by Faisal et al. (2012), companies with additional voluntary
assurance statements disclose more sustainability information compared with
organizations without those statements. Faisal et al. explain that “[f]rom the
legitimacy perspective, the adoption of such voluntary assurance statements may
lift the reputation of companies and strengthen and legitimise their social respon-
sibility activities” (Faisal et al. 2012: 30). Nonetheless, without a set of shared
assurance standards, voluntary assurance statements will be comparable only by
chance. In fact, given the different quality and content of assurance statements, the
2.4 Integrated Reporting: Literature Review 21

comparability of sustainability reports and performances is not realistic.
Standardized models used in financial auditing could be seen as an example but,
since the SEE assurance regards different dimensions of the performance, a standard
providing assurance for all dimensions of an organization’s social, environmental
and ethical information is needed, and the AA1000 assurance standard seems to
respond to this request. Moreover, Manetti and Becatti (2009) believe that the
credibility gap related to sustainability reports could be narrowed through assurance
service. They identify ISAE 300028 and AA100029 as the main international
standards for implementing assurance processes on sustainability reports. To
improve the current assurance services, the authors believe stakeholder expectations
should head the criteria for the relevance and materiality of the information dis-
closed in the report; the responsibility for the entire procedure should be given to
the professional assurance provider and not divided among external experts; the
levels of assurance adopted (reasonable, limited or no assurance) in the different
parts of the audit should be explicitly communicated; and the assurance provider
should verify legal compliance with the more restrictive national or international
norms (Manetti and Becatti 2009). In addition, recognizing that collaborating with
the financial audit team could be profitable for both audits, Manetti and Becatti
(2009) “recommend that a financial report be part of a broader sustainability report.
Alternatively, where these documents are separate, it is important that they are
published concurrently” (Manetti and Becatti 2009: 296).

2.5 Integrated Reporting: Comparison of the Main
Frameworks

A few IR frameworks have been developed over time. One of the pioneering
frameworks in this field is the one put forward by Novo Nordisk (de Villiers et al.
2014). Novo Nordisk’s approach was aimed at developing voluntary non-financial
disclosure together with financial mandatory disclosure. Although Novo Nordisk
has been recognised as a leader in the IR field (Dey et al. 2010), the mainstream
literature usually refers to two IR systems, i.e., the South African one and the
British one. The former, the King Report, is a set of standards that, starting from
March 1, 2010, has been enforced by the Johannesburg Stock Exchange on any
listed firm. Thus, South African listed companies have either to issue an IR or
explain the justification for not publishing it, following an ‘apply or explain’
approach (Barth et al. 2015). The latter, the Integrated model of the IIRC, is a
voluntary framework for reporting six different “resources and relationships” or
“capitals”, which provides a comprehensive situation of the company (International
Integrated Reporting Council, U.K. (IIRC) 2011). The remainder of this section will
present and critically compare the most relevant IR frameworks.
22 2 Integrated Reporting

RESOURCES FOCUS VALUE CREATED

- EXTERNAL:
WE DISCOVER, DEVELOP AND MANUFACTURE
Capital provided by INNOVATIVE BIOLOGICAL MEDICINES AND MAKE Improved health and
investors quality of life for people
THEM ACCESSIBLE TO PATIENTS THROUGHOUT
THE WORLD with diabetes and other
Insights from patients and serious chronic diseases
expertise from academic
and educational institutions
Return to shareholders
Raw materials

- INTERNAL: PATIENTS Contributions to
communities
Financial resources to invest
in R&D, production capacity
Tax contributions
and customer outreach

A skilled and diverse Job creation and
productivity
workforce CORPORATE STRATEGY
Biological research and Capacity and competence
manufacturing facilities
NOVO NORDISK WAY building

Fig. 2.3 Corporate strategy Novo Nordisk way (adapted from: Novo Nordisk 2016 Annual
Report: 4)

2.5.1 Novo Nordisk

Novo Nordisk is a Copenhagen-based healthcare company which has been widely
recognized as one of the companies producing high quality integrated reports
(Eccles and Krzus 2010).5 In 1995, it started issuing an environmental report along
with the annual financial report. In the following years, it continued to disclose
environmental and social information in a specific report. Starting from 2001, it has
also reported on the Triple Bottom Line (TBL) (Elkington 1994), and from 2004 it
has consistently issued an integrated report as a comprehensive corporate disclo-
sure. The company has also introduced a new managerial philosophy called “The
Novo Nordisk Way of Management”, which is grounded on the TBL approach,
where financial performance combines with social and environmental performance.
The company’s way of management is made up of eight specific topics ranging
from leadership, innovation, IR, ethics, and engagement. In 2015, the Novo
Nordisk way of management turned into the corporate strategy Novo Nordisk way,
which describes the company’s business model and takes into account the resources
used to create value for a variety of stakeholders (Fig. 2.3).
Financial performance is first disclosed in the report, followed by social and
environmental disclosures. This approach provides a hierarchy of different disclo-
sures, and thus of stakeholders, with the financial information at the top of the
company’s pyramid of disclosure. Novo Nordisk’s framework, which is consistent

5
Novozymes was the first company to issue an integrated report, although under the name of
“combined” rather than “integrated” report. Novo Nordisk and Novozymes demerged in 2000,
which gave the two companies the opportunity to carry on a similar reporting approach (Eccles and
Krzus 2010).
2.5 Integrated Reporting: Comparison of the Main Frameworks 23

with the TBL approach, links financial responsibility to social and environmental
responsibility, accounting for both short- and long-term targets.

2.5.2 The King Reports

In South Africa, the committee chaired by Professor Mervyn E. King issued four
sets of guidelines for the preparation of the integrated report. In 1994, the first
version of the report addressed issues of corporate governance and a code of
conduct to be voluntarily disclosed by South African firms.
Chapter 20 points out the key elements of the King I report (Institute of Directors
1994):
1. the makeup of the board of directors and its mandate, including the role of
non-executive directors and guidance on the categories of people who should
make up the non-executive directors;
2. appointments to the board and guidance on the maximum term for executive
directors;
3. the determination and disclosure of salaries for executive and non-executive
directors;
4. the frequency of board meetings;
5. balanced annual reporting;
6. the requirements for effective auditing;
7. affirmative action programs;
8. the company’s code of ethics.
In 2002, the second version of the King report was issued. King II focused more
on risk management and the triple bottom line approach to accounting, with a
specific section on integrated sustainability reporting. The need to revise the second
version of the King report is due to the Companies Act no. 71. In 2010, the King III
report was released with a stronger emphasis on IR, in order (for South African
firms) to effectively disclose (a) “how a company has, both positively and nega-
tively, impacted on the economic life of the community in which it operated during
the year under review”; and (b) “how the company intends to enhance those pos-
itive aspects and eradicate or ameliorate the negative aspects in the year ahead” (IR
Council of South Africa (IRCSA) 2011: 3). As previously stated (Sect. 2.5), starting
from financial year 2010, all the companies listed on the Johannesburg Stock
Exchange must issue or explain the reason for not adopting an integrated report
following King III guidelines.6 Thus, the JSE became the first stock market to

6
Since 2010 JSE companies have been called to comply with the IFRS and provide “(i) a narrative
statement of how it has applied the principles set out in the King Code, providing explanations that
enable its shareholders to evaluate how the principles have been applied; and (ii) a statement
addressing the extent of the company’s compliance with the King Code and the reasons for
non-compliance with any of the principles in the King Code, specifying whether or not the
24 2 Integrated Reporting

Reporting boundary for the integrated report
(risk, opportunities and outcomes)

Financial reporting entity
(control and significance influence)

Parent

Joint arrangements Subsidiaries Investments (other forms)

Business
Employees Customer Suppliers Cumminities Others
partners

Fig. 2.4 Stakeholders and entities in the IR process [adapted from: International Integrated
Reporting Council, U.K. (IIRC) 2013]

require a mandatory integrated report. More recently, in 2016 the King committee
shared a draft IV version of their report on corporate governance, which should be
applicable starting from 2017. The latest version of the South African guidelines on
IR focuses more on an ‘outcome-based’ rather than a ‘rule-based’ approach. As for
the integrated approach, the King IV report aligns itself with the principles provided
by the IIRC and the integrated thinking approach (Institute of Directors Southern
Africa 2016).

2.5.3 The Integrated Report <IR>

The International IR Council was founded in 2010 by two leading institutions in the
sustainability reporting landscape: the Prince’s Accounting for Sustainability
Project (A4S) and the Global Reporting Initiative (GRI). In December 2013, a draft
framework, the integrated report <IR> was released (IIRC 2013). The <IR>
accounts for six different forms of capital, ranging from financial capital to natural,
human, intellectual, social and manufactured capital (Fig. 2.4).
Financial capital has been defined as the “pool of funds available to the organi-
zation for use in the production of goods or the provision of services; it is obtained
through financing, such as debt, equity or grants, or generated through operations or

(Footnote 6 continued)
company has complied throughout the accounting period with all the provisions of the King Code,
and indicating for what part of the period any non-compliance occurred” (JSE Listing
Requirements: 135).
2.5 Integrated Reporting: Comparison of the Main Frameworks 25

investments” (International Integrated Reporting Council, U.K. (IIRC) 2011: 11).
Manufactured capital refers to “manufactured physical objects (as distinct from
natural physical objects) that are available to the organization for use in the pro-
duction of goods or the provision of services, including: buildings, equipment, and
infrastructure” (International Integrated Reporting Council, U.K. (IIRC) 2011: 11).
According to the IIRC, intellectual capital refers to “intangibles that provide com-
petitive advantage, including: intellectual property, such as patents, copyrights,
software and organizational systems, procedures and protocols, and the intangibles
that are associated with the brand and reputation that an organization has developed”
(International Integrated Reporting Council, U.K. (IIRC) 2011: 11). Human capital
regards “people’s skills and experience, and their motivations to innovate, including
their: alignment with and support of the organization’s governance framework and
ethical values such as its recognition of human rights, ability to understand and
implement an organization’s strategies, and loyalties and motivations for improving
processes, goods and services, including their ability to lead and to collaborate”
(IIRC (International Integrated Reporting Council, U.K.) 2011: 11). Social and
relationship capital is the set of “institutions and the relationships within and
between each community, groups of stakeholders and other networks, to enhance
individual and collective well-being. Social capital includes: common values and
behaviors, key relationships, and the trust and loyalty that an organization has
developed and strives to build and protect with customers, suppliers and business
partners, and an organization’s social licence to operate” (IIRC (International
Integrated Reporting Council, U.K.) 2011: 11). Natural capital addresses an input to
the production of goods or the provision of services. An organization’s activities also
impact, positively or negatively, on natural capital. Such activities include: air,
water, land, minerals and forests, and biodiversity and eco-system health (IIRC
(International Integrated Reporting Council, U.K.) 2011: 11).

2.5.4 The UN Global Compact

Produced in 1999 as a challenge by the secretary-general of the United Nations,
Kofi Annan, to the business leaders at the World Economic Forum, the United
Nations Global Compact aims at providing shared values and principles in a
globalized economic environment (Williams 2004). The United Nations Global
Compact sets out ten principles, which can be grouped into four main areas (United
Nations Global Compact 2016: 3)7:

7
The ten principles of the UN Global Compact are grounded on agreements signed by govern-
ments at UN forums, such as The Universal Declaration of Human Rights (1948), the Rio
Declaration on Environment and Development (1992); The international labor organization’s
fundamental principles and rights at work (1998); the UN convention against corruption.
26 2 Integrated Reporting

1. “Human rights:
(a) Businesses should support and respect the protection of internationally
proclaimed human rights;
(b) They should make sure that they are not complicit in human rights abuses;
2. Labour standards:
(a) Businesses should uphold the freedom of association and the effective
recognition of the right to collective bargaining;
(b) The elimination of all forms of forced and compulsory labour;
(c) The effective abolition of child labour;
(d) The elimination of discrimination in respect of employment and occupation;
3. Environment:
(a) Businesses should support a precautionary approach to environmental
challenges;
(b) Undertake initiatives to promote greater environmental responsibility;
(c) Encourage the development and diffusion of environmentally friendly
technologies;
4. Anti-corruption:
(a) Businesses should work against corruption in all its forms, including
extortion and bribery”.
As of 2016, the UN Global Compact is the largest network of sustainable
businesses in the world, with 8800 businesses in 165 countries. It has evolved from
general management principles to specific areas of sustainable development, such
as the Principles of Responsible Management Education (PRME)8 and the
Principles for Responsible Investment (PRI).9 As a result of the World Economic
Forum meeting, in 2015 a 2030 agenda was produced, comprising a collection of
17 aspirational Sustainable Development Goals (SDG):
1. No poverty;
2. Zero hunger;
3. Good health and well-being;
4. Quality education;
5. Gender equality;
6. Clean water and sanitation;
7. Affordable and clean energy;

8
The PRME initiative aims at inspiring and championing responsible management education,
research and thought leadership globally. It was launched in 2007 at the UN Global Compact
Leaders Summit (Kell 2013).
9
The PRI started in 2006 at the New York Stock Exchange. They were defined by a network of
international investors working together to integrate environmental, social, and governance issues
into the investment decision-making process (Kell 2013).
2.5 Integrated Reporting: Comparison of the Main Frameworks 27

8. Decent work and economic growth;
9. Industry, innovation and infrastructure;
10. Reduced inequalities;
11. Sustainable cities and communities;
12. Responsible consumption and production;
13. Climate action;
14. Life below water;
15. Life on land;
16. Peace, justice and strong institutions;
17. Partnerships for the goals.
Kell (2013) identified four main strengths of the Global Compact over the first
12 years of its existence: the relevance of its “underlying idea” (Kell 2013: 45); the
fact it has been strongly supported by the secretary-generals of the United Nations;
the support it has received from member states; and the operationalization of its
underlying idea in a robust governance framework with strong private sector
engagement and the design of “effective” accountability measures. An example of
this is the visible expression of each participant’s commitment to the principles
addressed by the Global Compact, that is, the Communication on Progress (COP);
(United Nations Global Compact 2015). The COP is an annual report issued by the
participants on the sustainability performance over the reporting period in accor-
dance with accountability and transparency principles. The report is structured into
three sections:
1. a statement by the CEO of the participants on the support for the Global
Compact’s principles;
2. a description of specific actions to implement the ten principles;
3. a measurement of outcomes.
The UN Global Compact supports the use of international standard frameworks,
such as GRI, IR, ISO 26000 and CDP, when preparing their COP (United Nations
Global Compact 2016).
Even though the COP has been regarded as a commendable initiative to monitor
the degree of implementation of the ten principles by participants, there is still a
lack of effective tools to check whether or not participants are putting in place
dysfunctional behaviors (United Nations 2010).

2.6 A Focus on the South African Experience

As discussed in the previous section, a general widespread framework of IR is due
to two entities, which are the King Report on Governance for South Africa
(Integrated Reporting Council of South Africa (IRCSA) 2011) and the
International IR Council in the U.K. (International Integrated Reporting Council, U.
K. (IIRC) 2011). Since the IR council of South Africa decided to set up the IR
28 2 Integrated Reporting

Committee (IRC),10 the guidance in South Africa on how to prepare and apply IR
became a good practice among practitioners, and companies listed on the South
African Johannesburg Stock Exchange (JSE) have to disclose an integrated report.
South Africa is the first country in which IR is used on a large scale across listed
companies (King Committee on Governance 2013).

2.6.1 The South African Context

South Africa, with a population of around 53 million people, is a multi-ethnic
country encompassing a wide variety of cultures, languages, and religions and
containing 11 official languages. Until 2015, South Africa was classified as an
upper-middle-income economy by the World Bank, whereas today it is classified as
a developed and a newly industrialized country (STAT SA 2011).
Even if South Africa has a relatively high GDP per capita compared to other
countries in Sub-Saharan Africa, it also has a high rate of poverty, unemployment
and income inequality. Since the end of apartheid in 1994, the need for social and
economic empowerment of the black population has been a driving force in the
development and evolution of the King Reports. As a matter of fact, it has been
widely acknowledged that South African companies were the first to address IR
issues because of the consequences of the end of apartheid.

2.6.2 The Quality of Integrated Reporting in South Africa

In 2012, the Association of Chartered Certified Accountants (ACCA) issued a
report on the content analysis performed on the integrated reports of the ten major
listed companies in South Africa (Solomon and Maroun 2012). They developed
measures to assess the degree of integration in the social, environmental and ethical
information reported by JSE listed companies.11 The findings highlight a variation

10
The IRC is an association composed of practitioners in South Africa. The association was
founded in 2010 in order to develop guidelines on good practice in IR and to promote IR in South
Africa. The five founding organizational bodies in South Africa are: Association for Savings &
Investment South Africa (ASISA), Business Unity South Africa (BUSA), Institute of Directors in
Southern Africa (IoDSA), JSE Ltd, the South African Institute of Chartered Accountants (SAICA),
the Banking Association South Africa (BASA), and the Chartered Secretaries Southern Africa
(CSSA). In 2011, the Principal Officers Association and the Government Employees Pension Fund
joined the IRC. Other entities have also joined the IRC: namely, the Institute of Internal Auditors
South Africa (IIA SA), Financial Services Board (FSB), and SASBO, the finance union.
11
There are three main measures used by ACCA to assess the level of integration in a company’s
report (Solomon and Maroun 2012: 10): 1. “cumulative change over time (CCOT) measures the
cumulative change (increase/decrease) in the number of sections in which each item of environ-
mental, social and ethical information is recorded over the two/three years examined”; 2. “%
2.6 A Focus on the South African Experience 29

in the items reported by companies in the survey. However, the vast majority of the
disclosed items are included in the social category, which is also more integrated
compared to environmental and ethical ones. Across the sample, some of the areas
that are more frequently disclosed by the surveyed sample are related to employee
health and safety, compensation, risk and risk management, and materiality. KPIs
are largely used in most of the reports. Moreover, with the introduction of the
mandatory requirement for disclosing an integrated report, companies have started
reporting new items and sections related, for instance, to transparency, HIV/AIDS,
climate change and biodiversity, and carbon offsetting. As for the stakeholder
orientation, the sample reports stressed the shift from shareholders to a broader set
of stakeholders, which is also witnessed in the rhetoric of the Chairman’s statement.
In fact, most of the reports disclose environmental, social and ethical performance
integrated with corporate governance policy and structure. From this perspective,
companies are effectively achieving one of the objectives of IR, which is the design
and implementation of corporate governance procedures to improve social, envi-
ronmental and ethical issues. Finally, the ACCA report discusses the IR assurance
policy. The Johannesburg Stock Exchange does not require listed companies to
provide an assurance statement for the integrated report. However, some of the
companies are looking at alternative assurance options, ranging from large audit
firms to “boutique” assurance firms, to assure sustainability information (Rhianon
Edgley et al. 2010). The ACCA’s report provides some recommendations for the
improvement of IR. First, a more focused and synthetic approach should be pursued
in order to effectively increase the readability and usability of the report by a large
set of stakeholders. Secondly, stakeholders’ views and needs should be increasingly
solicited when preparing the report in order to present a comprehensive approach to
IR. Thirdly, an assurance statement is desirable, though it is not mandatory yet, in
order to ensure that the company is actually having an impact on social, environ-
mental and ethical issues. Therefore, companies should strive to present sustain-
ability information previously checked by an assurance firm (Solomon and Maroun
2012). The ACCA’s analysis has the advantage of taking a longitudinal approach.
However, it is focused on a limited sample size, which is made up of only ten
companies. Therefore, the findings cannot be generalized to the whole JSE
population.
The 2014 PricewaterhouseCoopers survey on the integrated reports disclosed by
the top 40 companies listed on the JSE pointed out relevant issues. The audit firm
took into account one hundred factors to assess the quality of a company’s IR. The
findings revealed that some areas are effectively reported whereas others are not.
While reporting related to strategy and resource allocation turned out to be

(Footnote 11 continued)
positive changes in number (N) of sections measures the percentage of items in each grouping
(social, environmental and ethical) that are reported in an increased number of sections over the
period”; 3. “% positive changes or no change in the number (N) of sections measures the
percentage of items in each grouping (social, environmental and ethical) that are reported in an
increased or the same number of sections over the period”.
30 2 Integrated Reporting

effectively communicated, governance was not. Thus, the following six themes
were put forward and discussed (PricewaterhouseCoopers2015: 2–3):
1. who is the audience?;
2. agility in the face of change;
3. embedded integrated thinking;
4. putting the ‘K’ in KPI;
5. approaching business with an outcome in mind;
6. thinking about tomorrow, today.
As for the audience theme, results from the survey highlighted that only a third
of the companies effectively identified who the relevant stakeholders are, as well as
the opportunities, challenges and threats linked to an effective prioritization of
stakeholder needs: i.e., the material issue for the future viability of the business.
The second issue deals with market changes, which are rapid and unpredictable.
Thus, there is a need for companies to effectively adjust strategies accordingly. In
fact, only 53% of the sample explains the effect of external drivers of future growth
in the IR report.
The PwC highlighted that although there has been a general improvement in the
reporting quality of South African companies, most of this is due to “cosmetic”
changes (PricewaterhouseCoopers 2015, p. 6). Therefore, companies are called to
adopt a more integrated thinking approach when deploying their strategy. In the
PwC survey, 39% of the companies failed to address a clear strategic vision;
however, 81% discuss plans to achieve that vision.
Effective evaluation is linked to an ongoing assessment of key areas of a
company’s performance, a consequence of which, the report pointed out, is a
general need to refocus performance on key strategic areas. In fact, only 31% of the
reports clearly identified the KPIs and the reason behind their inclusion in the
performance measurement system.
The fifth issue involves the management and reporting of a corporate’s impact,
which entails effectively linking managerial information to the value created.
According to the PwC report, only 39% of the companies discussed their impact on
external non-financial capitals and only 11% effectively addressed the link between
non-financial capitals and financial performance (PricewaterhouseCoopers 2015).
The surveyed reports failed to effectively portray the outlook of the business,
since the section about the forward view is lacking in content and materiality. This
is true in 92% of the cases.

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Chapter 3
Audit Quality

Abstract The concept of audit quality has been widely discussed in both theory
and practice regarding the features and items that characterize the effectiveness of
audit procedures and services. Recently, audit quality has received massive atten-
tion by the mass media, practitioners, firms, regulators and scholars, especially after
the financial crisis of 2008. Within this field, one of the most crucial activities that
auditors perform in the audit process is the assessment of audit risk, in order to
identify and evaluate the components of audit risk and the interdependencies among
them. Several research streams emerge from the literature. This Chapter focuses on
the following: the relationship between audit risk and audit fees; the audit risk
evaluation in the client-acceptance decision; the link between audit risk and cor-
porate governance; and the audit risk model in light of the global financial crisis.
The Chapter ends with a new proposal for measuring audit risk; in particular, audit
risk could be measured from a qualitative and quantitative point of view.
Qualitative features of the audit risk model are related to the corporate governance
system in place within the firm and the quality of the internal control system, while
quantitative features refer to the size of the company, usually measured by total
revenues, total assets or total shareholders’ equity.

3.1 Introduction

The following sections focus on the analysis of audit quality and procedures and the
definition of the audit risk model from both a standard setter’s and theoretical
viewpoint. Furthermore, one section provides a comprehensive literature review on
audit risk assessment, with a special focus on the European setting after the global
financial crisis. The Chapter ends with a new proposal to measure the audit risk
model, encompassing both qualitative and quantitative features of the audit risk.

© Springer International Publishing AG 2017 37
C. Demartini and S. Trucco, Integrated Reporting and Audit Quality,
Contributions to Management Science, DOI 10.1007/978-3-319-48826-4_3
38 3 Audit Quality

3.2 Assessment of the Audit Quality

Independent external auditors have to evaluate if the financial statements of client
firms are planned according to professional standards and present fairly the financial
and economic situation of the firm (ISA 700).1 As a result of their procedures and
formal controls, they need to issue a professional report: namely, an auditor’s report
whose pivotal section is the audit opinion.2 The audit opinion can be (1) an
unqualified opinion, when the auditor concludes that the annual report gives a true
and fair view in accordance with the financial reporting framework used for the
preparation and presentation of the financial statements; (2) a qualified opinion,
when the financial statements is affected by a material misstatement or when the
auditor is unable to obtain audit evidence, that is, a limitation in scope; (3) an
adverse opinion, when the financial statements are materially misstated and such
misstatements have a pervasive effect on the financial statements; and (4) a dis-
claimer of opinion, when auditors do not express an opinion on the financial
position of a firm because (a) they are not able to complete the control procedures or
(b) the examination is not broad enough in scope to enable them to form and issue
an audit opinion. An audit opinion coherent with the real business situation of the
audited firm could reduce the information asymmetry between capital demand and
supply, and thus could improve the investors’ awareness of the risks they run in
investing in the audited companies (Holt and DeZoort 2009).
The concept of audit quality is widely discussed both in theory and practice,
questioning the features and items that characterize the effectiveness of the audit
procedures and services (DeAngelo 1981). In the end, the audit quality may be
defined as the skills auditors have in discovering a weakness in the accounting
system of the client firm and reporting it (DeAngelo 1981). Recently, audit quality
has received massive attention by the mass media, practitioners, firms, regulators
and scholars, especially after the financial crisis of 2008 (Bell et al. 2015). As a
proxy for the assessment of the audit quality, scholars have used external features
such as abnormal accruals, accounting restatements, going concern opinions (Cahan
and Zhang 2006; Davis et al. 2009), and the internal assessment of the audit process
carried out by internal reviewers at an international audit firm (Big4 auditing
company), which used an overall audit quality rating for the engagement and the
number of deficiencies per engagement (Bell et al. 2015). The former external
measures of audit quality are generally used among scholars, since they are
accessible to researchers as they are based on financial reporting or on some audit
outcomes. On the other hand, internal measures of audit quality are not accessible to

1
The ISA clarified the objectives of external auditors as follows: “The objectives of the auditor are:
(a) To form an opinion on the financial statements based on an evaluation of the conclusions
drawn from the audit evidence obtained; and (b) To express clearly that opinion through a written
report that also describes the basis for that opinion.” (ISA 700: 654).
2
The auditor’s report shall include a section with the heading “Opinion.” (ISA 700: 660).
3.2 Assessment of the Audit Quality 39

Fieldwork and Risk
Planning Reporting Follow-up
documentation exposure

Fig. 3.1 The audit process. Source authors’ presentation

researchers, since they focus on auditors’ skills and efforts and audit evidence in
general (Bell et al. 2015).
In practice, when auditors begin the audit process in an engagement, they need to
develop an audit program on the basis of their previous experience in similar
contexts, in the case of a new engagement, or of the prior years’ audit program in all
other cases (Low 2004). In doing so, they plan the investments, resources, time and
effort needed to carry out the audit process. The audit process is composed of five
main steps, namely: (1) audit planning; (2) fieldwork and documentation; (3) risk
exposure; (4) reporting; and (5) follow up (the entire audit process is presented in
Fig. 3.1).
In the audit planning phase, auditors perform the following activities: receipt of
announcement letter; analysis of the firm’s environment and business; preliminary
analysis of the client firm (management and staff interviews); preliminary analysis
of the financial statements of the client firm; preliminary analysis of the internal
control system;3 preliminary analysis of the inherent risk and control risk;4 review
of the audit’s scope and objectives (the audit planning phase is presented in
Fig. 3.2).
In the fieldwork and documentation phase, auditors perform the following
activities: interviews with key staff on procedures; general controls and
walk-through tests and initial risk assessment of the internal control system of the
client firm; audit test of processes and procedures and communication throughout
on audit progress and potential findings (the fieldwork and documentation phase is
presented in Fig. 3.3). In the risk exposure phase, auditors perform the following
activities: the overall risk exposure evaluation and validation of inherent risk and

3
The internal control system is responsible for verifying the reliability of overall financial
accounting disclosure and safeguarding internal assets from intentional and non-intentional losses.
In the U.S., Sect. 404 of the Sarbanes Oxley Act (SOX) introduced a mandatory judgement by
audit firms on management’s assessment of the overall internal control system. One of the most
common definitions of internal control system is that proposed by the COSO Report. This model
defined five components, namely: (1) control environment; (2) risk assessment; (3) control
activities; (4) monitoring; and (5) information and communication. In 1992, the COSO report
defined the internal control system as follows: “Internal control is broadly defined as a process,
effected by an entity’s board of directors, management and other personnel, designed to provide
reasonable assurance regarding the achievement of objectives in the following categories: effec-
tiveness and efficiency of operations; reliability of financial reporting; compliance with applicable
laws and regulations” (COSO 1992: 3).
4
For a complete analysis of inherent risk and control risk see Sect. 3.2.1.
40 3 Audit Quality

Audit planning

1) Receive announcement letter
2) Analysis of the firm's environment and business
3) Preliminary analysis of the client firm (management and staff
interviews)
4) Preliminary analysis of the financial statements of the client firm
5) Preliminary analysis of the internal control system
6) Preliminary analysis of the inherent risk and control risk
7) Review audit scope and objectives

Fig. 3.2 Audit planning. Source authors’ presentation

Fig. 3.3 Fieldwork and documentation. Source authors’ presentation

control risk; risk exposure presentation to management regarding the client firm;
and management solution development (the risk exposure phase is presented in
Fig. 3.4).
In the reporting phase, auditors perform the following activities: conduct the
closing meeting with top management to discuss observations and recommenda-
tions; conduct a review of the entire audit process; issue a draft report on the audit
process; issue the report recommendation and request that top management address
the observations and issue a final report that includes a management response (the
reporting phase is presented in Fig. 3.5). In the final follow-up phase, auditors
perform the following activities: periodically contact top management to request an
update on the progress of the report recommendation; additional tests and the
preparation of an audit review of the issues highlighted in the audit report (the
follow-up phase is presented in Fig. 3.6).
Scholars have found that the audit quality depends on auditor independence
(Tepalagul and Lin 2015); others have observed that audit quality changed during
3.2 Assessment of the Audit Quality 41

Risk exposure

1) The overall risk exposure evaluation and validation of inherent risk and
control risk
2) Risk exposure presentation to management of the client firm
3) Management solution development

Fig. 3.4 Risk exposure. Source authors’ presentation

Reporting

1) Conduct closing meeting with top management to discuss observations and
recommendations
2) Conduct a review of the entire audit process
3) Issue draft report on the audit process
4) Issue the report recomendation and request top management to address the
observations
5) Issue final report with management response included

Fig. 3.5 Reporting. Source authors’ presentation

Follow-up

1) Periodically contact top management to request an update of the report
recommendation progress
2) Perform additional tests
3) Post audit review of the audit report issues

Fig. 3.6 Follow-up. Source authors’ presentation

the engagement, with auditors becoming more conservative over the last three years
(Cameran et al. 2016). The prior literature and regulators agree that auditor inde-
pendence can affect the whole audit process, and therefore the audit quality, since
the probability of reporting irregularities in the accounting system of the client firm
decreases if the auditor is not independent in his/her engagement (Tepalagul and
42 3 Audit Quality

Lin 2015). The topic of auditor independence was particularly evident in 2002 in
the U.S. with the passage of the Sarbanes-Oxley (SOX) Act, which increased the
guarantee that auditors would be independent in their engagement. As a matter of
fact, SOX prohibited audit firms from providing certain non-audit services to
audited companies5 and required audit committee pre-approval of all audit and
non-audit services and lead audit partner rotation every five years rather than
every seven years (Ernst and Young 2013), in order to improve the quality of the
external auditing.
The following sections analyze the audit risk model from both a theoretical and a
standard setter’s viewpoint to highlight the main components of audit risk and shed
some light on the practical determinants and items that could be encompassed in
each component of the audit risk model.

3.2.1 Audit Risk Model: Standard Setter’s Viewpoint

One of the most crucial activities that auditors have to perform in the audit process
is the assessment of the audit risk, in order to identify and evaluate the components
of the audit risk and their interdependence. This activity is particularly relevant in
the new client-acceptance decision, when auditors have to deal with the acquisition
of significant information regarding the new client firm in a very short time (Public
Company Accounting Oversight Board 2011; Bell et al. 2015).
Recently, some scholars have emphasized the relevance for external auditors of
providing a clear definition and understanding of the audit risk model in order to go
on with their audit activity (Botez 2015). Although auditors usually use the terms
“high, medium and low” to define the audit risk, there is no common formula that
auditors can use to evaluate the threshold for defining each class of risk. Scholars
have highlighted that both international auditing standards and professional
guidelines are not able to define the audit risk model (Spector 2007). Furthermore,
firms’ failures have emphasized the real necessity to revise the audit procedure as a
whole by revealing the weaknesses in the actual audit practices, while also raising
the suspicion that external auditors are not always fully independent (Ghosh and
Moon 2005). Audit risk necessarily increases when auditors need to increase their
efforts and investment in response to the potential risk that the financial statements
of the client firms may contain some material misstatement (Houston et al. 1999).
Practitioners, standard setters and scholars agree that audit risk entails the
likelihood that auditors fail to issue a correct and fair opinion on the financial

5
SOX states that “The auditor is prohibited from providing the following non-audit services to an
audit client including its affiliates: Bookkeeping; Financial information systems design and
implementation; Appraisal or valuation services, fairness opinions, or contribution-in-kind reports;
Actuarial services; Internal audit outsourcing services; Management functions or human resources;
Broker-dealer, investment adviser, or investment banking services; and Legal services and expert
services unrelated to the audit.” (SOX 2002).
3.2 Assessment of the Audit Quality 43

statement of a client firm (Shibano 1990; Houston et al. 1999; Hogan and Wilkins
2008). This can occur when either the auditors fail to detect a material misstate-
ment,6 and thus issue an unqualified opinion instead of a modified opinion (ISA
200), or if the auditor overestimates the audit risk and thus issues a qualified
opinion rather than an unqualified one, even if the international standard on auditing
clarifies that “For purposes of the ISAs, audit risk does not include the risk that the
auditor might express an opinion that the financial statements are materially mis-
stated when they are not. This risk is ordinarily insignificant.” (ISA 200: 88).
The concept of materiality recognizes that some matters are important for a fair
presentation of financial statements in conformity with the GAAP, while other
matters are not important. The International Standards on Auditing did not provide
a clear model of audit risk, since they just gave the following definition: “Audit risk
is the risk that the auditor expresses an inappropriate audit opinion when the
financial statements are materially misstated. Audit risk is a function of the risks of
material misstatement and detection risk.”(ISA 200: 75). Furthermore, ISA 200
specifies that “The assessment of risks is a matter of professional judgment, rather
than a matter capable of precise measurement” (ISA 200: 88).
SAS No. 39 and 47 (American Institute of Certified Public Accountants
(AICPA) 1997) provide a clearer guide to the auditors in assessing the audit risk
and defining the audit risk model, thereby identifying the key determinants of the
audit risk: inherent risk, control risk and detection risk, and the relationship among
them. Inherent risk is defined as the likelihood that an account balance or class of
transactions contains a material misstatement, without considering the internal
accounting controls.7 Control risk is defined as the probability that a material
misstatement will not be detected by the internal controls of a firm,8 while detection

6
Materiality is a widely discussed concept in both the theory and practice in the fields of
accounting and auditing (Messier Jr et al. 2005). The Financial Accounting Standards Board’s
Discussion Memorandum (FASB 1975: 3) states: “The concept of materiality pervades the
financial accounting and reporting process. It influences decisions regarding the collection, clas-
sification, measurement, and summarization of data concerning the results of an enterprise’s
economic activities.” In the auditing process, materiality is useful to evaluate the results of the
auditing tests (Messier Jr et al. 2005). The determination of the threshold is under auditors’
discretion and the materiality is defined at the beginning of the audit process, representing the
“amount by which the account or class of transactions can be misstated and not be considered
material” (Messier Jr et al. 2005: 156).
7
The ISA defined inherent risk as follows: “The susceptibility of an assertion about a class of
transaction, account balance or disclosure to a misstatement that could be material, either indi-
vidually or when aggregated with other misstatements, before consideration of any related con-
trols” (ISA 200: 77).
8
The ISA defined control risk as follows: “The risk that a misstatement that could occur in an
assertion about a class of transaction, account balance or disclosure and that could be material,
either individually or when aggregated with other misstatements, will not be prevented, or
detected and corrected, on a timely basis by the entity’s internal control.” (ISA 200: 77).
44 3 Audit Quality

Inherent Risk High (3) Medium 3 High 6 (2*3) High 9 (3*3)
(1*3)
Medium (2) Low 2 (1*2) Medium 4 High 6 (3*2)
(2*2)
Low (1) Low 1 (1*1) Low 2 (2*1) Medium 3
(3*1)
Low (1) Medium (2) High (3)

Control Risk

Fig. 3.7 Audit risk assessment matrix. Source authors’ presentation

risk is defined as the likelihood that a material misstatement will not be caught by
the auditor’s procedures.9
The audit risk model is expressed as in the following formula:

Audit risk ¼ inherent risk x control risk x detection risk

Or as follows:

Detection risk ¼ acceptable audit risk=ðinherent risk x control risk Þ

According to the audit risk model, auditors need to set materiality and assess
acceptable audit risk, inherent risk and control risk, whereas the detection risk is
defined by solving the second equation. The acceptable audit risk measures the
level of risk that auditors are willing to accept that the financial statement of a client
firm contains a material misstatement when the audit process has been concluded
and the auditors have issued an unqualified opinion.
Alternatively, the audit risks can be evaluated qualitatively using the audit risk
assessment matrix (Fig. 3.7), where inherent risk (y-axis) and control risk (x-axis)
are assessed as “Low, Medium, High”. The combination of inherent risk * control
risk in the audit risk assessment matrix determines the level of the risk of material
misstatement [for example: if inherent risk = Medium (2) and control risk = Low
(1), the risk of material misstatement would be Low (2  1 = 2)]. Figure 3.7 shows

9
The ISA defines detection risk as follows: “Detection risk relates to the nature, timing and extent
of the auditor’s procedures that are determined by the auditor to reduce audit risk to an
acceptably low level. It is therefore a function of the effectiveness of an audit procedure and of its
application by the auditor. Matters such as: 1) adequate planning; 2) proper assignment of
personnel to the engagement team; 3) the application of professional skepticism; and 4) super-
vision and review of the audit work performed, assist to enhance the effectiveness of an audit
procedure and of its application and reduce the possibility that an auditor might select an
inappropriate audit procedure, misapply an appropriate audit procedure, or misinterpret the audit
results.” (ISA 200: 90).
3.2 Assessment of the Audit Quality 45

the audit risk assessment matrix. Detection risk is instead inversely related to the
risks of material misstatement. For example, if inherent risk and control risks are
high, the acceptable level of detection risk needs to be low to reduce the audit risk
to an acceptable low level. This requires an increase in the substantial tests required.
On the other hand, if inherent risk and control risks are low, a higher level of
detection risk can be accepted, which reduces the substantial tests required.
Therefore, the audit risk model is based on the capability of auditors to combine
the risk of material misstatement with both the risk that the internal control system
of client firms will fail to detect and correct material misstatements and with the risk
that the external auditor will not detect such distortions (Botez 2015). In the end,
audit risk is a guide for audit planning (Cushing and Loebbecke 1983).

3.2.2 Audit Risk Model: A Theoretical Framework

The extant literature on audit risk highlights the difficulties in assessing it and
testing the dependencies among components of risk (Dusenbury et al. 2000;
Fukukawa and Mock 2011; Budescu et al. 2012). Some scholars have emphasized
the difference between audit risk and business risk, arguing that the definition of the
second kind of risk is much wider than the first. As a matter of fact, audit risk occurs
when auditors issue an unqualified audit opinion and the financial statement of the
client firm contains a material misstatement, whereas business risk encompasses
audit risk and the risk of the financial failure of the client firm (Houston et al. 1999).
This perspective is also confirmed by the international standards on auditing, which
specifies that: “Further, audit risk is a technical term related to the process of
auditing; it does not refer to the auditor’s business risks such as loss from litigation,
adverse publicity, or other events arising in connection with the audit of financial
statements.” (ISA 200: 88).
Despite the difficulties in defining and evaluating the components of the audit
risk model, some scholars have attempted to assess the overall audit risk and its
components (Shibano 1990; Strawser 1991; Matarneh 2011). Shibano (1990),
taking advantage of game theory and the strategic-testing theory, could be con-
sidered as the proponent of a formal basis for a professional advanced model in this
field. In the above-mentioned model, Shibano includes the possibility of either
unintentional or intentional misstatements, in contrast with the prior literature,
which did not include the possibility of intentional misstatements (Fellingham and
Newman 1985; Newman and Noel 1989). Strawser (1991) and Matarneh (2011),
through a survey submitted to auditors, demonstrated the relevance of the auditors’
judgements on audit risk assessment. In particular, Strawser (1991) demonstrated
the relevance in assessing each component of audit risk, which could be different
from the overall assessment of the audit risk model, thereby concluding that the
audit risk model defined by standard setters is not strictly applied in practice. More
recently, Matarneh (2011) agreed on the importance of a strong cooperation
between external and internal auditors during the audit process in order to reduce
the overall level of audit risk.
46 3 Audit Quality

Furthermore, the prior literature attempts to identify the practical key determi-
nants of audit risk, such as the client’s business risk (Bell et al. 2001; Stanley 2011),
the clients’ internal corporate governance features (Bedard and Johnstone 2004;
Hogan and Martin 2009), the litigation risk (Pratt and Stice 1994), book-tax dif-
ferences (Heltzer and Shelton 2015), the client’s financial condition (Pratt and Stice
1994), and the industry specialization (Low 2004).
Within this framework, some scholars have analysed proxies and items for each
component of the audit risk model (inherent risk, control risk and detection risk),
even the literature on this is not vast and, to the best of our knowledge, there have
been very few recent studies on this topic. According to the prior literature, inherent
risk seems to be associated with the nature of a client’s business, its size, com-
plexity, leverage, and significant accruals such as receivables and inventory
(Anderson 1978; Maletta and Kida 1993; Mock and Wright 1993; Pratt and Stice
1994; Taylor 2000). Control risk seems to be determined by management’s attitude
toward internal controls, management quality and the audit committee quality
expressed in terms of audit committee independence and audit committee financial
experiences (Johnstone 2000; Krishnan 2005; Jiang and Son 2014). Scholars have
found that, in the presence of weaknesses regarding internal controls, firms show
lower accruals quality and, therefore, an increase in the probability of litigation
against external auditors (Abbott et al. 2006; Doyle et al. 2007; Ashbaugh-Skaife
et al. 2008). Both inherent risk and control risk have been found to be closely linked
to audit adjustments (Ruhnke and Schmidt 2014). Finally, the literature on the
construction of detection risk seems to have been hardly addressed, even if the
auditing standards (American Institute of Certified Public Accountants (AICPA)
1997) seem to suggest that detection risk may be especially associated with auditor
tenure and the quality of its auditing activities.
Table 3.1 shows a literature review on the items encompassed in the evaluation
of the audit risk.

Table 3.1 Literature review on the components of the audit risk
Items of each component of the audit Literature streams and standard setters
risk
Inherent Client’s business Anderson (1978), Maletta and Kida
risk Client’s size (1993), Mock and Wright (1993),
Client’s complexity Pratt and Stice (1994), Taylor (2000)
Leverage
Significant accruals (receivables and
inventory)
Control Internal control system; management Johnstone (2000), Krishnan (2005),
risk quality; audit committee quality Abbott et al. (2006), Doyle et al.
expressed in terms of audit committee (2007), Ashbaugh-Skaife et al.
independence and audit committee (2008), Jiang and Son (2014)
financial experiences
Detection Auditor tenure American Institute of Certified Public
risk Accountants [AICPA] 1997
3.3 The Literature Stream on Audit Risk 47

3.3 The Literature Stream on Audit Risk

The following sub-sections discuss the literature streams on audit risk. In particular,
the focus is on the literature review on some pivotal theoretical streams: (1) the
relationship between the audit risk model and audit fees (Sect. 3.3.1); (2) the audit
risk model in the client-acceptance decision (Sect. 3.3.2); (3) the relationship
between the audit risk model and corporate governance (Sect. 3.3.3); and (4) the
audit risk model in light of the global financial crisis (Sect. 3.3.4).

3.3.1 Audit Risk and Audit Fees

The prior literature on audit fees indicates that in a competitive audit market the
audit fees may be considered as a proxy of the auditor’s effort (Simunic 1980; Hay
et al. 2006; Hogan and Wilkins 2008; Chen et al. 2012). According to the pricing
model, audit fees are affected by the following independent variables: (1) total
assets, since bigger clients will require more effort than smaller ones; (2) audit
reports and report modifications, since client firms with a qualified audit opinion are
much riskier than a firm with an unqualified audit opinion; (3) locations, since the
auditor’s effort will depend on the number of locations of the client firm; (4) client
participation in terms of the reliance client/auditee inputs, since the auditor’s effort
may be reduced if the auditor can rely on a sound internal control system;
(5) ownership, since a public engagement is riskier than a private one due to
increased audit requirements; (6) client industry, since each different industrial
sector can have a different level of risk; and (7) auditor size, since audit fees can
vary depending on whether or not the auditor is a big4 (Palmrose 1986). More
recently, Hay et al. (2006), through a meta-analysis, confirmed prior studies and
found that audit fees of a firm are determined by the client size, the client risk and
the client complexity. Others have added further independent variables that could
affect the audit fees, such as audit report lag (Hassan and Naser 2013), which is
again aimed at mirroring audit effort. Hassan and Naser (2013) found out that the
level of independence of the audit committee is negatively related to audit fees.
Within this field, a wide literature about audit fees examines the relationship
between audit risk and auditor effort, finding mixed results; on the other hand, a few
scholars found no evidence on the relationship between the audit plan and audit
risk. In fact, Mock and Wright (1993, 1999) found no relationship between audit
risk and audit effort, whereas most scholars have demonstrated the relationships
between the level of audit fees and audit risk (Houston et al. 1999; Hay et al. 2006;
Hogan and Wilkins 2008). Other studies have put forward that audit fees, in par-
ticular unexpected audit fees, can be used to assess the client’s accounting quality,
since it can predict frauds, restatements and SEC (Securities and Exchange
Commission) comment letters (Hribar et al. 2014).
48 3 Audit Quality

Hogan and Wilkins (2008) found an increase in the audit fees for firms that have
the most substantial internal control problems. This evidence also suggests that firms
with internal control deficiencies have higher levels of inherent risk and information
risk, and thus that these risks are positively related to the audit fees. Houston et al.
(1999) found that in the presence of errors, the audit risk model is linked to the audit
effort during the engagement, whereas in the presence of irregularities there is no
such relationship. In an attempt to try and contribute to the mixed results on audit
fees and future restatements, Blankley and colleagues pointed out that when a
restatement occurs, the audit firm has either incorrectly assessed their client’s audit
risk or provided an insufficient audit effort (Blankley et al. 2012). A recent study has
confirmed this trend and shown that audit fees are adjusted by auditors in response to
altered control risk; this adjustment depends on the severity of the internal control
problems (Jiang and Son 2014). This is because in the presence of internal control
weaknesses, auditors need to perform additional substantive tests in order to cover
potential misstatements, such as frauds (Hoitash et al. 2008). On the other hand, a
remediation of the internal control problems may lead to a reduction in the auditor’s
effort and therefore in the audit fees (Jiang and Son 2014).

3.3.2 Audit Risk Evaluation in the Client-Acceptance
Decision

The assessment of the audit risk is particularly relevant and time-consuming in
client-acceptance decisions when auditors have to evaluate features of their
potential new clients in making client portfolio management decisions (Bedard and
Johnstone 2004). In this regard, the Public Company Accounting Oversight Board
(PCAOB 2003); American Institute of Certified Public Accountants (AICPA 2007)
have pointed out that auditors need to evaluate the audit risk in accepting a new
client firm and in deciding whether or not to accept the new engagement.10 The
process of the client-acceptance decision is shown in Fig. 3.8.

10
The PCAOB (2003: 1248) states “Policies and procedures should be established for deciding
whether to accept or continue a client relationship and whether to perform a specific engagement
for that client. Such policies and procedures should provide the firm with reasonable assurance that
the likelihood of association with a client whose management lacks integrity is minimized.
Establishing such policies and procedures does not imply that a firm vouches for the integrity or
reliability of a client, nor does it imply that a firm has a duty to any person or entity but itself with
respect to the acceptance, rejection, or retention of clients. However, prudence suggests that a firm
be selective in determining its client relationships and the professional services it will provide.”
The AICPA (2007) states ”The firm should establish policies and procedures for the acceptance
and continuance of client relationships and specific engagements, designed to provide the firm
with reasonable assurance that it will undertake or continue relationships and engagements only
when the firm: a. is competent to perform the engagement and has the capabilities, including time
and resources, to do so; b. can comply with legal and relevant ethical requirements; and c. has
considered the integrity of the client and does not have information that would lead it to conclude
that the client lacks integrity.” AICPA (2007: 2847).
3.3 The Literature Stream on Audit Risk 49

If auditor and
If the risk is The client
The auditor client firm
The auditor accettable, firm
first evaluates meet their
receives the the auditor evaluates the
the clients expections,
offer request defines the auditor's offer
and the the auditor
by the client offer and the and proposes
associated prepares the
firm price for the possible
risk letter of
audit process revisions
engagement

Fig. 3.8 The client-acceptance decision process. Source authors’ presentation

Scholars have pointed out that auditors spend more effort in evaluating financial
risk, litigation risk and audit risk when assessing potential new clients (Johnstone
2000; Johnstone and Bedard 2003). If the client firm is new, the auditor has to
decide to accept the firm or not, given the fact that two kinds of potential client
firms exist: highly risky and very low risky ones. In this circumstance, auditors need
to acquire information in order to understand if the potential client is risky or not
(Laux and Paul Newman 2010). Researchers state that if the potential client is
particularly risky, the auditor can decide not to accept the new client; in this way,
risky clients cannot fund new projects, since their reputation will be damaged (Laux
and Paul Newman 2010). Scholars have demonstrated that large auditing compa-
nies are especially less likely to accept risky clients, since large audit firms can have
more negative reputation consequences and have more attention from the
mass-media (Jones and Raghunandan 1998). However, to contrast this phe-
nomenon, auditors usually ask for higher billing rates if they decide to accept new
risky clients (Johnstone and Bedard 2003). In this framework, Catanach et al.
(2011) analyzed auditor resignations and client acceptance decisions, finding that
smaller accounting firms assume the role of successor auditor at a greater rate than
do the larger ones, highlighting the importance for successor auditors to proceed
carefully in accepting new engagements from which the prior auditor had resigned.

3.3.3 Audit Risk and Corporate Governance

The role of corporate governance within the firm is pivotal in ensuring the integrity
of the financial reporting process and deterring fraud (Cohen et al. 2002). In 2002,
the collapse of one of the Big5 audit firms, Arthur Andersen, highlighted the need
for a stronger corporate governance in order to preserve the independence of the
auditing company and to prevent future corporate failures by highlighting weak-
nesses in the internal control system of the client firm. As a matter of fact, during
the global financial crisis in particular, weaknesses in corporate governance have
brought about the failure of several companies and financial institutions
(Kirkpatrick 2009).
Cohen et al. (2002) investigated the effects that corporate governance features
have on the overall audit process, finding that auditors consider some factors of
50 3 Audit Quality

corporate governance especially in the evaluation of new clients and in international
contexts. Strong corporate governance has been found to be associated with good
quality in financial reporting and the appointment of accounting financial experts to
the company’s audit committee (Krishnan and Lee 2009; Gull et al. 2013). The
internal audit function is effective when it has a positive effect on the quality of
corporate governance (Sarens 2009).
On the other hand, a weakness in corporate governance quality could bring about
earnings manipulation and financial statement fraud (Dechow et al. 1996; Carcello
and Neal 2000). Within this framework, Krishnan (2001) found a correlation
between a sound corporate governance and internal control problems, highlighting
that the quality of the corporate governance could affect the evaluation of the audit
risk for new clients and, therefore, the clients’ acceptance decision.
Cassell et al. (2012) found that big4 auditors consider some characteristics of
corporate governance in audit strategy, especially after the introduction of the
Sarbanes-Oxley Act of 2002 (SOX), which increased the public’s focus on cor-
porate governance. In particular, they created an index of corporate governance,
which encompasses board and audit committee independence, diligence and
expertise based on the prior literature (Dechow et al. 1996; Carcello et al. 2002;
Barac and Van Staden 2009). Some scholars have found that clients showing strong
corporate governance are associated with higher quality in the auditing procedure,
since this trait reduces the audit effort (Cohen and Hanno 2000). In fact, very few
scholars found that there was no kind of correlation between the audit model and
features of corporate governance (Dittmann et al. 2010). Despite these considera-
tions, there is little practical guidance for external auditors on how they should
consider the corporate governance in evaluating the audit risk and audit planning in
general.
The components of corporate governance are included in the control risk during
the phase of the evaluation of the audit risk. Thus, control risk depends on the
management’s attitude toward internal controls, corporate governance quality and
the audit committee quality, which is expressed in terms of audit committee
independence and audit committee financial experiences (Johnstone 2000; Krishnan
2005; Cohen et al. 2010).

3.3.4 The Audit Risk Model in Light of the Global
Financial Crisis

Recently, the capability of accounting and financial reports to provide the board and
stakeholders at large with reliable information to make effective decisions, coupled
with risk-related variables, especially after the latest financial crisis, has been
questioned (Magnan and Markarian 2011). The analysis of the audit profession has
received some attention, especially after the 2007–2008 financial crisis (Humphrey
et al. 2011).
3.3 The Literature Stream on Audit Risk 51

The auditing market is no longer a local and national one (Humphrey et al.
2011); therefore, any regulatory effort aimed at controlling the national auditing
practice might result in limited, if any, improvements in the quality of the audited
accounting information (Humphrey et al. 2011). As a matter of fact, national
auditing standard setters rely more and more on international standards when they
issue auditing principles (Consiglio Nazionale dei Dottori Commercialisti e degli
Esperti Contabili 2015). However, some regulatory requirements and some con-
tingent variables might have affected the focus of the accounting and auditing
profession before and after the 2007–2008 financial crisis.
Some recent literature has addressed criticisms regarding the effectiveness of
accounting regulations in providing a tool for the disclosure of high quality
accounting information at the time of the 2007–2008 financial crisis (Sikka 2015;
Persakis and Iatridis 2016). It is generally agreed that accounting and auditing
principles are aimed at supporting the credibility and the quality of the financial
statements, and thus fostering trust in financial markets (Kohler 2013). Evidence of
this regards the silence of auditors during the financial years immediately before the
2007–2008 financial crisis (Sikka 2009), which is related to the issue of an
unqualified audit opinion with regard to companies that went bankrupt in the fol-
lowing financial year and also produced fraudulent disclosures.
Within the context of the global financial crisis, a particular kind of audit
opinion, the going concern opinion, became more and more common and discussed
among auditors, investors and stakeholders at large. As a matter of fact, if the
auditor has some substantial doubts about the firm’s ability to continue as a going
concern, he/she has to issue a qualified audit opinion, namely a going concern
opinion.11 This kind of modification of opinion is called emphasis of a matter, and
it is able to inform users of uncertainties or disagreements over accounting prin-
ciples. The going concern opinion represents one of the most relevant judgments
the auditors express, since it is even able to affect the equity markets (Blay et al.
2011) and investor behavior (Menon and Williams 2010). In particular, investors
pay increasing attention to the going concern opinion because they consider it as a
preliminary bankruptcy warning signal. Investors would not rely on audited
financial reports if they considered that opinion as not very trustworthy (Robertson
and Houston 2010). On the other hand, auditors do not consider themselves as
clairvoyants, and therefore perceive themselves as not responsible for predicting the
future of a firm (Casterella et al. 2000).
In a similar vein, scholars have found that the likelihood a going concern
modified opinion for financially distressed clients would be issued increased after
the global financial crisis (Geiger et al. 2013).

11
The accounting standard provides a description of going concern principle in International
Accounting Standard (IAS) 1 (Disclosure of Accounting Policies 1975), which states that a firm
has to prepare its financial statements under going concern conditions. If management has sig-
nificant doubts about the ability of the entity to continue as a going concern, the uncertainties must
be disclosed in the auditor report.
52 3 Audit Quality

However, the modified opinion due to going concern uncertainty is primarily
issued because of the previous year opinion or financial status, rather that earnings
management reasons (Tsipouridou and Spathis 2014). Therefore, trust in the audit
quality by both institutional and private investors, as well as by governments, has
declined (Holm and Zaman 2012). In effect, some governments have been ques-
tioned on whether they are effectively taking actions to prevent future financial
crises (Sikka 2015). The global financial crisis and some recent financial collapses
of listed firms, such as Enron and Parmalat, have reduced stakeholder and investor
trust in the reliability of the audit opinion. Even though auditors should perform
their activity from a strong independent position with regard to the client firm, there
is also opposing evidence. Some scholars have found that larger client firms receive
more unqualified audit opinions than do smaller ones (Carcello et al. 2009). This
might be due to the fact that auditors do not want to lose their major clients (Dogui
et al. 2014). Moreover, the role of risk management itself after the global financial
crisis has undergone severe criticism (Huber and Scheytt 2013). As a matter of fact,
some authors reported on the consequence of modern risk management, concluding
that this is a “risk management of nothing” (Power 2009: 7) resulting in a failure of
mechanisms actually aimed at preventing the worst consequences of risks. In order
to overcome shortcomings in the previous audit models, both regulators and audit
firms have tried to redesign the audit model and the audit procedure. For instance,
the Financial Reporting Council issued the Audit Quality Framework (Financial
Reporting Council 2008), which investigates factors that affect the quality of the
audit profession. Some of these come under the auditor’s responsibilities, whereas
some others do not. On the other hand, PriceWaterhouseCoopers (a big4 audit firm)
published a procedure to assess third-party risks (PriceWaterhouseCoopers 2016).
Among those factors that are outside the control of auditors is the strength of the
company’s corporate governance. On the other hand, after the global financial
crisis, auditors have committed more effort to assessing their clients’ audit risk,
compared to previous years (Xu et al. 2013). Similarly, auditors are more willing to
rely on internal audit work in a continuous audit environment compared to a
traditional one (Malaescu and Sutton 2014). When introducing mandatory rotation
policies, audit firms commit more effort to the new client compared to existing
clients (Kwon et al. 2014).
Even though some scholars have found there is a better quality of audited
financial statements after audit firm rotation (DeFond and Subramanyam 1998;
Myers et al. 2003; Chen et al. 2008), others have pointed out that this mandatory
requirement does not necessarily lead to better quality in terms of audited financial
information (Davidson et al. 2006; Cameran et al. 2013). Less tenured auditors are
less knowledgeable of their clients’ risk, and therefore may want to rely on other
than mandatory accounting information. What is still unclear in the literature is the
set of information and client features the auditor wishes to include in its risk
assessment model when assessing new clients’ audit risk after the global financial
crisis. Moreover, after the global financial crisis some scholars analyzed the audit
risk and found that there is an increase in the client’s business risk, though without
3.3 The Literature Stream on Audit Risk 53

analyzing which factor is riskier than others (Xu et al. 2013). Furthermore, the topic
of corporate governance has been developed especially after failures of firms
depending on the features of corporate governance. Some scholars have questioned
whether some characteristics of corporate governance could have some effects on
the entire auditing process, in particular on the quality of this procedure (Cohen
et al. 2002). Despite these considerations, to the best of our knowledge few scholars
have analyzed this topic in the European setting after the global financial crisis.
Moreover, there is a call for field research on the components of risk that should be
considered as relevant when analyzing corporate annual reports in different national
settings (Abraham and Shrives 2014) and for a cross-country investigation of the
adoption of international auditing standards (Sormunen et al. 2013).

3.4 A New Proposal for the Audit Risk Model

This section discusses a new proposal for the audit risk model. Audit risk could be
measured from a qualitative and quantitative point of view. On the one hand,
qualitative features of the audit risk model are related to the corporate governance
system in place inside the firm and to the quality of the internal control system. On
the other hand, quantitative features of the audit risk model refer to the size of the
company, usually measured by total revenues, total assets or total shareholders’
equity (Contessotto and Moroney 2014).
Demartini and Trucco (2016), following the literature recommendations (Arens
et al. 2007), have proposed a new assessment of the audit risk model that
encompasses qualitative and quantitative features (Table 3.2). Specifically, quali-
tative audit risk could be related to: the quality of the audit committee and top
management; the robustness of the overall internal control system; and the effec-
tiveness of the corporate governance. The authors have proposed the following
items for qualitative audit risk: Board Function Audit Committee Independence12;
Board Functions Audit Committee Management Independence13; Board Structure
—Experienced Board14; Board Structure Independent Board Members15; and

12
Board Function Audit Committee Independence is the percentage of independent board members
on the audit committee as stipulated by the company. The data source is ESG Asset 4, Thomson
Reuters Datastream.
13
Board Function Audit Committee Management Independence is a variable which answers to the
following question: “Does the company report that all audit committee members are
non-executives?”. The data source is ESG Asset 4, Thomson Reuters Datastream.
14
Board Structure—Experienced Board is the average number of years each board member has
been on the board. The data source is ESG Asset 4, Thomson Reuters Datastream.
15
Board Structure Independent Board Members is the percentage of independent board members
as reported by the company. The data source is ESG Asset 4, Thomson Reuters Datastream.
54 3 Audit Quality

Table 3.2 A new proposal for the audit risk model: qualitative and quantitative audit risk
(Adapted from: Demartini and Trucco 2016)
Qualitative Audit Risk
Board Functions Audit Committee Independence
Board Functions Audit Committee Management Independence
Board Structure Experienced Board
Board Structure Independent Board Members
Corporate Governance Score
Qualitative Audit Risk
Net sales or revenues
Total assets
Total shareholders’ equity
Litigation expenses

Corporate Governance Score.16 When qualitative audit risk increases, the audit risk
will decrease. As a matter of fact, high qualitative audit risk mirrors sound corporate
governance and strong internal control.
Furthermore, the authors have measured quantitative audit risk by taking into
account the following items: net sales or revenues; total assets; total shareholders’
equity; and litigation expenses. Audit risk will increase when quantitative audit risk
increases. Demartini and Trucco (2016) have investigated the relationship between
Intellectual Capital Disclosure (ICD) and both audit risk and audit fees in common
law and civil law countries (Demartini and Trucco 2016). Their findings show that
ICD has different effects on different components of audit risk. Qualitative audit risk
is positively affected by ICD, whereas quantitative audit risk is negatively affected.
This effect is stronger in common law countries than in civil law countries. ICD
seems to increase the amount of fees auditors charge to the client companies in the
civil law context only.

References

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fee responses. Audit J Pract Theory 25:85–98
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16
Corporate Governance score measures a company’s systems and processes, which ensure that its
board members and executives act in the best interests of its long term shareholders. It reflects a
company's capacity, through its use of best management practices, to direct and control its rights
and responsibilities through the creation of incentives, as well as checks and balances in order to
generate long term shareholder value. The data source is ESG Asset 4, Thomson Reuters
Datastream.
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Chapter 4
Relationship Between Integrated
Reporting and Audit Risk in the European
Setting: The Research Design

Abstract According to some scholars, auditing has received little attention within
the field of human, social and environmental disclosure since the beginning of the
21st century. Previous studies have mainly focused on financial voluntary disclo-
sure and audit risk, with some recent exceptions related to the link between cor-
porate social responsibility disclosure and audit risk. We present the development
of the research hypotheses on the relationship between integrated reporting and
audit risk as well as a definition of the research design. We therefore illustrate the
sample selection and data collection strategy, as well as the descriptive statistics and
the factor analysis of companies included in the dataset from the European setting.
We also assess the research and control variables of our work and the items
encompassed in each variable. The research variables are Qualitative Audit Risk,
Quantitative Audit Risk, Audit Fees and Integrated Reporting divided into its six
pillars, which refer to the following forms of capital: financial capital; manufactured
capital; intellectual capital; human capital; social and relationship capital, and
natural capital. In order to answer the research question and test the research
hypotheses, we selected all the European non-financial listed firms from the ESG
Asset 4 database, excluding financial institutions (banks and financial services
companies at large), as they have particular features and require separate treatment.
We identified 827 European listed firms.

4.1 Introduction

The following sections focus on the analysis of the impact that integrated reporting
can have on the evaluation of the audit risk and on each component of audit risk, as
well as the cost involved. Furthermore, we will analyze if auditors assess low levels of
audit risk for those firms reporting an external audited integrated report and if auditors
report low levels of audit risk when they also audit the integrated report. We will
provide the research design of this study (Sect. 4.2), the sample selection and data
collection (Sect. 4.3), the variable measurement (Sect. 4.4), and present the factor
analysis of our research and control variables in the European setting (Sect. 4.5).

© Springer International Publishing AG 2017 59
C. Demartini and S. Trucco, Integrated Reporting and Audit Quality,
Contributions to Management Science, DOI 10.1007/978-3-319-48826-4_4
60 4 Relationship Between Integrated Reporting and Audit Risk …

4.2 Does Integrated Reporting Have Some Effects
on the Audit Risk?

Disclosure theories applied to Integrated Reporting (IR) have pointed out that
social, human and environmental disclosure should reduce information asymmetry
and thus the information risk of a company (Beattie et al. 2004; Holland 2006).
Non-financial information is thus used for external and internal decision making
(Cohen and Simnett 2014; Dhaliwal et al. 2011, 2012).
Although information risk has been found to predict audit risk (Hogan and
Wilkins 2008), to the best of our knowledge the relationship between integrated
reporting and audit risk has not yet been investigated. Furthermore, audit firms agree
on the relevance of the social, human and environmental information: “The high
rates of corporate responsibility reporting in all regions suggest it is now standard
business practice worldwide” (KPMG 2013: 11). Cohen and Simnett (2014) noted a
growing market for corporate social responsibility reports and related assurance
(Cohen and Simnett 2014); in fact, KPMG’s report stated that the number of large
firms which voluntarily seek assurance is increasing (KPMG 2013).
A recent literature review has identified some gaps in the IR field (Dumay et al.
2016). Regarding the focus of IR literature, Dumay et al. (2016) found that auditing
and assurance have not been a matter of concern for IR scholars so far, as they have
focused more on external reporting issues.
According to a literature review by Guthrie et al. (2012), auditing has received
little attention within the field of human, social and environmental disclosure since
the beginning of the 21st century. Previous studies, in fact, have mainly focused on
financial voluntary disclosure and audit risk (Ball et al. 2012), with some recent
exceptions related to the link between corporate social responsibility disclosure and
audit risk (Chen et al. 2012). Following Ball et al. (2012), voluntary disclosure and
audited financial reporting can be conceived of as complements, not substitutes, in
that the truthfulness of financial auditable information reduces the risk that
non-auditable forward-looking voluntary disclosure is unreliable (Graham et al.
2005). Similarly, Zhanxia et al. (2011) suggest to auditors some measures in order
to facilitate the use of non-financial disclosure to avoid fraud. Scholars argue that in
order to improve the credibility of non-financial disclosure, such as corporate social
responsibility, it is relevant that this kind of information be verified or assured
(Simnett and Nugent 2007). To assure non-financial information, auditors should be
independent and have appropriate skills regarding the various ways of measuring
and reporting non-financial information (Huggins et al. 2011).
In this framework, Coram et al. argued that the choice of managers to disclose
voluntary information is associated with the audit risk, since in this way auditors
could have more of a basis for their evaluation about the overall level of their
clients’ business risk and uncover a positive association between audit fees (which
is considered as a proxy of audit risk) and some features of management earnings
forecasts, such as likelihood, bias, error and frequency (Coram et al. 2009; Krishnan
et al. 2012).
4.2 Does Integrated Reporting Have Some Effects on the Audit Risk? 61

Furthermore, Chen et al. found that auditors use corporate social responsibility
disclosure in assessing the client’s audit risk; firms with a better corporate social
responsibility performance face lower audit fees and a lower auditor’s propensity to
issue a modified audit opinion (Chen et al. 2012). In a similar vein, Zhanxia et al.
analyze the relationship between Intellectual Capital Disclosure (ICD) and the audit
results of public accounting firms, concluding that human capital and customer
capital are key assets for audit firms (Zhanxia et al. 2011). With regard to ICD and
audit fees, the extant literature has not achieved consensus on the relationship
between ICD and the amount of fees charged to the audited company. Prior studies
have not provided evidence of the effect of ICD on audit fees. Beattie and Smith
conducted a survey to assess the importance that CFOs assign to ICD incentives and
disincentives (Bozzolan et al. 2006). They factor analyzed the answers from 93 UK
CFOs and found that ICD “reduces costs of obtaining auditors opinion in relation to
consistency with financial statements” (Bozzolan et al. 2006: 484). On the one hand,
the increase in effort that audit firms have to produce in order to check for more
disclosed information should have a direct effect on the amount of audit risk, and
thus audit fees (Breton and Taffler 2001; Edvinsson and Malone 1997). On the other
hand, the disclosure of high quality voluntary information is a proxy for high
transparency and credibility by the audited company (Ball et al. 2012). Therefore,
the auditors can exploit the voluntary information to double check the reliability of
mandatory information (Beattie and Smith 2012). More recently, Demartini and
Trucco (2016a) have investigated the relationship between ICD and both audit risk
and audit fees in common law and civil law countries. Their findings show that ICD
has different effects on different components of audit risk. Qualitative audit risk,
which mirrors the robustness of the corporate governance, is positively affected by
ICD, whereas quantitative audit risk, which assesses the complexity and size of the
company, is negatively affected by ICD. This effect is stronger in common law
countries compared to civil law ones. ICD seems to increase the amount of fees
auditors charge to the client companies in the civil law context only.
Recently, others have focused on IR and assurance regarding this kind of
non-financial information, identifying some research questions for future research
on this topic (Simnett and Huggins 2015),1 while others have focused on the
identification of factors that may be associated with the choice to voluntarily pur-
chase assurance on sustainability reports (Simnett et al. 2009). In particular, Simnett
et al. (2009) found that firms attempt to enhance the credibility of their reports by
assuring their sustainability reports.

1
The research questions identified by the authors in their papers are: “What are the best assurance
approaches for narrative, forward-looking and combined financial and non-financial informa-
tion?; How does the assurer determine materiality, and has the connectivity principle been met?;
Is the framework of “reasonable” and “limited” assurance appropriate for <IR>, and where are
the lines drawn in terms of practitioners’ work effort and focus?; What are the different types of
risk of material misstatement that are occurring, or are likely to occur, in an <IR> assurance
engagement?; What skills are required of the assurance team, and how do we ensure that the
multidisciplinary engagement teams work well together?” (Simnett and Huggins 2015: 50).
62 4 Relationship Between Integrated Reporting and Audit Risk …

4.2.1 The Research Design

Non-financial disclosure is increasingly relevant for auditors and accountants for
their decision-making processes (Coram et al. 2009). We argue that the higher
quality of IR should reduce the level of audit risk, as auditors have more infor-
mation on which to base their evaluations due to firms’ propensity to be more
transparent (Chen et al. 2012; Orlitzky and Benjamin 2001). Thus, voluntary dis-
closure reduces audit risk, if the company’s credibility on financial information
achieves satisfactory levels. Auditing standards, practitioners and scholars have
recently emphasized the relevance of also examining non-financial disclosure in
order to evaluate audit risk (Krishnan et al. 2012). In fact, previous studies have
mainly focused on financial voluntary disclosure and audit risk (Ball et al. 2012),
with some recent exceptions related to the link between corporate social respon-
sibility disclosure and audit fees and audit opinion (Chen et al. 2012). Chen et al.
(2012) found that auditors charge lower fees and reduce the propensity to issue
going concern qualifications to client firms if their client firms have higher levels of
corporate social responsibility performance, thereby concluding that non-financial
information is valuable for auditors in evaluating their audit risks. They use audit
fees as a proxy for measuring audit risk. Scholars base their assumptions on the fact
that corporate social responsibility performance is able to enhance the trust between
customers and the firm. This mechanism allows firms to reduce the risk of litigation
by customers (Lacey and Kennett-Hensel 2010). Zhanxia et al. (2011) also analyze
the relationship between ICD and the audit results of public accounting firms,
concluding that human capital and customer capital are key assets for the audit
firms. Within this context, Ahmed Haji and Anifowose (2016) analyze the role of
the audit committee function as an internal assurance provider in IR practice in the
South African context, finding that the quality of the audit committee function has a
positive relationship with the extent and quality of IR practice.
In our study, from a methodological standpoint audit risk is measured from a
qualitative and quantitative point of view (see also Sect. 3.4). Qualitative features
are related to the corporate governance system in place within the firm and to the
quality of the internal control system. Other factors, quantitative in nature, affecting
audit risk refer to the size of the company, usually measured by total revenues, total
assets or total shareholders’ equity (Contessotto and Moroney 2014). On the other
hand, to measure the level of IR, we referred to the literature review on IR (Chap. 2)
and identified 19 items, which refer to the six pillars of IR: financial capital,
manufactured capital, intellectual capital, human capital, social and relationship
capital, and natural capital (Adams and Simnett 2011; Flower 2015; IIRC
(International Integrated Reporting Council, U.K.) 2011; Velte and Stawinoga
2016).
The literature on the relationship between audit risk and integrated reporting is
not so vast, and there is a call for more research to explore how different types of
non-financial and voluntary information can play a role in the evaluation of the
4.2 Does Integrated Reporting Have Some Effects on the Audit Risk? 63

audit risk (Krishnan et al. 2012); therefore we formulate the following research
hypotheses:
Hp1a: Qualitative audit risk is affected by the quality of integrated reporting.
Hp1b: Quantitative audit risk is affected by the quality of integrated reporting.
Several standard setters, such as IIRC (2014), and scholars, such as Cheng et al.
(2014), de Villiers et al. (2014), Simnett and Huggins (2015) and Dumay et al.
(2016), have stressed the need to provide assurance on the content of IR to both
preparers and users. Similarly, Jensen and Berg have addressed the role of the
external audit on IR as an open question for future research (Jensen and Berg 2012).
Some scholars believe in a more proactive internal audit function that is strongly
linked to the external audit function due to new practices, like IR, which require real
time data and qualitative information (Smith 2016). To assure non-financial infor-
mation, auditors should be independent and have appropriate skills in the various
ways of measuring and reporting non-financial information (Huggins et al. 2011).
During the consultation phase of the 2013 IR framework, respondents viewed
independent and external assurance as a “fundamental mechanism for ensuring
reliability or enhancing credibility” of the IR (IIRC 2014: 9). Moreover, the IIRC
pointed out the benefit of having a holistic auditing approach including all capital
components, rather than auditing specific capitals. Risks associated with the
auditing of specific information of IR are also addressed. While some users of IR
might be more interested in obtaining assurance on certain pieces of information
rather than the integrated report as a whole, some assurance practitioners are
concerned that an assurance approach on a specific data set would be contrary to the
holistic approach inherent in the Framework (IIRC 2014: 6).
This is also important because audited IR may be used by auditors in mandatory
auditing, thereby reducing both qualitative and quantitative audit risk. This study
also argues that a more synergic auditing effect could be achieved if the auditor
provides assurance to both IR and annual report. Since the knowledge acquired by
the auditor in the process of auditing the six forms of capital and their connections
reported by the IR can be used and exploited in auditing the annual report, this
enables auditors to cross-check the information reported in the mandatory disclo-
sure with voluntary and reliable information. In this way, there is an incremental
beneficial effect on the assurance of the entire information issued by the firm.
Thus, we test the following hypotheses:
Hp2a: Auditors report lower levels of qualitative audit risk for those firms
reporting an external audited integrated report compared to their clients with non-
audited integrated report.
Hp2b: Auditors report lower levels of quantitative audit risk for those firms
reporting an external audited integrated report compared to their clients with non-
audited integrated report.
Hp2c: Auditors report lower levels of qualitative audit risk when they also audit the
integrated report compared to their clients with integrated report audited by a
different auditor.
64 4 Relationship Between Integrated Reporting and Audit Risk …

Hp2d: Auditors report lower levels of quantitative audit risk when they also audit
the integrated report compared to their clients with integrated report audited by a
different auditor.
According to some research streams and previous hypotheses, we follow that part
of the literature which argues that audit fees can be considered as a proxy of the
auditors’ effort, and consequently as a proxy of the audit risk (Hay et al. 2006; Hogan
and Wilkins 2008; Houston et al. 1999). Scholars agree that higher audit risk is
associated with greater audit effort, and therefore higher audit fees. Furthermore, in
line with Hp1c, we argue that a higher quality of IR should reduce the level of audit
risk, and thus the audit fees. In fact, auditors’ should be confident about audited
firms, as they seem to be more transparent than firms with a low quantity and quality
of IR (Chen et al. 2012). Along the lines of Hp2c and Hp2d, we also contend that the
presence of externally audited IR (Hp2c) and IR audited by the same auditor of
mandatory financial information (Hp2d) leads to lower audit fees. Audit fees are
paid for mandatory auditing only. Thus, auditors will charge lower audit fees to the
client company, since they can benefit from reliable information disclosed in the IR.
This effect is expected to be stronger when an auditor assures the content of both IR
and the financial report, since auditors will get an additional fee for the assurance on
IR as well, which can balance the fee for mandatory auditing. Based on these
considerations, we formulate the following research hypotheses:
Hp3a: Auditors charge lower audit fees to firms reporting a higher quality of
integrated report than to firms reporting a lower quality of integrated report.
Hp3b: Auditors charge lower audit fees to firms reporting an external audited
integrated report compared to firms with non-audited integrated report.
Hp3c: Auditors charge lower audit fees when they also audit the integrated report
compared to their clients with integrated report audited by a different auditor.
According to the above-mentioned literature streams, a vast literature on audit
fees examines the relationship between audit risk and auditor effort, finding mixed
results; however, few scholars found any evidence about the relationship between
audit plan and audit risk. Mock and Wright (1993, 1999) found no relationship
between audit risk and audit effort, whereas most scholars have demonstrated the
relationship between the level of audit fees and audit risk (Hay et al. 2006; Hogan
and Wilkins 2008; Houston et al. 1999).
Other studies posit that audit fees, in particular unexpected audit fees, can be
used to assess the client’s accounting quality, since this is predictive of fraud,
restatements and SEC (Securities and Exchange Commission) comment letters
(Hribar et al. 2014).
According to the pricing model, audit fees are affected by the following inde-
pendent variables: (1) total assets, since bigger clients will require more effort than
smaller ones; (2) audit reports and report modifications, since client firms with a
qualified audit opinion are much riskier than ones with an unqualified audit opinion;
(3) locations, since the effort of the auditor will depend on the number of locations
of the client firm; (4) client participation in terms of the reliance of the client/auditee
4.2 Does Integrated Reporting Have Some Effects on the Audit Risk? 65

inputs, since the auditor’s effort may be reduced if the auditor can rely on a sound
internal control system; (5) ownership, since a public engagement is riskier than a
private one due to increased audit requirements; (6) client’s industry, since each
industrial sector can have a different level of risk; and (7) auditor size, since audit
fees can vary depending on whether or not the auditor is a big4 firm (Palmrose
1986).
Others argue that both positive and negative non-financial information (such as
corporate social responsibility reports) could increase audit fees (Chen et al. 2012).
Furthermore, qualitative components of audit risk have been found to affect audit
fees. As a matter of fact, recent studies contend that good managerial ability, low
auditor litigation risk and a good level of auditor familiarity reduce audit fees (Li
and Luo 2017). Top management and audit committee characteristics, such as CEO
succession and the gender of the audit committee members, also affect audit fees.
New CEOs introduce higher uncertainty, and auditors are thus more likely to charge
higher fees to their client (Bills et al. 2016). Female audit committee members
enhance audit quality and are associated with lower audit fees (Aldamen et al.
2016). Chang and Yu demonstrated that board independence has a higher impact on
audit fees when the client firm operates in a strong information environment
compared to weak information contexts (Zhang and Yu 2016). Moreover, quanti-
tative components of audit risk have also been considered by prior studies. Hogan
and Wilkins (2008) found an increase in audit fees for firms that have the most
substantial internal control problems. This evidence also suggests that firms with
internal control deficiencies have higher levels of inherent risk and information risk,
and thus that these risks are positively related to audit fees. Houston et al. (1999)
found that in the presence of errors the audit risk model is linked to the audit effort
during the engagement, whereas in the presence of irregularities there is no such
relationship. In the attempt to try and contribute to the mixed results on audit fees
and future restatements, Blankley and colleagues have pointed out that when a
restatement occurs the audit firm has either incorrectly assessed their client’s audit
risk or provided less than needed audit effort (Blankley et al. 2012). A recent study
has confirmed this trend and shown that audit fees are adjusted by auditors in
response to altered control risk; this adjustment depends on the severity of the
internal control problems (Jiang and Son 2014). This is because in the presence of
internal control weaknesses auditors need to perform additional substantive tests in
order to cover potential misstatements such as frauds (Hoitash et al. 2008). On the
other hand, a remediation of the internal control problems may lead to a reduction
in the auditor’s effort, and therefore in the audit fees (Jiang and Son 2014).
Hay et al., through a meta-analysis, found that the audit fees of a firm are
determined by client size, client risk and client complexity (Hay et al. 2006). Jiang
and Son demonstrated that audit fees are especially linked to the control risk (Jiang
and Son 2014). Others have included additional independent variables that could
affect audit fees, such as audit report lag (Hassan and Naser 2013), which is again
aimed at mirroring audit effort. Hassan and Naser (2013) found out that the level of
independence of the audit committee is negatively related to audit fees.
66 4 Relationship Between Integrated Reporting and Audit Risk …

Fig. 4.1 Research design

Regulatory requirements and legal institutions impact audit fees as well. Firms
operating in countries with stronger book-tax conformity face lower audit fees
compared to countries with weaker book-tax conformity (Kuo and Lee 2016).
Moreover, André et al. (2016) found that when comparing countries with manda-
tory joint audits (France) with others (UK and Italy), the expected enhanced audit
quality due to mandatory joint audits is negatively reflected in audit fees. In Asia,
audit fees have significantly dropped during and after the global financial crisis, due
in part to the need for firms to cut costs (Sonu et al. 2017). Thus, both quantitative
and qualitative components of audit risk are expected to affect the amount of audit
fees auditors charge their clients, even though the results are not consistent.
To confirm the prior studies in the European context, we test the relationship
between audit risk and audit fees.
To this end we have formulated the following research hypotheses to contribute
to this research field:
Hp4a: Qualitative audit risk negatively affects audit fees directly.
Hp4b: Quantitative audit risk negatively affects audit fees directly.
Figure 4.1 shows the research design and the research hypotheses.

4.3 Sample Selection and Data Collection

In order to answer the research question and test the research hypothesis, we
selected all the European non-financial listed firms from the ESG Asset 4 database
(Thomson Reuters Datastream). The ESG Asset 4 database provides objective,
4.3 Sample Selection and Data Collection 67

relevant and systematic environmental, social and governance (ESG) information
based on the individual data points of the Key Performance Indicators (KPIs) along
with their original data sources.2 Financial institutions (banks and companies of
financial services at large) were excluded, as they have particular features and
require separate treatment. We identified 827 European-listed firms.
For each company, we collected the name of the auditor firm for the year 2014,
excluding firms audited by non-big 4 audit firms to guarantee homogeneity of the
sample. We ended up with a list of 673 non-financial firms audited by big-4 firms in
our sample time-period.

4.4 Variable Measurement

Data was collected for each company from the ESG Asset 4 referring to the fol-
lowing research variables: audit risk, audit fees and integrated reporting.

4.4.1 Variable Measurement: Audit Risk

Professional and academic recommendations were followed to measure audit risk,
as mentioned in Chap. 3 (Arens et al. 2007). This research variable was split into
two features based on results from the factor analysis (Table 4.1): qualitative audit
risk and quantitative audit risk.
Cassell et al. (2012) found that big4 auditors consider some characteristics of
corporate governance in audit strategy, especially after the introduction of the
Sarbanes-Oxley Act of 2002 (SOX), which increased the public’s focus on cor-
porate governance (Barac and Van Staden 2009; Carcello et al. 2002; Dechow et al.
1996). Some scholars have found that audit firms’ clients with a strong corporate
governance have also high quality in the auditing procedure since they are able to
reduce the audit effort (Cohen and Hanno 2000). In fact, very few scholars have
found any correlation between the audit model and features of corporate gover-
nance (Dittmann et al. 2010). Other studies have found that control risk depends on
the management’s attitude toward internal controls, corporate governance quality
and the audit committee quality, expressed in terms of audit committee indepen-
dence and audit committee financial experiences (Cohen et al. 2010; Johnstone
2000; Krishnan 2005).

2
Professional investors use this ESG data to define a wide range of responsible investment
strategies to integrate into their traditional investment analysis. Corporate executives (e.g., CSR
and IR managers) use the corporation-focused solution to benchmark their own performance
against peers and to track relevant news. Quantitative analysts use the ESG data for the
Quantitative Analytics solution to identify a new range of signals (ESG Asset 4, n.d.).
68 4 Relationship Between Integrated Reporting and Audit Risk …

Table 4.1 Items included in the audit risk research variable
Research variable Items in the research variables
Qualitative audit risk Corporate governance score
Board functions/audit committee expertise
Board structure/strictly independent board members
Audit committee independence
Quantitative audit risk Total shareholders’ equity
Litigation expenses and provisions
Total assets
Total intangible of assets
Net sales or revenues

Following recommendations in the literature (Demartini and Trucco 2016a), the
qualitative audit risk is thus related to: (a) the quality of the audit committee and top
management; (b) the robustness of the overall internal control system; and (c) the
effectiveness of the corporate governance. This governance is constructed by
averaging out the standardized values of the following indicators taken from the
ESG Asset 4 (each indicator can take on a value from 1 to 100, Table 4.2):
(1) Corporate governance score; (2) Board functions/Audit committee expertise;
(3) Board Structure/Strictly Independent Board Members; and (4) Audit Committee
Independence. When qualitative audit risk increases, the audit risk will decrease.
High qualitative audit risk mirrors sound corporate governance and strong internal
control.
The Corporate Governance Score measures a company’s systems and processes,
which ensure that its board members and executives act in the best interests of its
long-term shareholders. It reflects a company’s capacity, through its use of best
management practices, to direct and control its rights and responsibilities through
the creation of incentives as well as checks and balances in order to generate long
term shareholder value (Thomson Reuters Datastream, ESG Asset 4). Board
Functions/Audit Committee Expertise regards the following question: “Does the
company have an audit committee with at least three members and at least one

Table 4.2 Measurement of the items included in the audit risk research variable
Items in the research variables Scale of measurement
Corporate governance score Value on a 0–100 scale
Board functions/audit committee expertise Value on a 0–100 scale
Board structure/strictly independent board members Value on a 0–100 scale
Audit committee independence Value on a 0–100 scale
Total shareholders’ equity Real number
Litigation expenses and provisions Real number
Total assets Real number
Total intangible of assets Real number
Net sales or revenues Real number
4.4 Variable Measurement 69

financial expert within the meaning of Sarbanes-Oxley?” (Thomson Reuters
Datastream, ESG Asset 4). Board Structure/Strictly Independent Board Members
measures the percentage of strictly independent board members (not employed by
the company; not having served on the board for more than ten years; not a
reference shareholder with more than 5% of holdings; no cross-board membership;
no recent, immediate family ties to the corporation; not having accepted any
compensation other than compensation for board service) (Thomson Reuters
Datastream, ESG Asset 4). Audit Committee Independence measures the percent-
age of independent board members on the audit committee as stipulated by the
company (Thomson Reuters Datastream, ESG Asset 4).
The quantitative audit risk is related to the size of the client and the litigation
expenses and constructed by averaging out the standardized values of the following
indicators taken from the Thomson Reuters Datastream: (1) total shareholder’s
equity; (2) litigation expenses and provisions; (3) total assets; (4) Total Intangible of
Assets; and (5) Net Sales or Revenues. Audit risk will increase when quantitative
audit risk increases. Total shareholder’s equity represents the sum of Preferred
Stock and Common Shareholders’ Equity. Litigation expenses and provisions is the
total of all litigation expenses incurred as reported by the company (Thomson
Reuters Datastream, ESG Asset 4). Total Assets represents the sum of total current
assets, long term receivables, investment in unconsolidated subsidiaries, other
investments, net property, plant and equipment and other assets. Total Intangible of
Assets represents assets not having a physical existence. Net Sales or Revenues
represents gross sales and other operating revenue less discounts, returns and
allowances.

4.4.2 Variable Measurement: Audit Fees

The research variable Audit Fees was extracted from the Thomson Reuters
Datastream. Audit fees represents the amount paid by the company for the pro-
fessional examination and verification of the financial statements for the purpose of
rendering an opinion as to their consistency, fairness and conformation to accepted
accounting principles (Thomson Reuters Datastream).

4.4.3 Variable Measurement: Integrated Reporting

To measure the level of IR, we first reviewed the literature on IR and identified 19
items (Table 2.1), which refer to the six pillars of IR: financial capital, manufac-
tured capital, intellectual capital, human capital, social and relationship capital and
natural capital. Data on the 22 items was gathered from the Thomson Reuters
Datastream, ESG Asset 4. For each component, the items included are shown in
Tables 4.3 and 4.4. Financial capital is constructed by averaging out the
70 4 Relationship Between Integrated Reporting and Audit Risk …

Table 4.3 Items included in the integrated reporting research variable
Research variable Items in the research variables
Financial Net tangible assets
Market value
Net debt
Long term debt
Manufactured Lost time injury rate
Total injury rate employees
Intellectual Brand value
Client loyalty/brand value
Human—corporate governance Committee meetings attendance average
Board meeting attendance average
Human—accidents, training and health Training costs total
and safety Training hours total
Accidents total
Score health and safety HIV-AIDS program
Social and relationship Score—human rights/monitoring
Score—human rights/policy
Society/human rights
Natural Score—emission reduction/innovative production
Score—emission reduction/CO2 reduction
Emission reduction
Score—emission reduction/climate change risks and
opportunities
Score—emission reduction/biodiversity impact

standardized values of the following items: (1) Net Tangible Assets, (2) Market
Value, (3) Net Debt, and (4) Long-Term Debt. Net Tangible Assets represents
additional assets other than intangibles that are not delineated. Market value
measures the Market Price-Year End * Common Shares Outstanding. If Common
Shares Outstanding is not available for the current year or prior year, then Common
Shares Outstanding-Current is used. For companies with more than one type of
common/ordinary share, market capitalization represents the total market value of
the company. Net Debt represent total debt minus cash. Cash represents cash and
short term investments. Long Term Debt represents all interest bearing financial
obligations, excluding amounts due within one year. It is shown net of premium or
discount (Thomson Reuters Datastream).
Manufactured capital is constructed by averaging out the standardized values of
the following items: (1) Lost Time Injury Rate and (2) Total Injury Rate
Employees. Lost Time Injury Rate measures the total number of injuries that caused
the employees and contractors to lose at least one working day relative to one
million hours worked. Total Injury Rate Employees measures the number of
4.4 Variable Measurement 71

Table 4.4 Items included in the integrated reporting research variable
Items in the research variables Scale of measurement
Net tangible assets Real number
Market value Real number
Net debt Real number
Long term debt Real number
Lost time injury rate Real number
Total injury rate employees Real number
Brand value Real number
Client loyalty/brand value Value on a 0–100 scale
Committee meetings attendance average Value on a 0–100 scale
Board meeting attendance average Value on a 0–100 scale
Training costs total Real number
Training hours total Real number
Accidents total Real number
Score health and safety HIV-AIDS program Value on a 0–100 scale
Score—human rights/monitoring Value on a 0–100 scale
Score—human rights/policy Value on a 0–100 scale
Society/human rights Value on a 0–100 scale
Score—emission reduction/innovative production Value on a 0–100 scale
Score—emission reduction/CO2 reduction Value on a 0–100 scale
Emission reduction Value on a 0–100 scale
Score—emission reduction/climate change risks and opportunities Value on a 0–100 scale
Score—emission reduction/biodiversity impact Value on a 0–100 scale

injuries and fatalities, including no-lost-time injuries reported for employees rela-
tive to one million hours worked (Thomson Reuters Datastream, ESG Asset 4).
Intellectual capital is constructed by averaging out the standardized values of the
following items: (1) Brand Value and (2) Client Loyalty/Brand Value. Brand Value
measures the total value of the company’s brands in US dollars. Client
Loyalty/Brand Value measures the total value of brands in US dollars (0 for
companies not included in the list) (Thomson Reuters Datastream, ESG Asset 4).
Human capital is constructed by averaging out the standardized values of the
following items: (1) Committee Meetings Attendance Average; (2) Board Meeting
Attendance Average; (3) Accidents Total (we reversed this variable); (4) Training
Costs Total; (5) Training Hours Total; and (6) Score Health and Safety HIV-AIDS
Program. We created two classes within the human capital category, namely:
Human—Corporate Governance and Human—Accidents, Training and Health and
Safety. The former is composed of the following items: (1) Committee Meetings
Attendance, Average; (2) Board Meeting Attendance, Average; the latter includes:
(3) Accidents Total; (4) Training Costs Total; (5) Training Hours Total; and
(6) Score Health and Safety HIV-AIDS Program. Committee Meetings Attendance
Average measures the average of overall attendance percentage at board committee
72 4 Relationship Between Integrated Reporting and Audit Risk …

meetings as reported by the company. Board Meeting Attendance Average mea-
sures the average of overall attendance percentage at board meetings as reported by
the company (Thomson Reuters Datastream, ESG Asset 4). Accidents Total mea-
sures the number of injuries and fatalities reported by employees and contractors
while working for the company. Training Costs Total measures the total training
costs from all the training undergone by all employees (Thomson Reuters
Datastream, ESG Asset 4). Training Hours Total measures the total training hours
undergone by all employees. Score Health and Safety HIV-AIDS Program mea-
sures the following question: “Does the company report on policies or programmes
on HIV/AIDS for the workplace or beyond?” (Thomson Reuters Datastream, ESG
Asset 4).
Social and relationship capital is constructed by averaging out the standardized
values of the following items: (1) Score—Human Rights/Monitoring; (2) Score—
Human Rights/Policy; and (3) Society/Human Rights. Score—Human
Rights/Monitoring is based on the following question: “Does the company monitor
human rights in its or its suppliers’ facilities?” (Thomson Reuters Datastream, ESG
Asset 4). Score - Human Rights/Policy is based on the following question “Does the
company have a policy to guarantee the freedom of association universally applied
independent of local laws? Does the company have a policy for the exclusion of
child, forced or compulsory labour?” (Thomson Reuters Datastream, ESG Asset 4).
Society/Human Rights is based on the following: “The society/human rights cat-
egory measures a company’s management commitment and effectiveness in
respecting the fundamental human rights conventions. It reflects a company’s
capacity to maintain its license to operate by guaranteeing the freedom of associ-
ation and excluding child, forced or compulsory labour.” (Thomson Reuters
Datastream, ESG Asset 4).
Finally, natural capital is built by averaging out the standardized values of the
following items: (1) Score—Emission Reduction/Innovative Production; (2) Score
—Emission Reduction/CO2 Reduction; (3) Emission Reduction; (4) Score—
Emission Reduction/Climate Change Risks and Opportunities; (5) Score—
Emission Reduction/Biodiversity Impact. Score—Emission Reduction/Innovative
Production is based on the following questions: “Does the company report on the
concentration of production locations to limit the environmental impact during the
production process? Does the company report on its participation in any emissions
trading initiative? Does the company report on new production techniques to
improve the global environmental impact (all emissions) during the production
process?” (Thomson Reuters Datastream, ESG Asset 4). Score—Emission
Reduction/CO2 Reduction is based on the following question: “Does the company
show an initiative to reduce, reuse, recycle, substitute, phase out or compensate
CO2 equivalents in the production process?” (Thomson Reuters Datastream, ESG
Asset 4). Emission Reduction falls under the emission reduction category and
measures a company’s management commitment and effectiveness in reducing
environmental emissions in the production and operational processes. It reflects a
company’s capacity to reduce air emissions (greenhouse gases, F-gases,
ozone-depleting substances, NOx and SOx, etc.), waste, hazardous waste, water
4.4 Variable Measurement 73

discharges, spills, its impact on biodiversity, and its willingness to partner with
environmental organisations to reduce the environmental impact of the company in
the local or broader community (Thomson Reuters Datastream, ESG Asset 4).
Score—Emission Reduction/Climate Change Risks and Opportunities is based on
the following question: “Is the company aware that climate change can represent
commercial risks and/or opportunities?” (Thomson Reuters Datastream, ESG Asset
4). Score—Emission Reduction/Biodiversity Impact is based on the following
question: “Does the company report on initiatives to protect, restore or reduce its
impact on native ecosystems and species, biodiversity, and protected and sensitive
areas?” (Thomson Reuters Datastream, ESG Asset 4).

4.4.4 Variable Measurement: Control Variables

We used accruals as a control variable to test the firm’s complexity, using the sum
of the standardized values of inventories and receivables, which we called accruals (
Tables 4.5 and 4.6). Inventories represent tangible items or merchandise net of
advances and obsolescence acquired for either (1) resale directly or (2) included in
the production of finished goods manufactured for sale in the normal course of
operation. In manufacturing companies this item is classified as follows (depending
upon the stage of completion in the manufacturing process): (A) Finished goods,
consisting of products ready for sale; (B) Work in process, consisting of products in
various stages of production; and (C) Raw materials and supplies, consisting of
items that will enter directly or indirectly into the production of finished goods. In
non-manufacturing companies, finished goods bought for resale is the major portion
of inventories. Receivables represent the amounts due to the company from the sale
of goods and services on credit to customers (after applicable reserves). These
assets should reasonably be expected to be collected within a year or within the
normal operating cycle of a business (Thomson Reuters Datastream). Tables 4.5
and 4.6 show the measurement of items included in the Accruals control variable.
The auditor’s opinion is not included in the econometric model as an explana-
tory variable, since auditing standards state that audit risk and audit opinion should
not be related (ISA 700).

Table 4.5 Items included in Research variable Items in the research variables
the accruals control variable
Accruals Inventories
Receivables

Table 4.6 Measurement of Items in the research variables Scale of measurement
items included in the accruals
control variable Inventories Real number
Receivables Real number
74 4 Relationship Between Integrated Reporting and Audit Risk …

Another control variables is Industry Classification. We decided to use General
Industry Classification. Our dataset includes 1, 2, 3 and 6 classes, due to the
research strategy that doesn’t focus on financial companies. The first class includes:
the energy and the material sectors with the following sub-classes: Oil and Gas
Drilling; Oil and Gas Equipment and Services; Integrated Oil and Gas; Oil and Gas
Exploration and Production; Oil and Gas Refining and Marketing; Oil and Gas
Storage and Transportation; Coal and Consumable Fuels; Commodity Chemicals;
Diversified Chemicals; Fertilizers and Agricultural Chemicals; Industrial Gases;
Specialty Chemicals; Construction Materials; Metal and Glass Containers; Paper
Packaging; Aluminium; Diversified Metals and Mining; Copper; Gold; Precious
Metals and Minerals; Silver; Steel; Forest Products; Paper Products. The second
class includes the Industrial and Consumer Discretionary sectors with the following
sub-classes: Aerospace and Defense; Building Products; Construction and
Engineering; Electrical Components and Equipment; Heavy Electrical Equipment;
Industrial Conglomerates; Construction Machinery and Heavy Trucks; Agricultural
and Farm Machinery; Industrial Machinery; Trading Companies and Distributors;
Commercial Printing; Environmental and Facilities Services; Office Services and
Supplies; Diversified Support Services; Security and Alarm Services; Human
Resource and Employment Services; Research and Consulting Services; Air Freight
and Logistics; Airlines; Marine; Railroads; Trucking; Airport Services; Highways
and Railtracks; Marine Ports and Services; Auto Parts and Equipment; Tires and
Rubber; Automobile Manufacturers; Motorcycle Manufacturers; Consumer
Electronics; Home Furnishings; Homebuilding; Household Appliances;
Housewares and Specialties; Leisure Products; Apparel, Accessories and Luxury
Goods; Footwear; Textiles; Casinos and Gaming; Hotels, Resorts and Cruise Lines;
Leisure Facilities; Restaurants; Education Services; Specialized Consumer
Services; Advertising; Broadcasting; Cable and Satellite; Movies and
Entertainment; Publishing; Distributors; Internet and Direct Marketing Retail;
Department Stores; General Merchandise Stores; Apparel Retail; Computer and
Electronics Retail; Home Improvement Retail; Specialty Stores; Automotive Retail;
Home furnishing Retail. The third class includes the Consumer Staples and Health
Care sectors with the following sub-classes: Drug Retail; Food Distributors; Food
Retail; Hypermarkets and Super Centers; Brewers; Distillers and Vintners; Soft
Drinks; Agricultural Products; Packaged Foods and Meats; Tobacco; Household
Products; Personal Products; Health Care Equipment; Health Care Supplies; Health
Care Distributors; Health Care Services; Health Care Facilities; Managed Health
Care; Health Care Technology; Biotechnology; Pharmaceuticals; Life Sciences
Tools and Services. The last class includes the real estate sector with the following
sub-classes: Diversified REITs; Industrial REITs; Hotel and Resort REITs; Office
REITs; Health Care REITs; Residential REITs; Retail REITs; Specialized REITs;
Diversified Real Estate Activities; Real Estate Operating Companies; Real Estate
Development; Real Estate Services.
Other control variables are: Voluntary Disclosure Auditor and Same Auditor.
Voluntary Disclosure Auditor has a value of 1 if the firm has an external auditor for
its Corporate Social Responsibility/H&S/Sustainability report, and 0 otherwise.
4.4 Variable Measurement 75

Same Auditor has a value of 1 if the audit firm for the annual report is the same as
the auditor for Corporate Social Responsibility/H&S/Sustainability report, and 0
otherwise.

4.5 Factor Analysis

The first step in our empirical analysis was to perform a principal component
analysis (Tables 4.7, 4.8 and 4.9) in order to construct the research variables and
their components (Williams et al. 2012). Principal component analysis is a statis-
tical procedure which uses an orthogonal transformation to convert a set of
observations of possibly correlated variables into a set of values of linearly
uncorrelated variables called principal components (Niculescu et al. 2016). This
procedure is very common for reducing the dimensionality of large datasets (Jolliffe
and Cadima 2016).
To test the validity and reliability of the factor analysis we performed a
Keiser-Meyer-Olkin (KMO) test to determine the sampling adequacy (Kaiser
1960), a Bartlett’s sphericity test (Snedecor and Cochran 1989), and used the
analysis of Cronbach’s alpha to assess the scale reliability (Nunnally and Bernstein
1994). We also checked for the eigenvalue of each item in order to determine how
many factors should be retained in the analysis (Hayton et al. 2004).
Eigenvalues greater than 1 are associated with retained factors (Kaiser 1960). As
shown in Tables 4.7, 4.8 and 4.9, the reliability of the factor analysis is satisfactory
for each item. Table 4.7 outlines the factor loadings of the three items included in
the audit risk and presents factor loadings of the items included in the IR; Table 4.8
presents the factor loadings of the items included in the accruals. The KMO
measure of sampling adequacy achieves satisfactory levels, as it is higher than 0.5
(Hair et al. 2006) in all cases. Similarly, the Bartlett’s test reports a satisfactory level
of goodness-of-fit of each component of the research variables (Snedecor and
Cochran 1989). Communality values are consistently higher than the threshold
level of 0.50. The only two items showing a communality value below the threshold
level—Board Functions/Audit Committee Expertise and Accidents Total—have
been retained, because the former is generally considered important in the auditing
literature and practices (American Institute of Certified Public Accountants
(AICPA) 1997; Demartini and Trucco 2016a, b); the latter is a pivotal item in
human capital following the IR frameworks and literature recommendations (IIRC
2014).
Moreover, the scale reliability for each component is very good, achieving a
level of 0.721 for Qualitative Audit Risk, 0.790 for Quantitative Audit Risk, 0.950
for Financial Capital, 0.800 for Manufactured Capital, 0.881 for Intellectual
Capital, 0.708 for Human Capital, 0.808 for Social and Relationship Capital, 0.819
for Natural Capital, and 0.968 for Accruals.
The factor analysis confirms the previous literature and frameworks by identi-
fying which items could be encompassed in each research and control variable.
76

Table 4.7 Factor analysis for audit risk
Item Factor Communality Eigen % of Cronbach’s Bartlett’s sphericity KMO*
loading value variance alpha test
Qualitative audit risk 0.721 Chi2 = 327.108 0.709
Corporate governance score 0.840 0.706 2.213 55.322 p-value = 0.000***
Board functions/audit committee 0.624 0.390 0.824 20.604
expertise
Board structure/strictly Independent 0.714 0.510 0.547 13.680
board members
Audit committee independence 0.779 0.607 0.416 10.394
Quantitative audit risk 0.790 Chi2 = 74.039 0.718
Total shareholders’ equity 0.957 0.916 3.944 78.888 p-value = 0.000***
Litigation expenses and provisions 0.787 0.620 0.613 12.260
Total assets 0.972 0.945 0.328 6.569
Total intangible of assets 0.862 0.743 0.092 1.848
Net sales or revenues 0.849 0.721 0.022 0.436
*, **, ***indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0, respectively
4 Relationship Between Integrated Reporting and Audit Risk …
Table 4.8 Factor analysis for integrated reporting
Item Factor Communality Eigen % of Cronbach’s Bartlett’s sphericity KMO*
loading value variance alpha test
Financial 0.950 Chi2 = 3504.039 0.710
Net tangible assets 0.883 0.780 3.485 87.131 p-value = 0.000***
Market value 0.958 0.919 0.383 9.572
4.5 Factor Analysis

Net debt 0.919 0.844 0.097 2.437
Long term debt 0.971 0.943 0.034 0.861
Manufactured
Lost time injury rate 0.913 0.833 1.666 83.309 0.800 Chi2 = 50.158 0.500
Total injury rate employees 0.913 0.833 0.334 16.691 p-value = 0.000***
Intellectual 0.881 Chi2 = 75.702 0.500
Brand value 0.946 0.895 1.790 89.481 p-value = 0.000***
Client loyalty/brand value 0.946 0.895 0.210 10.519
Human—corporate governance 0.708 Chi2 = 49.796 0.688
Committee meetings attendance average 0.596 0.617 2.818 46.975 p-value = 0.000***
Board meeting attendance average 0.713 0.703 1.029 17.147
Human—accidents, training and health and safety
Training costs total 0.826 0.730 0.854 14.239
Training hours total 0.834 0.751 0.748 12.461
Accidents total 0.570 0.336 0.309 5.157
Score health and safety HIV-AIDS program 0.813 0.711 0.241 4.020
Social and relationship 0.808 Chi2 = 836.126 0.582
Score—human rights/monitoring 0.782 0.612 2.180 72.651 p-value = 0.000***
Score—human rights/policy 0.833 0.694 0.613 20.444
Society/human rights 0.935 0.874 0.207 6.905
(continued)
77
Table 4.8 (continued)
78

Item Factor Communality Eigen % of Cronbach’s Bartlett’s sphericity KMO*
loading value variance alpha test
Natural 0.819 Chi2 = 1192.010 0.778
Score—emission reduction/innovative production 0.723 0.523 2.912 58.232 p-value = 0.000***
Score—emission reduction/CO2 reduction 0.726 0.528 0.802 16.042
Emission reduction 0.861 0.741 0.561 11.217
Score—emission reduction/climate change risks 0.777 0.604 0.456 9.119
and opportunities
Score—emission reduction/biodiversity impact 0.719 0.517 0.269 5.389
*, **, ***indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0, respectively
4 Relationship Between Integrated Reporting and Audit Risk …
References 79

Table 4.9 Factor analysis for accruals
Item Factor Communality Eigen % of Cronbach’s Bartlett’s sphericity KMO*
loading value variance alpha test
Accruals 0.968 Chi2 = 1404.152 0.500
Inventories 0.984 0.969 1.937 96.871 p-value = 0.000***
Receivables 0.984 0.969 0.063 3.129
*, **, ***indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0, respectively

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Chapter 5
Relationship Between Integrated
Reporting and Audit Risk in the European
Setting: The Empirical Results

Abstract Empirical results from the whole datasets of firms in 2014 demonstrated
that Quantitative Audit Risk is affected by the quality of some components of
integrated reporting (IR). Specifically, the empirical results show that if the quality
of Financial increases, Quantitative Audit Risk worsens, whereas if the quality of
Human—Corporate Governance, Natural and Intellectual increases, Quantitative
Audit Risk is enhanced. Empirical results from the entire dataset of firms in 2014
also showed that Audit Fees are affected by the quality of some components of IR;
in particular, by the quality of the following components of IR: Human—Accidents,
Training and Health & Safety; Natural; Social; and Intellectual. The relationships
among Audit Fees and the components of IR are always positive, when they are
statistically significant. This means that when the quality of Human—Accidents,
Training and Health & Safety; Natural; Social; and Intellectual increases, Audit
Fees increase as well. Furthermore, Quantitative Audit Risk is not correlated with
Audit Fees, whereas Qualitative Audit Risk is negatively associated with Audit
Fees. We discuss the empirical results regarding the entire dataset of firms and carry
out additional analysis on sub-datasets of the firms.

5.1 Introduction

This Chapter presents descriptive statistics and a correlation analysis of the research
and control variables for the entire dataset of non-financial companies in the
European setting (Sect. 5.2). Section 5.3 proposes the research method, and thus a
set of regression analyses; Sect. 5.4 proposes empirical results from the regression
analysis and the t-test applied to the entire dataset of companies in 2014. These
analyses allow us to test the research hypotheses presented in Chap. 4. Section 5.5
presents the empirical results for different sectors; therefore, the same set of
regression analyses was carried out for the sub-samples of firms. Section 5.6 con-
tains the empirical results for assurance on voluntary disclosure. Finally, Sect. 5.7
presents the summary results for the entire dataset.

© Springer International Publishing AG 2017 83
C. Demartini and S. Trucco, Integrated Reporting and Audit Quality,
Contributions to Management Science, DOI 10.1007/978-3-319-48826-4_5
84 5 Relationship Between Integrated Reporting and Audit Risk …

5.2 Descriptive Statistics and Correlation Analysis

This section presents the descriptive statistics and correlation analysis of our sample
of listed non-financial companies in the European setting in 2014. The descriptive
statistics focus on the number of observations included in the univariate analysis,
the mean, minimum and maximum values, as well as the standard deviation for
both research variables (Table 5.1) and items included in each variable (Tables 5.3
and 5.4). Table 5.2 presents descriptive statistics for the dichotomous and ordinal
variables.
Table 5.3 shows the descriptive statistics for the items included in the
Qualitative and Quantitative Audit Risk variables. Regarding items included in the
qualitative component of audit risk, the highest mean value is linked to Audit
Committee Independence. This item also has a high value of standard deviation,
meaning that, although the average company in the dataset is compliant with the
independence of their audit committee, there are also companies reporting very
different values from the average one, with very high and very low levels of Audit
Committee Independence. Even though this result is encouraging regarding the
average quality of the composition of the audit committee, by looking at the
average of the Strictly Independent Board Members item, we notice that the level is
lower than the general item (47.52). Thus, even if companies are on average
compliant with the required level of independence of the audit committee members,
they are not ‘more than compliant’ in terms of a narrower definition of indepen-
dence. Moreover, the strictly independent item also has a high level of standard
deviation. Therefore, there are companies reporting very low levels for this item.
On average, analysed companies report a mean value of 61.19 in the Corporate
Governance Score, with a high level of standard deviation: 25.93. On average, the
analysed sample has a low degree of expertise for the audit committee, which is

Table 5.1 Descriptive statistics of the research variables
Research variable Obs. Min Max Mean Standard
deviation
Financial 656 −0.23 19.02 −0.0003 0.932
Manufactured 396 −3.48 7.57 0.020 1.015
Intellectual 656 −0.37 3.80 −0.148 0.660
Human—Corporate governance 524 −6.70 0.76 −0.023 0.963
Human—Training, accidents & 664 −3.48 4.44 −0.509 0.739
health
Social and relationship 654 −1.58 0.85 0 0.850
Natural 656 −0.74 1.12 0 0.762
Qualitative Audit Risk 629 −2.04 1.01 −0.050 0.782
Quantitative Audit Risk 668 −0.34 14.44 −0.006 0.751
Audit Fees 557 11.00 20.63 14.373 1.548
Accruals 668 −0.17 23.23 0 0.984
5.2 Descriptive Statistics and Correlation Analysis 85

Table 5.2 Frequencies of the research variables of dichotomous and ordinal variables
Research Variable Tot. Obs. Frequencies
0 1 2 3 6
Voluntary Disclosure Auditor 673 353 276 0 0 0
Same Auditor 673 486 143 0 0 0
Industry Classification 671 0 84.7% 8.5% 3.7% 2.8%

Table 5.3 Descriptive statistics of the items included in Qualitative Audit Risk and Quantitative
Audit Risk
Research Obs Min Max Mean Standard
variable/Item deviation
Qualitative Audit Risk
Corporate 629 3 96 61.19 25.927
Governance Score
Board 629 7 75 56.30 30.388
Functions/Audit
Committee
Expertise
Board 379 3 98 47.52 29.285
Structure/Strictly
Independent
Board Members
Audit Committee 614 0 100 77.43 33.751
Independence
Quantitative Audit Risk
Total 125 −692,000 70,802,000 6,337,998.73 11,692,231.099
Shareholder’s
Equity
Litigation 69 −2,328,000,000 4,420,000,000 54,787,215.80 608,633,156.818
Expenses and
Provisions
Total Assets 668 38,648 4,574,525,000 31,472,170.74 193,739,237.218
Total Intangible of 655 0 4,78,486,000 6,281,016.11 27,035,195.498
Assets
Net Sales or 668 0 4,829,058,000 24,315,532.29 192,616,959.732
Revenues

slightly above the theoretical average of 50, and a high standard deviation. In
addition, the maximum level of Audit Committee Expertise is quite low, with a
value of 75.
As for Quantitative Audit Risk, Total Shareholders’ Equity reports a negative
value as a minimum and more than $70 million as a maximum. Thus, the variability
of the data is very high. Only 69 companies in the sample faced Litigation Expenses
in 2014, with a peak of $4.42 billion and an average value of $54.78 million. On
average, companies reported Total Assets of $31.47 million, with a very high
Table 5.4 Descriptive statistics of the items included in the integrated reporting research variable
86

Item Obs. Min Max Mean Standard deviation
Financial
Net Tangible Assets 654 −2,255,200 1,748,760,000 11,525,072.59 77,026,226.366
Market Value 654 20 1,259,446 20,550.10 74,959.054
Net Debt 655 −60,240,000 527,871,000 5,062,778.03 27,732,371.893
Long Term Debt 655 0 446,965,000 5,907,110.49 24,280,732.660
Manufactured
Lost Time Injury Rate 304 0 35 4.12 5.592
Total Injury Rate Employees 180 0 136 10.76 16.536
Intellectual
Brand Value 80 2,565,000,000 29,752,000,000 6,744,287,500.00 6,327,960,331.281
Client Loyalty/Brand Value 656 42 100 46.90 13.410
Human—Corporate Governance
Committee Meetings Attendance Average 449 50 100 95.22 6.264
Board Meeting Attendance Average 521 34 100 94.60 7.216
Human—Accidents, Training and Health & Safety
Training Costs Total 130 44,454 2,089,000,000 47,445,703.09 192,300,144.632
Training Hours Total 241 421 21,408,856 1,182,578.15 2,162,974.862
Accidents Total 205 0 7965 530.04 1,137.174
Score—Health and Safety HIV-AIDS Program 654 36 100 47.35 24.466
Social and Relationship
Score—Human Rights/Monitoring 654 27 95 56.22 33.688
Score—Human Rights/Policy 654 14 82 69.73 26.169
Society/Human Rights 654 15 95 67.24 29.810
(continued)
5 Relationship Between Integrated Reporting and Audit Risk …
Table 5.4 (continued)
Item Obs. Min Max Mean Standard deviation
Natural
Score—Emission Reduction/Innovative Production 656 31 98 55.10 32.180
Score—Emission Reduction/CO2 Reduction 656 29 96 54.64 32.589
Emission Reduction 656 9 95 68.16 27.447
Score—Emission Reduction/Climate Change Risks and 656 21 90 61.29 34.037
Opportunities
Score—Emission Reduction/Biodiversity Impact 656 25 93 53.61 33.596
5.2 Descriptive Statistics and Correlation Analysis
87
88 5 Relationship Between Integrated Reporting and Audit Risk …

standard deviation. This result accounts for a very diversified sample in terms of
company size. Total Intangible of Assets and Net Sales or Revenues range from 0 to
$478 million and $4.8 billion, respectively. In this case the value of the standard
deviation is also very high.
Tables 5.1 and 5.4 report descriptive statistics for the research variables related
to the six forms of capital in the integrated report (Table 5.1) and to the items
included in each capital (Table 5.4). The minimum value of Financial capital,
which is composed of four items, in the analysed sample is just below zero, whereas
the maximum value is 19.02, with a low level of standard deviation (Table 5.1). Net
Tangible Assets and Net Debt show a negative minimum value and a maximum
value of $1.749 billion and $527.871 million, respectively. Contrary to expecta-
tions, the variance of Net Debt is higher than that of Net Tangible Assets
(Table 5.4). On average, the value of Long Term Debt is rather low, with the
highest value reaching a value lower than the maximum amount of Net Debt.
Market value ranges from $20 up to $1.259 million. The mean value and the
variation of data is rather low, meaning that on average the companies in the sample
have a low market capitalization (Table 5.4). Manufactured capital shows a mini-
mum of −3.48 and a maximum value of 7.57 (Table 5.1). The items of
Manufactured capital, Lost Time Injury Rate and Total Injury Rate Employees,
report low mean values, with high variability in the data. The peak values are quite
low as well, with Lost Time Injury Rate showing the lowest value of days lost due
to injuries (Table 5.1). Overall, the minimum value of Intellectual Capital is −0.37,
whereas the highest value is 3.80, with a very low variation in the data (Table 5.1).
Brand value and Client Loyalty/Brand Value are the two items forming the
Intellectual Capital construct. Only 80 companies in the European sample reported
values for their brands. $2.565 billion represents the minimum Brand Value, with a
maximum value reaching $29.752 billion. On average, companies report a Brand
Value of $6.744 billion. The average score of Client/Loyalty Brand Value is below
the theoretical average, even though the minimum observed value is rather high
(Table 5.4). As stated in § 4.4.3, Human Capital is composed of two research
variables, Human Capital—Corporate Governance, and Human Capital—
Accidents, and Training and Health & Safety. The former variable had a minimum
value of −6.70, whereas the second a minimum value of −3.48. The highest
observed values are 0.76 and 4.44, respectively, with a rather high standard vari-
ation (Table 5.1). The Corporate Governance component of Human capital is made
up of Committee Meetings Attendance Average and Board Meetings Attendance.
On average, the sample companies reported strikingly high values for both items,
with Committee Meetings Attendance Average showing the highest mean value and
a very low level of variance (Table 5.4). Human Capital—Accidents, Training and
Health & Safety is composed of four items: Training Cost Total, Training Hours
Total, Accidents Total, and Score—Health and Safety HIV-AIDS Program.
Training Cost Total ranges from $44,454 to more than $2 billion, with an average
of $47.446 million and a significantly high variation. On average, companies had
more than 1 million training hours in 2014, with noticeable variations and a peak of
2.141 million training hours (Table 5.4). Only 205 companies in the sample
5.2 Descriptive Statistics and Correlation Analysis 89

reported Accidents Total, which shows a mean value of 530 accidents, even though
there are companies reporting no accidents and others reporting almost 8000
accidents in 2014 (Table 5.4). The observed mean value of Score—Health and
Safety HIV-AIDS Program is below the theoretical average of 50, with a relevant
standard deviation (Table 5.4). This means that the disclosure regarding HIV-AIDS
program could be improved. Social and Relationship capital is measured by the
following items: Score—Human Rights/Monitoring, Score—Human Rights/Policy
and Society/Human Rights. While the former has the lowest mean value, which is
slightly above the theoretical average, the latter shows the highest average. All of
the items report a significant level of variation in the observed data; in fact, the
observed range is not very different from the theoretical one in all three retained
items (Table 5.4). Overall, the Social and Relationship variable ranges from −1.58
to 0.85. Natural capital reports a minimum value of −0.74 and a peak value of 1.12.
Five items make up the Natural variable: Score—Emission Reduction/Innovative
Production, Score—Emission Reduction/CO2 Reduction, Emission Reduction,
Score—Emission Reduction/Climate Change Risks and Opportunities, Score—
Emission Reduction/Biodiversity Impact. The mean values of the five items range
from 53.61 for Score—Emission Reduction/Biodiversity Impact, to 68.16, for
Emission Reduction, which is also the item with the lowest minimum value
(Table 5.4). Generally speaking, the variance in the dataset for the five items is
high. These findings enable us to state that the analysed companies could improve
their management of environmental issues.
In the observed sample, Audit Fees range from 11 to 20.63, with a mean value of
14.373 and a low standard deviation.
The lowest value of Accruals is −0.17, with a peak value of 23.23 and a low
value of variation.
Results from the zero-order correlation analysis of the research variables are
presented in Table 5.5. Financial capital is statistically significantly correlated with
some forms of capital included in the integrated report: Intellectual capital
(q = 0.174), Human—Training, Accidents, and Health & Training (q = 0.228),
Social and Relationship (q = 0.096), and Natural capital (q = 0.174), even though
the strength of the correlation is low. Audit Fees (q = 0.456), Quantitative Audit
Risk (q = 0.966) and Accruals (q = 0.928) show high statistically significant cor-
relation coefficients with Financial capital, which is also only barely correlated with
Voluntary Disclosure Auditor (q = 0.125) and Same auditor (q = 0.166).
Manufactured capital is only negatively correlated with Human—Training,
Accidents, Health & Safety, with a significant statistical level (q = −0.099).
Intellectual capital is moderately correlated with Audit Fees (q = −0.426), whereas
there is a low correlation with Human—Training, Accidents, Health & Safety
(q = −0.294), Social and Relationship (q = −0.238), Natural (q = −0.284),
Quantitative Audit Risk (q = −0.227), Accruals (q = −0.143), Voluntary
Disclosure Auditor (q = 0.239) and Same Auditor (q = 0.174). The Corporate
Governance component of Human Capital shows a statistically significant low
correlation with Qualitative Audit Risk (q = 0.231). Human—Training, Accidents,
Health & Safety has a moderately positive correlation with Natural (q = 0.316) and
90 5 Relationship Between Integrated Reporting and Audit Risk …

Audit Fees (q = 0.334). Table 5.5 also indicates low levels of positive correlation
between Human—Training, Accidents, Health & Safety and Social and
Relationship (q = 0.272), Quantitative Audit Risk (q = 0.316), Accruals
(q = 0.249), Voluntary Disclosure Auditor (q = 0.254) and Same Auditor
(q = 0.181). However, Human—Training, Accidents, Health & Safety is negatively
correlated with Industry Classification (q = −0.098). The capital related to Social
and Relationship shows a strong positive correlation with Natural (q = 0.552); a
moderate correlation with Audit Fees (q = 0.468), Voluntary Disclosure Auditor
(q = 0.442) and Same Auditor (q = 0.337); and a low positive correlation with
Qualitative (q = 0.145) and Quantitative Audit Risk (q = 0.120). Industry
Classification has a low negative correlation coefficient with Social and
Relationship (q = −0.080); Natural capital has a low positive correlation with
Qualitative (q = −0.141) and Quantitative Audit Risk (q = −0.163), as well as with
Accruals (q = −0.146), but a moderate and high correlation with Audit Fees
(q = −0.452) and Same auditor (q = −0.380), and Voluntary Disclosure Auditor
(q = 0.543), respectively. A positive low correlation exists between Qualitative
Audit Risk and Voluntary Disclosure Auditor (q = 0.154). Quantitative Audit Risk
is strongly related to Accruals (q = −0.902), but shows a moderate correlation with
Audit Fees (q = −0.461) and a weak correlation with Voluntary Disclosure Auditor
(q = 0.137) and Same auditor (q = 0.173). Audit Fees is either strongly or mod-
erately correlated with Accruals (q = −0.527), Voluntary Disclosure Auditor
(q = 0.382), and Same auditor (q = 0.350), whereas there is a weak negative
correlation with Same auditor (q = −0.113). Accruals has a low positive correlation
with Voluntary Disclosure Auditor (q = 0.098) and Same auditor (q = 0.136).
Voluntary Disclosure Auditor and Same auditor are strongly correlated (q = 0.623),
whereas a low positive correlation exists between the former and Industry
Classification (q = −0.129).
Issues of collinearity arise only for those very high correlation coefficients
(Cohen et al. 2013). Thus, attention should be given to results from research models
that include the following as independent variables: Financial, Quantitative Audit
Risk, and Accruals. However, as stated by Cohen et al. (2013), some indices, such
as the Variance Inflation Factor, can assess the degree of multicollinearity
embedded in a research model.

5.3 Research Models

A set of regression models (Stimson 1985) have been used to test the research
hypotheses (see Chap. 4).
(1) Y = b0 + b1 Financial + b2 Human—Corporate Governance + b3 Human—
Accidents, Training and Health & Safety + b4 Natural + b5 Social + b6
Intellectual + b7 Manufactured + b8 Industry Classification + b9 Voluntary
Disclosure Auditor + b10 Same Auditor + b11 Accruals + e
Table 5.5 Correlation matrix of the research variables
Financial Manufactured Intellectual Human—Corporate Human—Training, Accidents, Social and Natural
Governance Health & Safety Relationship
Financial 1
Manufactured −0.077 1
(0.130)
Intellectual 0.174** 1
5.3 Research Models

−0.036
(0.000) (0.481)
Human—Corporate Governance −0.041 0.043 −0.016 1
(0.359) (0.427) (0.712)
Human—Training, Accidents, 0.228** −0.099* 0.294** 0.007 1
Health & Safety (0.000) (0.049) (0.000) (0.881)
Social and Relationship 0.096* −0.079 0.238** 0.040 0.272** 1
(0.014) (0.120) (0.000) (0.365) (0.000)
Natural 0.174** 0.001 0.284** −0.010 0.316** 0.552** 1
(0.000) (0.987) (0.000) (0.825) (0.000) (0.000)
Qualitative Audit Risk −0.010 −0.084 0.011 0.231** 0.075 0.145** 0.141**
(0.800) (0.097) (0.789) (0.000) (0.063) (0.000) (0.000)
Quantitative Audit Risk 0.966** −0.073 0.227** −0.048 0.232** 0.120** 0.163**
(0.000) (0.145) (0.000) (0.272) (0.000) (0.002) (0.000)
Audit Fees 0.456** −0.021 0.426** −0.078 0.334** 0.468** 0.452**
(0.000) (0.700) (0.000) (0.089) (0.000) (0.000) (0.000)
Accruals 0.928** −0.071 0.143** −0.038 0.249** 0.076 0.146**
(0.000) (0.161) (0.000) (0.391) (0.000) (0.053) (0.000)
Voluntary Disclosure Auditor 0.125** 0.016 0.239** −0.023 0.254** 0.442** 0.543**
(0.001) (0.746) (0.000) (0.598) (0.000) (0.000) (0.000)
Same Auditor 0.166** −0.024 0.174** −0.079 0.181** 0.337** 0.380**
(0.000) (0.632) (0.000) (0.069) (0.000) (0.000) (0.000)
Industry Classification 0.012 0.033 0.005 −0.048 −0.098* −0.080* 0.014
(0.765) (0.514) (0.892) (0.269) (0.012) (0.041) (0.719)
91

(continued)
Table 5.5 (continued)
92

Qualitative Audit Quantitative Audit Audit Accruals Voluntary Disclosure Same Industry
Risk Risk Fees Auditor Auditor Classification
Financial
Manufactured
Intellectual
Human—Corporate Governance
Human—Training, Accidents, Health
& Safety
Social and Relationship
Natural
Qualitative Audit Risk 1
Quantitative Audit Risk −0.017 1
(0.678)
Audit Fees −0.074 0.461** 1
(0.083) (0.000)
Accruals −0.024 0.902** 0.527** 1
(0.549) (0.000) (0.000)
Voluntary Disclosure Auditor 0.154** 0.137** 0.382** 0.098* 1
(0.000) (0.000) (0.000) (0.011)
Same Auditor −0.032 0.173** 0.350** 0.136** 0.623** 1
(0.419) (0.000) (0.000) (0.000) (0.000)
Industry Classification 0.037 0.000 −0.113** −0.028 0.129** 0.073 1
(0.349) (0.995) (0.008) (0.462) (0.001) (.059)
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0, respectively
P-values are in brackets
5 Relationship Between Integrated Reporting and Audit Risk …
5.3 Research Models 93

The dependent variable (Y) represents the Qualitative Audit Risk; the inde-
pendent variables are the research variables identified in Chap. 4, which represent
the six pillars of IR. The control variables are: Industry Classification, to control for
the sector of the firms; Voluntary Disclosure Auditor, to control for cases in which
there is an external auditor who audited the corporate social responsibility reports;
Same Auditor, to control if the same external auditor audited the corporate social
responsibility reports and mandatory annual report, and Accruals, as suggested by
the previous literature on this topic (Arens et al. 2007; Maletta and Kida 1993;
Mock and Wright 1993).
(2) Y = b0 + b1 Financial + b2 Human—Corporate Governance + b3 Human—
Accidents, Training and Health & Safety + b4 Natural + b5 Social + b6
Intellectual + b7 Manufactured + b8 Industry Classification + b9 Voluntary
Disclosure Auditor + b10 Same Auditor + b11 Accruals + e
The dependent variable (Y) represents the Quantitative Audit Risk; the inde-
pendent variables are the research variables identified in Chap. 4, which represent
the six pillars of IR. The control variables are the same as in regression analysis 1.
(3) Y = b0 + b1 Financial + b2 Human—Corporate Governance + b3 Human—
Accidents, Training and Health & Safety + b4 Natural + b5 Social + b6
Intellectual + b7 Manufactured + b8 Industry Classification + b9 Voluntary
Disclosure Auditor + b10 Same Auditor + b11 Accruals + b12 Qualitative
Audit Risk + b13 Quantitative Audit Risk + e
The dependent variable (Y) represents the Audit Fees; the independent variables
are the research variables identified in Chap. 4, which represent the six pillars for IR
and the components of the audit risk. The control variables are the same as in
regression analysis 1.

5.4 Empirical Results

The following sections present the empirical results for the entire dataset of firms
(Sect. 5.4.1) and the t-test analysis (Sect. 5.4.2). The regression analysis and t-test
allow us to test the research hypotheses.

5.4.1 Empirical Results for the Entire Dataset of Firms

The results of the regression analysis for the entire dataset of firms are reported in
Table 5.6.
Empirical results from the entire datasets of firms in 2014 demonstrated that
Qualitative Audit Risk is affected by the quality of some components of IR, thus
testing the Hp1a: Qualitative Audit Risk is affected by the quality of integrated
94 5 Relationship Between Integrated Reporting and Audit Risk …

Table 5.6 Results of the regression analysis (the dependent variable is Qualitative Audit Risk)
b P value Standard T
error
Financial 0.145 0.138 0.098 1.485
Human—Corporate Governance 0.142 0.001*** 0.041 3.481
**
Human—Accidents, Training and Health 0.113 0.043 0.056 2.031
& Safety
Natural 0.060 0.359 0.065 0.919
Social −0.077 0.176 0.057 −1.356
Intellectual −0.120 0.055* 0.062 −1.922
Manufactured −0.049 0.184 0.037 −1.332
Industry Classification 0.012 0.774 0.041 0.287
Voluntary Disclosure Auditor 0.293 0.004*** 0.100 2.941
Same Auditor −0.416 0.000 ***
0.094 −4.423
Accruals −0.284 0.036** 0.134 −2.111
R2 = 14.5%, F—test (F) = 4.982, p value = 0.000, Number of observations (N) = 335
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

reporting. More specifically, Table 5.6 shows that Qualitative Audit Risk is
affected by the quality of Human—Corporate Governance; Human—Accidents,
Training and Health & Safety; and Intellectual. The results show that if the quality
of Human—Corporate Governance is enhanced, Qualitative Audit Risk is enhanced
as well. Furthermore, if the quality of Human—Accidents, Training and Health &
Safety is enhanced, Qualitative Audit Risk is also enhanced. Further, if the quality
of Intellectual Capital increases, the Qualitative Audit Risk worsens. The Hp1a is
thus partially supported for some forms of capital of IR.
The following observations can be made concerning the control variables,
Voluntary Disclosure Auditor is positively correlated with Qualitative Audit Risk,
whereas Same Auditor and Accruals are negatively correlated with Qualitative
Audit Risk. However, the power of the model fit is moderate (R2 = 14.5%).
Empirical results from the entire datasets of firms in 2014 show that Quantitative
Audit Risk is affected by the quality of some components of IR, thus testing the
Hp1b: Quantitative Audit Risk is affected by the quality of integrated reporting. In
particular, Table 5.7 shows that Quantitative Audit Risk is affected by the quality of
Financial, Human—Corporate Governance, Natural and Intellectual. The empirical
results also show that if the quality of Financial increases, Quantitative Audit Risk
worsens, whereas if the quality of Human—Corporate Governance, Natural and
Intellectual increases, the Quantitative Audit Risk is enhanced. The Hp1b is thus
partially supported for some forms of capital of IR.
Accruals are negatively correlated with Quantitative Audit Risk; therefore, if
Accruals increase, Quantitative Audit Risk worsens. The power of the model fit is
high (R2 = 95.4%).
Empirical results from the entire datasets of firms in 2014 demonstrate that Audit
Fees are affected by the quality of some components of IR, thus testing the Hp3a:
5.4 Empirical Results 95

Table 5.7 Results of the regression analysis (the dependent variable is Quantitative Audit Risk)
b P value Standard T
error
Financial 0.797 0.000*** 0.021 38.112
Human—Corporate Governance −0.020 0.021** 0.009 −2.325
Human—Accidents, Training and Health −0.001 0.904 0.012 −0.121
& Safety
Natural −0.027 0.056* 0.014 −1.920
Social 0.003 0.836 0.012 0.207
Intellectual −0.047 0.001*** 0.013 −3.498
Manufactured 0.004 0.600 0.008 0.525
Industry Classification −0.006 0.463 0.009 −0.734
Voluntary Disclosure Auditor 0.015 0.493 0.021 0.686
Same Auditor −0.017 0.392 0.020 −0.857
Accruals 0.224 0.000*** 0.029 7.782
R2 = 95.4%, F = 608.692, p value = 0.000, N = 335
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Auditors charge lower Audit Fees to firms reporting a higher quality of integrated
report than to firms reporting a lower quality of integrated report. More specifi-
cally, Table 5.8 shows that Audit Fees are affected by the quality of the following
components of IR: Human—Accidents, Training and Health & Safety; Natural;
Social; and Intellectual. The relationships among Audit Fees and the components of
IR are always positive, when they are statistically significant. This means that when
the quality of Human—Accidents, Training and Health & Safety; Natural; Social;
and Intellectual increase, Audit Fees increase as well. Therefore, the Hp3a is not
supported, and we can conclude that Auditors charge higher Audit Fees to firms
reporting a higher quality of integrated report than to firms reporting a lower
quality of integrated report. The power of the model fit is quite high (R2 = 49.7%).
Voluntary Disclosure Auditor and Accruals are positively correlated with Audit
Fees, while Industry Classification is negatively correlated with Audit Fees.
Table 5.8 allows us to also test the Hp4a: Qualitative Audit Risk negatively
affects Audit Fees directly and Hp4b: Quantitative Audit Risk negatively affects
Audit Fees directly. In particular, Quantitative Audit Risk is not correlated with
Audit Fees; therefore, the Hp4b is not supported. On the other hand, Qualitative
Audit Risk is negatively associated with Audit Fees: thus, if Qualitative Audit Risk
is enhanced, Audit Fees decrease. The Hp4a is therefore supported.
Table 5.9 presents a multicollinearity check for each regression analysis carried
out in this section. Variance Inflation Factor (VIF) allows us to check for the
presence of multicollinearity. Low values for the VIF index (VIF < 10) and the
correlation matrix entries allow us to reject the hypothesis of the presence of
multicollinearity for the entire dataset of non-financial of firms (Cohen et al. 2013).
96 5 Relationship Between Integrated Reporting and Audit Risk …

Table 5.8 Results of the regression analysis (the dependent variable is Audit Fees)
b P value Standard T
error
Financial −0.187 0.660 0.424 −0.440
Human—Corporate Governance −0.081 0.285 0.076 −1.072
Human—Accidents, Training and Health 0.235 0.030** 0.108 2.182
& Safety
Natural 0.291 0.016** 0.120 2.422
Social 0.381 0.000*** 0.102 3.723
Intellectual 0.273 0.026** 0.122 2.242
Manufactured 0.018 0.799 0.073 0.255
Industry Classification −0.138 0.071* 0.076 −1.812
Voluntary Disclosure Auditor 0.327 0.075* 0.183 1.789
Same Auditor 0.277 0.127 0.181 1.530
Accruals 0.966 0.001*** 0.297 3.256
Quantitative Audit Risk 0.373 0.430 0.472 0.790
Qualitative Audit Risk −0.206 0.044** 0.102 −2.024
R2 = 49.7%, F = 22.131, p value = 0.000, N = 304
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Table 5.9 Multicollinearity check
VIF
Y = Qualitative Y = Quantitative Y = Audit
Audit Risk Audit Risk Fees
Financial 3.419 3.419 18.234
Human—Corporate Governance 1.031 1.031 1.076
Human—Accidents, Training and 1.257 1.257 1.246
Health & Safety
Natural 1.665 1.665 1.655
Social 1.405 1.405 1.388
Intellectual 1.397 1.397 1.535
Manufactured 1.031 1.031 1.022
Industry Classification 1.089 1.089 1.077
Voluntary Disclosure Auditor 1.893 1.893 1.883
Same Auditor 1.523 1.523 1.591
Accruals 3.753 3.753 4.467
Quantitative Audit Risk 19.750
Qualitative Audit Risk 1.156
Mean of VIF 1.769 1.769 4.314
5.4 Empirical Results 97

5.4.2 Empirical Results—T Test

This sub-section presents empirical results from the T-test analysis to check for
differences in the two groups following a wave analysis proposed by Rogelberg and
Stanton (2007).
To test the Hp2a (Auditors report lower levels of Qualitative Audit Risk for those
firms reporting an external audited integrated report compared to their clients with
non-audited integrated report), we carried out a t-test analysis on Qualitative Audit
Risk. We thus compared Qualitative Audit Risk for those firms reporting an
external audited integrated report compared to those firms with non-audited inte-
grated reports. The results show (Table 5.10) that there is a positive mean difference
(0.243) of Qualitative Audit Risk between the sub-dataset of audited IR and the
sub-dataset of non-audited IR; the mean difference of Qualitative Audit Risk is
statistically significant (p value = 0.000); therefore, the Hp2a is supported.
In order to test the Hp2b (Auditors report lower levels of Quantitative Audit Risk
for those firms reporting an external audited integrated report compared to their
clients with non-audited integrated report), we carried out a t-test analysis on
Quantitative Audit Risk. We thus compared Quantitative Audit Risk for those firms
reporting an external audited integrated report compared to those firms with
non-audited integrated reports. The results show (Table 5.11) that there is a positive
mean difference (0.207) of Quantitative Audit Risk between the sub-dataset of
audited IR and the sub-dataset of non-audited IR; the mean differences of
Quantitative Audit Risk is statistically significant (p value = 0.000); therefore, the
Hp2b is not supported.
To test the Hp2c (Auditors report lower levels of Qualitative Audit Risk when
they also audit the integrated report compared to their clients with integrated
report audited by a different auditor), we carried out a t-test analysis on Qualitative
Audit Risk. We thus compared Qualitative Audit Risk for those firms in which the
same auditor audited the integrated report compared to those firms with integrated
reports audited by a different auditor. The results show (Table 5.12) that there is a
positive mean difference (0.373) for Qualitative Audit Risk between (a) the
sub-dataset of companies with IR and the annual report audited by the same auditor
and (b) the sub-dataset of companies with IR and annual report audited by different
audit firms; the mean difference of Qualitative Audit Risk is statistically significant
(p value = 0.000); therefore, the Hp2c is not supported.
To test the Hp2d (Auditors report lower levels of Quantitative Audit Risk when
they also audit the integrated report, compared to their clients with integrated

Table 5.10 Results of the t-test analysis for Qualitative Audit Risk (Hp2a)
Voluntary Disclosure Number of Mean Standard
Auditor observations Deviation
Qualitative 0 353 −0.1567 0.85943
Audit Risk 1 276 0.0861 0.64752
98 5 Relationship Between Integrated Reporting and Audit Risk …

Table 5.11 Results of the t-test analysis for Quantitative Audit Risk (Hp2b)
Voluntary Disclosure Number of Mean Standard
Auditor observations Deviation
Quantitative 0 378 −0.0960 0.33616
Audit Risk 1 290 0.1110 1.06246

Table 5.12 Results of the t-test analysis for Qualitative Audit Risk (Hp2c)
Same Number of Mean Standard
Auditor observations Deviation
Qualitative Audit 0 138 -0.0244 0.30046
Risk 1 153 0.2315 1.42619

report audited by a different auditor), we carried out a t-test analysis on
Quantitative Audit Risk. We thus compared Quantitative Audit Risk for those firms
in which the same auditor audited the integrated report compared to those firms
with integrated reports audited by a different auditor. The results show (Table 5.13)
that there is a positive mean difference (0.256) for Quantitative Audit Risk
between (a) the sub-dataset of companies with IR and the annual report audited by
the same auditor and (b) the sub-dataset of companies with IR and annual report
audited by different audit firms; the mean difference is statistically significant (p
value = 0.040), and thus the Hp2d is not supported.
To test the Hp3b (Auditors charge lower Audit Fees to firms reporting an
external audited integrated report compared to firms with non-audited integrated
report), we carried out a t-test analysis applied on Audit Fees, comparing Audit
Fees for those firms reporting an external audited integrated report to those firms
with non-audited integrated reports. The results show (Table 5.14) that there is a
positive mean difference for Audit Fees between the sub-dataset of audited IR and
the sub-dataset of non-audited IR; the mean difference of the Audit Fees variable is
statistically significant (p value = 0.006), and therefore the Hp3b is not supported.

Table 5.13 Results of the t-test analysis for Quantitative Audit Risk (Hp2d)
Same Auditor Number of Mean Standard
observations Deviation
Quantitative Audit Risk 0 138 - 0.0244 0.30046
1 153 0.2315 1.42619

Table 5.14 Results of the t-test analysis for Audit Fees (Hp3b)
Voluntary Disclosure Number of Mean Standard
Auditor observations Deviation
Audit 0 311 13.848 1.333
Fees 1 246 15.037 1.549
5.4 Empirical Results 99

Table 5.15 Results of the t-test analysis for Audit Fees (Hp3c)
Same Auditor Number of observations Mean Standard Deviation
Audit Fees 0 125 14.6852 1.52424
1 122 15.3949 1.48981

To test the Hp3c (Auditors charge lower Audit Fees when they also audit the
integrated report, compared to their clients with integrated report audited by a
different auditor), a t-test analysis was carried out on Audit Fees, comparing Audit
Fees for those firms in which the same auditor audited the integrated report to those
firms with integrated reports audited by a different auditor. The results show
(Table 5.15) that there is a positive mean difference (0.710) for Audit Fees between
(a) the sub-dataset of an IR and annual report audited by the same auditor and
(b) the sub-dataset of an IR audited by a different audit firm than the one auditing
the mandatory financial report; the mean difference of the Audit Fees variable is
statistically significant (p value = 0.000), and therefore the Hp3c is not supported.

5.5 Additional Analysis: Empirical Results for Different
Sectors

We carried out an additional analysis for Industry Classification 1 (Sect. 5.5.1) and
for Industry Classification 2 (Sect. 5.5.2). For each class of Industry Classification
the same regression analysis was carried out on the entire dataset of companies. We
could not carry out a regression analysis for Industry Classification 3 and for
Industry Classification 6 due to the fact that the sub-samples are very small in these
industrial classes (see Table 5.2).

5.5.1 Additional Analysis: Empirical Results for Industry
Classification 1

This sub-section presents additional analysis on part of the dataset related to
Industry Classification 1.1 The dataset was split into the four classes of industry and
the same regression analysis was carried out on the entire dataset of the firms.

1
This class includes: the energy and the material sectors with the following sub-classes: Oil & Gas
Drilling; Oil & Gas Equipment & Services; Integrated Oil & Gas; Oil & Gas Exploration &
Production; Oil & Gas Refining & Marketing; Oil & Gas Storage & Transportation; Coal &
Consumable Fuels; Commodity Chemicals; Diversified Chemicals; Fertilizers & Agricultural
Chemicals; Industrial Gases; Specialty Chemicals; Construction Materials; Metal & Glass
Containers; Paper Packaging; Aluminium; Diversified Metals & Mining; Copper; Gold; Precious
Metals & Minerals; Silver; Steel; Forest Products; Paper Products (Thomson Reuters Datastream).
100 5 Relationship Between Integrated Reporting and Audit Risk …

Table 5.16 Results of the regression analysis (the dependent variable is Qualitative Audit Risk)
b P value Standard T
error
Financial 0.075 0.615 0.149 0.504
Human—Corporate Governance 0.135 0.003*** 0.044 3.039
Human—Accidents, Training and Health 0.074 0.233 0.062 1.196
& Safety
Natural 0.067 0.355 0.073 0.926
Social −0.078 0.214 0.063 −1.247
Intellectual −0.090 0.223 0.073 −1.222
Manufactured −0.038 0.366 0.041 −0.906
Accruals −0.227 0.149 0.157 −1.446
Voluntary Disclosure Auditor 0.323 0.004*** 0.111 2.912
Same Auditor −0.397 0.000*** 0.106 −3.736
R2 = 12.2%, F = 3.860, p value = 0.000, N = 288
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Table 5.16 shows the empirical analysis for the regression analysis where the
dependent variable is Qualitative Audit Risk for Industry Classification 1. The
results demonstrate that if the quality of Human—Corporate Governance increases,
Qualitative Audit Risk is enhanced. This behaviour also occurred for the entire
dataset of the firms (Table 5.6). Despite this, nothing more can be said about the
other forms of capital of IR. The power of the model fit is moderate also regarding
the entire dataset of the firms (R2 = 12.2%). Regarding the control variables,
Voluntary Disclosure Auditor is positively correlated with Qualitative Audit Risk,
whereas Same Auditor is negatively correlated with Qualitative Audit Risk.
Table 5.17 shows that the quality of Financial is positively correlated with
Quantitative Audit Risk, whereas Human—Corporate Governance and Intellectual
are negatively correlated with Quantitative Audit Risk. The power of the model fit
is high (R2 = 95.8%). In terms of the control variables, Accruals are positively
correlated with Quantitative Audit Risk, whereas Same Auditor is negatively cor-
related with Quantitative Audit Risk. This trend confirms that shown for the dataset
as a whole (Table 5.7). In fact, if the quality of Financial increases, Quantitative
Audit Risk worsens, whereas if the quality of Human—Corporate Governance and
Intellectual increases, Quantitative Audit Risk is enhanced.
The results in Table 5.18 show that Human—Accidents, Training and Health &
Safety, Natural and Social are positively correlated with Audit Fees. Similar con-
siderations could arise from the analysis of the whole dataset (Table 5.8). In fact, if
the quality of Human—Accidents, Training and Health & Safety, Natural and
Social increase, Audit Fees increase as well. Among the control variables, Same
Auditor and Quantitative Audit Risk are positively correlated with Audit Fees,
whereas Qualitative Audit Risk is negatively correlated with Audit Fees. The power
of the model fit is high (R2 = 51.10%).
5.5 Additional Analysis: Empirical Results for Different Sectors 101

Table 5.17 Results of the regression analysis (the dependent variable is Quantitative Audit Risk)
b P value Standard T
error
Financial 0.492 0.000*** 0.020 24.009
Human—Corporate Governance −0.010 0.092* 0.006 −1.691
Human—Accidents, Training and Health 0.000 0.967 0.009 0.041
& Safety
Natural −0.011 0.293 0.010 −1.054
Social 0.004 0.685 0.009 0.407
Intellectual −0.027 0.009*** 0.010 −2.648
Manufactured 0.000 0.983 0.006 −0.022
Accruals 0.408 0.000*** 0.022 18.854
Voluntary Disclosure Auditor 0.007 0.640 0.015 0.468
Same Auditor −0.016 0.281 0.015 −1.080
R2 = 95.8%, F = 637.951, p value = 0.000, N = 288
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Table 5.18 Results of the regression analysis (the dependent variable is Audit Fees)
b P value Standard T
error
Financial −0.566 0.247 0.488 −1.159
Human—Corporate Governance −0.060 0.437 0.077 −0.779
Human—Accidents, Training and Health 0.194 0.078* 0.110 1.772
& Safety
Natural 0.333 0.008*** 0.125 2.666
Social 0.355 0.001*** 0.107 3.325
Intellectual 0.177 0.204 0.139 1.273
Manufactured −0.092 0.220 0.075 −1.230
Accruals 0.540 0.205 0.425 1.270
Voluntary Disclosure Auditor 0.299 0.120 0.192 1.561
Same Auditor 0.323 0.093* 0.191 1.689
Quantitative Audit Risk 1.526 0.078* 0.863 1.767
Qualitative Audit Risk −0.227 0.028** 0.103 −2.207
R2 = 51.10%, F = 21.799, p value = 0.000, N = 263
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Table 5.19 shows the multicollinearity check for each regression analysis carried
out in this section for Industry Classification 1. Low values for the VIF index
(VIF < 10) and the correlation matrix entries allow us to reject the hypothesis of the
presence of multicollinearity for the entire dataset of non-financial of firms (Cohen
et al. 2013).
102 5 Relationship Between Integrated Reporting and Audit Risk …

Table 5.19 Multicollinearity check for Industry Classification 1
VIF
Y = Qualitative Y = Quantitative Y = Audit
Audit Risk Audit Risk Fees
Financial 3.817 3.817 11.542
Human—Corporate Governance 1.030 1.030 1.057
Human—Accidents, Training and 1.233 1.233 1.243
Health & Safety
Natural 1.728 1.728 1.709
Social 1.417 1.417 1.430
Intellectual 1.496 1.496 1.705
Manufactured 1.025 1.025 1.029
Accruals 1.968 1.968 1.984
Voluntary Disclosure Auditor 1.543 1.543 1.620
Same Auditor 4.051 4.051 7.677
Quantitative Audit Risk 22.171
Qualitative Audit Risk 1.132
Mean of VIF 1.931 1.931 4.525

5.5.2 Additional Analysis: Empirical Results for Industry
Classification 2

This section presents additional analysis on part of the dataset related to Industry
Classification 2.2 The empirical results from the regression analysis where the
dependent variable is Qualitative Audit Risk (Table 5.20) shows that Financial is
positively correlated with Qualitative Audit Risk. Furthermore, Accruals are neg-
atively correlated with Qualitative Audit Risk. The power of the model fit is high
(R2 = 57.2%).

2
This class includes the Industrial and Consumer Discretionary sectors with the following
sub-classes: Aerospace & Defense; Building Products; Construction & Engineering; Electrical
Components & Equipment; Heavy Electrical Equipment; Industrial Conglomerates; Construction
Machinery & Heavy Trucks; Agricultural & Farm Machinery; Industrial Machinery; Trading
Companies & Distributors; Commercial Printing; Environmental & Facilities Services; Office
Services & Supplies; Diversified Support Services; Security & Alarm Services; Human Resource
& Employment Services; Research & Consulting Services; Air Freight & Logistics; Airlines;
Marine; Railroads; Trucking; Airport Services; Highways & Railtracks; Marine Ports & Services;
Auto Parts & Equipment; Tires & Rubber; Automobile Manufacturers; Motorcycle Manufacturers;
Consumer Electronics; Home Furnishings; Homebuilding; Household Appliances; Housewares &
Specialties; Leisure Products; Apparel, Accessories & Luxury Goods; Footwear; Textiles; Casinos
& Gaming; Hotels, Resorts & Cruise Lines; Leisure Facilities; Restaurants; Education Services;
Specialized Consumer Services; Advertising; Broadcasting; Cable & Satellite; Movies &
Entertainment; Publishing; Distributors; Internet & Direct Marketing Retail; Department Stores;
General Merchandise Stores; Apparel Retail; Computer & Electronics Retail; Home Improvement
Retail; Specialty Stores; Automotive Retail; Home furnishing Retail.
5.5 Additional Analysis: Empirical Results for Different Sectors 103

Table 5.20 Results of the regression analysis (the dependent variable is Qualitative Audit Risk)
b P value Standard T
error
Financial 1.062 0.042** 0.478 2.221
Human—Corporate Governance 0.095 0.640 0.200 0.477
Human—Accidents, Training and Health & 0.198 0.604 0.373 0.530
Safety
Natural 0.145 0.677 0.342 0.425
Social −0.108 0.659 0.239 −0.450
Intellectual −0.154 0.478 0.212 −0.727
Manufactured −0.103 0.549 0.168 −0.614
Accruals −2.252 0.042** 1.014 −2.221
Voluntary Disclosure Auditor −0.424 0.395 0.485 −0.875
Same Auditor −0.432 0.214 0.333 −1.298
R2 = 57.2%, F = 2.006, p value = 0.108, N = 25
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Table 5.21 Results of the regression analysis (the dependent variable is Quantitative Audit Risk)
b P value Standard T
error
Financial 0.717 0.000*** 0.063 11.308
Human—Corporate Governance −0.019 0.491 0.026 −0.707
Human—Accidents, Training and Health 0.041 0.418 0.049 0.832
& Safety
Natural −0.049 0.301 0.045 −1.070
Social −0.035 0.293 0.032 −1.090
Intellectual −0.036 0.224 0.028 −1.268
Manufactured 0.022 0.329 0.022 1.008
Accruals 0.708 0.000*** 0.134 5.266
Voluntary Disclosure Auditor −0.057 0.392 0.064 −0.882
Same Auditor 0.024 0.595 0.044 0.542
R2 = 99.9%, F = 1317.109, p value = 0.000, N = 25
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Table 5.21 shows the regression analysis where the dependent variable is
Quantitative Audit Risk. Financial and Accruals are positively correlated with
Quantitative Audit Risk, and the power of model fit is very high (R2 = 99.9%).
Table 5.22 shows the regression analysis where the dependent variable is Audit
Fees. The empirical results highlight that Intellectual and Manufactured are posi-
tively correlated with the amount of Audit Fees. Even Qualitative Audit Risk is
positively correlated with Audit Fees. The power of the model fit is high
(R2 = 83.9%).
104 5 Relationship Between Integrated Reporting and Audit Risk …

Table 5.22 Results of the regression analysis (the dependent variable is Audit Fees)
b P value Standard T
error
Financial −7.441 0.173 5.030 −1.479
Human—Corporate Governance −0.205 0.716 0.546 −0.376
Human—Accidents, Training and Health & −0.199 0.833 0.917 −0.217
Safety
Natural 0.138 0.878 0.869 0.159
Social 0.567 0.379 0.613 0.924
Intellectual 1.238 0.055* 0.562 2.204
Manufactured 1.304 0.015** 0.434 3.005
Accruals 3.039 0.512 4.456 0.682
Voluntary Disclosure Auditor 1.742 0.200 1.260 1.383
Same Auditor 0.708 0.434 0.865 0.818
Quantitative Audit Risk 6.388 0.316 6.020 1.061
Qualitative Audit Risk 1.658 0.037** 0.676 2.454
R2 = 83.9%, F = 3.911, p value = 0.024, N = 21
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Table 5.23 shows the multicollinearity check for each regression analysis carried
out in this section for Industry Classification 2. In each regression, the mean value
for VIF is higher than the threshold level (VIF = 10). Thus, attention should be
given to the generalization of these results, especially for those independent vari-
ables showing high multicollinearity values (Cohen et al. 2013).

5.6 Additional Analysis: Empirical Results for Assurance
on Voluntary Disclosure

5.6.1 Additional Analysis: Empirical Results for Voluntary
Disclosure Auditor

Table 5.24 shows the empirical results where the dependent variable is Qualitative
Audit Risk and the Voluntary Disclosure Auditor is equal to zero.
Table 5.24 shows that both components of Human (Human—Corporate
Governance and Human—Accidents, Training and Health & Safety) are positively
correlated with Qualitative Audit Risk, whereas Intellectual is negatively correlated
with Qualitative Audit Risk. However, the power of the model fit is moderate
(R2 = 14.0%).
Table 5.25 shows the empirical results where the dependent variable is
Quantitative Audit Risk and the Voluntary Disclosure Auditor is equal to zero.
5.6 Additional Analysis: Empirical Results for Assurance … 105

Table 5.23 Multicollinearity check for Industry Classification 2
VIF
Y = Qualitative Y = Quantitative Y = Audit
Audit Risk Audit Risk Fees
Financial 48.994 48.994 988.174
Human—Corporate Governance 2.136 2.136 2.674
Human—Accidents. Training and 3.530 3.530 3.801
Health & Safety
Natural 2.055 2.055 2.323
Social 1.287 1.287 1.506
Intellectual 3.198 3.198 3.825
Manufactured 1.458 1.458 1.696
Accruals 1.894 1.894 2.314
Voluntary Disclosure Auditor 2.172 2.172 2.296
Same Auditor 45.369 45.369 160.476
Quantitative Audit Risk 1539.684
Qualitative Audit Risk 2.834
Mean of VIF 11.209 11.209 225.967

Table 5.24 Results of the regression analysis (the dependent variable is Qualitative Audit Risk;
Voluntary Disclosure Auditor = 0)
b P value Standard T
error
Financial 0.120 0.887 0.845 0.143
Human—Corporate Governance 0.197 0.005*** 0.069 2.858
Human—Accidents, Training and Health 0.392 0.003*** 0.129 3.028
& Safety
Natural 0.094 0.402 0.112 0.841
Social −0.121 0.176 0.089 −1.360
Intellectual −0.646 0.086* 0.373 −1.733
Manufactured −0.099 0.223 0.081 −1.226
Industry Classification 0.222 0.168 0.160 1.388
Accruals −0.262 0.710 0.702 −0.373
Same Auditor
R2 = 14.0%, F = 2.244, p value = 0.023, N = 133
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Table 5.25 indicates that Financial and Accruals are positively correlated with
Quantitative Audit Risk. The power of the model fit is very high (R2 = 98.8%).
Table 5.26 shows the empirical results where the dependent variable is Audit
Fees and the Voluntary Disclosure Auditor is equal to zero. Table 5.26 demonstrate
that Financial, Social and Quantitative Audit Risk are positively correlated with
106 5 Relationship Between Integrated Reporting and Audit Risk …

Table 5.25 Results of the regression analysis (the dependent variable is Quantitative Audit Risk;
Voluntary Disclosure Auditor = 0)
b P value Standard T
error
Financial 0.634 0.000*** 0.059 10.775
Human—Corporate Governance −0.001 0.775 0.005 −0.286
Human—Accidents, Training and Health 0.001 0.910 0.009 0.113
& Safety
Natural −0.011 0.149 0.008 −1.451
Social −0.003 0.611 0.006 −0.510
Intellectual −0.032 0.219 0.026 −1.236
Manufactured −0.003 0.656 0.006 −0.447
Industry Classification −0.004 0.723 0.011 −0.355
Accruals 0.373 0.000*** 0.049 7.626
Same Auditor
R2 = 98.8%, F = 1168.051, p value = 0.000, N = 133
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Table 5.26 Results of the regression analysis (the dependent variable is Audit Fees; Voluntary
Disclosure Auditor = 0)
b P value Standard T
error
Financial 4.770 0.047** 2.370 2.013
Human—Corporate Governance −0.016 0.868 0.094 −0.166
Human—Accidents, Training and Health −0.086 0.671 0.203 −0.426
& Safety
Natural 0.132 0.382 0.150 0.878
Social 0.293 0.016** 0.120 2.455
Intellectual 0.181 0.726 0.516 0.351
Manufactured −0.104 0.441 0.134 −0.773
Industry Classification −0.102 0.647 0.223 −0.459
Accruals −9.168 0.000**** 2.108 −4.349
Quantitative Audit Risk 8.980 0.000*** 2.484 3.616
Qualitative Audit Risk −0.275 0.023** 0.119 −2.312
Same Auditor
R2 = 42.6%, F = 7.626, p value = 0.000, N = 124
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Audit Fees, whereas Accruals and Qualitative Audit Risk are negatively correlated
with Audit Fees. The power of the model fit is high (R2 = 42.6%).
Table 5.27 shows the multicollinearity check for each regression analysis carried
out in this section, when Voluntary Disclosure Auditor is equal to zero. In the third
5.6 Additional Analysis: Empirical Results for Assurance … 107

Table 5.27 Multicollinearity check for Voluntary Disclosure Auditor equal to zero
VIF
Y = Qualitative Y = Quantitative Y = Audit
Audit Risk Audit Risk Fees
Financial 31.268 31.268 45.973
Human—Corporate Governance 1.045 1.045 1.123
Human—Accidents, Training and 1.332 1.332 1.423
Health & Safety
Natural 1.188 1.188 1.206
Social 1.194 1.194 1.213
Intellectual 1.315 1.315 1.473
Manufactured 1.168 1.168 1.085
Industry Classification 1.156 1.156 1.125
Accruals 31.907 31.907 67.636
Same Auditor
Quantitative Audit Risk 60.462
Qualitative Audit Risk 1.128
Mean of VIF 7.953 7.953 16.713

regression, with Audit Fees as the dependent variable, the mean value of VIF is
higher than the threshold level (VIF = 10). Thus, attention should be given to the
generalization of these results, especially for those independent variables showing
high multicollinearity values (Cohen et al. 2013).
The following table (Table 5.28) shows the empirical results when the depen-
dent variable is Qualitative Audit Risk and Voluntary Disclosure Auditor is equal to
1. Table 5.28 shows that Human—Corporate Governance is positively correlated
with Qualitative Audit Risk, whereas Accruals and Same Auditor are negatively
correlated with Qualitative Audit Risk. The power of the model fit is moderate
(R2 = 20.6%).
The following table (Table 5.29) shows the empirical results when the depen-
dent variable is Quantitative Audit Risk and the Voluntary Disclosure Auditor is
equal to 1. Table 5.29 shows that Financial is positively correlated with
Quantitative Audit Risk, whereas Human—Corporate Governance and Intellectual
are negatively correlated with Quantitative Audit Risk. Accruals are positively
correlated with Quantitative Audit Risk, and the power of the model fit is very high
(R2 = 94.5%).
The following table (Table 5.30) shows the empirical results when the depen-
dent variable is Audit Fees and Voluntary Disclosure Auditor is equal to 1.
Table 5.30 shows that Human—Accidents, Training and Health & Safety, Natural,
Social, Intellectual and Accruals are positively correlated with Audit Fees. The
power of the model fit is high (R2 = 50.3%).
Table 5.31 shows the multicollinearity check for each regression analysis carried
out in this section, when Voluntary Disclosure Auditor is equal to 1. The results
reveal there are no concerns regarding multicollinearity (Cohen et al. 2013).
108 5 Relationship Between Integrated Reporting and Audit Risk …

Table 5.28 Results of the regression analysis (the dependent variable is Qualitative Audit Risk;
Voluntary Disclosure Auditor = 1)
b P value Standard T
error
Financial 0.143 0.134 0.095 1.505
Human—Corporate Governance 0.119 0.020** 0.051 2.343
Human—Accidents, Training and Health 0.035 0.547 0.058 0.603
& Safety
Natural 0.072 0.371 0.081 0.896
Social −0.087 0.259 0.077 −1.131
Intellectual −0.093 0.126 0.061 −1.536
Manufactured −0.032 0.420 0.040 −0.809
Industry Classification −0.007 0.859 0.039 −0.178
Accruals −0.274 0.100* 0.166 −1.655
Same Auditor −0.417 0.000*** 0.085 −4.925
R2 = 20.6%, F = 4.947, p value = 0.000, N = 201
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Table 5.29 Results of the regression analysis (the dependent variable is Quantitative Audit Risk;
Voluntary Disclosure Auditor = 1)
b P value Standard T
error
Financial 0.810 0.000*** 0.029 28.133
Human—Corporate Governance −0.035 0.023** 0.015 −2.300
Human—Accidents, Training and Health −0.001 0.938 0.018 −0.078
& Safety
Natural −0.034 0.170 0.025 −1.378
Social 0.002 0.924 0.023 0.095
Intellectual −0.041 0.026** 0.018 −2.245
Manufactured 0.004 0.745 0.012 0.326
Industry Classification −0.009 0.479 0.012 −0.709
Accruals 0.190 0.000*** 0.050 3.784
Same Auditor −0.018 0.489 0.026 −0.693
R2 = 94.5%, F = 328.214, p value = 0.000, N = 201
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

5.6.2 Additional Analysis: Empirical Results for Same
Auditor

The following table (Table 5.32) shows the empirical results when the dependent
variable is Qualitative Audit Risk and Same Auditor is equal to zero.
5.6 Additional Analysis: Empirical Results for Assurance … 109

Table 5.30 Results of the regression analysis (the dependent variable is Audit Fees; Voluntary
Disclosure Auditor = 1)
b P value Standard T
error
Financial −0.218 0.631 0.452 −0.482
Human—Corporate Governance −0.167 0.140 0.113 −1.485
Human—Accidents, Training and Health 0.329 0.011** 0.128 2.578
& Safety
Natural 0.575 0.001*** 0.175 3.294
Social 0.361 0.029** 0.164 2.200
Intellectual 0.240 0.073* 0.133 1.806
Manufactured 0.095 0.267 0.085 1.113
Industry Classification −0.128 0.136 0.085 −1.499
Accruals 1.031 0.005*** 0.363 2.845
Quantitative Audit Risk 0.282 0.152 0.196 1.441
Qualitative Audit Risk 0.335 0.500 0.497 0.675
Same Auditor −0.098 0.537 0.159 −0.618
R2 = 50.3%, F = 14.096, p value = 0.000, N = 179
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Table 5.31 Multicollinearity check for Voluntary Disclosure Auditor equal to 1
VIF
Y = Qualitative Y = Quantitative Y = Audit
Audit Risk Audit Risk Fees
Financial 3.389 3.389 18.070
Human—Corporate Governance 1.078 1.078 1.128
Human—Accidents, Training and 1.213 1.213 1.220
Health & Safety
Natural 1.282 1.282 1.302
Social 1.301 1.301 1.338
Intellectual 1.526 1.526 1.566
Manufactured 1.038 1.038 1.043
Industry Classification 1.141 1.141 1.137
Accruals 4.186 4.186 4.742
Same Auditor 1.097 1.097 1.256
Quantitative Audit Risk 18.687
Qualitative Audit Risk 1.278
Mean of VIF 1.725 1.725 4.397

Table 5.32 shows that Financial is negatively correlated with Qualitative Audit
Risk, whereas Human—Corporate Governance; Human—Accidents, Training and
Health & Safety and Voluntary Disclosure Auditor are positively correlated with
Qualitative Audit Risk. The power of the model fit is moderate (R2 = 13.7%).
110 5 Relationship Between Integrated Reporting and Audit Risk …

Table 5.32 Results of the regression analysis (the dependent variable is Qualitative Audit Risk;
Same Auditor = 0)
b P value Standard T
error
Financial −0.716 0.057* 0.374 −1.912
Human—Corporate Governance 0.174 0.001*** 0.051 3.376
Human—Accidents, Training and Health 0.130 0.073* 0.072 1.802
& Safety
Natural 0.033 0.665 0.077 0.433
Social −0.050 0.426 0.063 −0.798
Intellectual −0.118 0.163 0.084 −1.401
Manufactured −0.050 0.237 0.042 −1.185
Industry Classification 0.049 0.396 0.057 0.850
Accruals 0.395 0.209 0.314 1.259
Voluntary Disclosure Auditor 0.309 0.003*** 0.104 2.969
R2 = 13.7%, F = 3.454, p value = 0.000, N = 228
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

The following table (Table 5.33) shows the empirical results when the depen-
dent variable is Quantitative Audit Risk and Same Auditor is equal to zero.
Table 5.33 shows that Financial and Accruals are positively correlated with
Quantitative Audit Risk, whereas Intellectual is negatively correlated with
Quantitative Audit Risk. The power of the model fit is high (R2 = 96.6%).

Table 5.33 Results of the regression analysis (the dependent variable is Quantitative Audit Risk;
Same Auditor = 0)
b P value Standard T
error
Financial 0.537 0.000*** 0.042 12.902
Human—Corporate Governance −0.003 0.549 0.006 −0.600
Human—Accidents, Training and Health 0.010 0.230 0.008 1.203
& Safety
Natural −0.012 0.155 0.009 −1.426
Social 0.000 0.971 0.007 −0.036
Intellectual −0.042 0.000*** 0.009 −4.456
Manufactured 0.000 0.969 0.005 0.039
Industry Classification −0.004 0.529 0.006 −0.631
Accruals 0.436 0.000*** 0.035 12.489
Voluntary Disclosure Auditor 0.008 0.477 0.012 0.713
R2 = 96.6%, F = 627.885, p value = 0.000, N = 228
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively
5.6 Additional Analysis: Empirical Results for Assurance … 111

Table 5.34 Results of the regression analysis (the dependent variable is Audit Fees; Same
Auditor = 0)
b P value Standard T
error
Financial 1.484 0.140 1.001 1.483
Human—Corporate Governance −0.034 0.711 0.091 −0.371
Human—Accidents, Training and Health −0.144 0.297 0.138 −1.045
& Safety
Natural 0.313 0.020** 0.134 2.339
Social 0.327 0.003*** 0.109 2.983
Intellectual 0.397 0.017** 0.165 2.402
Manufactured −0.024 0.774 0.082 −0.288
Industry Classification −0.189 0.058* 0.099 −1.903
Accruals −2.712 0.003*** 0.902 −3.008
Voluntary Disclosure Auditor 0.304 0.102 0.185 1.642
Quantitative Audit Risk 4.010 0.001*** 1.212 3.310
Qualitative Audit Risk −0.207 0.083* 0.119 −1.744
R2 = 44.5%, F = 13.491, p value = 0.000, N = 214
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

The following table (Table 5.34) shows the empirical results where the depen-
dent variable is Audit Fees and Same Auditor is equal to zero.
Table 5.34 shows that Natural, Social, Intellectual and Quantitative Audit Risk
are positively correlated with Audit Fees, whereas Industry Classification, Accruals
and Qualitative Audit Risk are negatively correlated with Audit Fees. The power of
the model fit is high (R2 = 44.5%).
Table 5.35 shows the multicollinearity check for each regression analysis carried
out in this section when Same Auditor is equal to zero. The results show there are
no concerns regarding multicollinearity (Cohen et al. 2013).
The following table (Table 5.36) shows the empirical results when the depen-
dent variable is Qualitative Audit Risk and Same Auditor is equal to 1.
Table 5.36 shows that Financial is positively correlated with Qualitative Audit
Risk, whereas Accruals are negatively correlated with Qualitative Audit Risk. The
power of the model fit is moderate (R2 = 13.3%).
The following table (Table 5.37) shows the empirical results when the depen-
dent variable is Quantitative Audit Risk and Same Auditor is equal to 1. Table 5.37
shows that Financial and Accruals are positively correlated with Quantitative Audit
112 5 Relationship Between Integrated Reporting and Audit Risk …

Table 5.35 Multicollinearity check with Same Auditor equal to 0
VIF
Y = Qualitative Y = Quantitative Y = Audit
Audit Risk Audit Risk Fees
Financial 10.592 10.592 10.951
Human—Corporate Governance 1.020 1.020 1.079
Human—Accidents, Training and 1.380 1.380 1.348
Health & Safety
Natural 1.553 1.553 1.538
Social 1.285 1.285 1.302
Intellectual 1.468 1.468 1.737
Manufactured 1.050 1.050 1.037
Industry Classification 1.089 1.089 1.092
Accruals 10.358 10.358 14.921
Voluntary Disclosure Auditor 1.424 1.424 1.459
Quantitative Audit Risk 16.254
Qualitative Audit Risk 1.137
Mean of VIF 3.122 3.122 4.488

Table 5.36 Results of the regression analysis (the dependent variable is Qualitative Audit Risk;
Same Auditor = 1)
b P value Standard T
error
Financial 0.241 0.040** 0.116 2.083
Human—Corporate Governance 0.088 0.213 0.070 1.252
Human—Accidents, Training and Health & 0.147 0.110 0.091 1.612
Safety
Natural 0.209 0.122 0.134 1.561
Social −0.219 0.122 0.140 −1.562
Intellectual −0.112 0.241 0.095 −1.180
Manufactured −0.078 0.358 0.085 −0.924
Industry Classification −0.035 0.571 0.061 −0.568
Accruals −0.437 0.038** 0.208 −2.102
Voluntary Disclosure Auditor
R2 = 13.3%, F = 1.654, p value = 0.111, N = 106
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively
5.6 Additional Analysis: Empirical Results for Assurance … 113

Table 5.37 Results of the regression analysis (the dependent variable is Quantitative Audit Risk;
Same Auditor = 1)
b P value Standard T
error
Financial 0.821 0.000*** 0.040 20.752
Human—Corporate Governance −0.040 0.099* 0.024 −1.666
Human—Accidents, Training and Health −0.006 0.845 0.031 −0.197
& Safety
Natural −0.047 0.311 0.046 −1.019
Social 0.012 0.801 0.048 0.253
Intellectual −0.054 0.097* 0.032 −1.676
Manufactured 0.010 0.740 0.029 0.333
Industry Classification −0.008 0.710 0.021 −0.373
Accruals 0.185 0.011** 0.071 2.598
Voluntary Disclosure Auditor
R2 = 95.1%, F = 210.996, p value = 0.000, N = 106
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively

Risk, whereas Human—Corporate Governance and Intellectual are negatively
correlated with Quantitative Audit Risk. The power of the model fit is very high
(R2 = 95.1%).
The following table (Table 5.38) shows the empirical results when the depen-
dent variable is Audit Fees and Same Auditor is equal to 1. Table 5.38 shows that

Table 5.38 Results of the regression analysis (the dependent variable is Audit Fees; Same
Auditor = 1)
b P value Standard T
error
Financial 1.484 0.140 1.001 1.483
Human—Corporate Governance −0.034 0.711 0.091 −0.371
Human—Accidents, Training and Health −0.144 0.297 0.138 −1.045
& Safety
Natural 0.313 0.020** 0.134 2.339
Social 0.327 0.003*** 0.109 2.983
Intellectual 0.397 0.017** 0.165 2.402
Manufactured −0.024 0.774 0.082 −0.288
Industry Classification −0.189 0.058* 0.099 −1.903
Accruals −2.712 0.003*** 0.902 −3.008
Voluntary Disclosure Auditor 0.304 0.102 0.185 1.642
Quantitative Audit Risk 4.010 0.001*** 1.212 3.310
Qualitative Audit Risk −0.207 0.083* 0.119 −1.744
R2 = 44.5%, F = 9.067, p value = 0.000, N = 89
* ** ***
, , indicate a significance degree between 0.10 and 0.05, 0.05 and 0.01, and 0.01 and 0,
respectively
114 5 Relationship Between Integrated Reporting and Audit Risk …

Table 5.39 Multicollinearity check for Same Auditor equal to 1
VIF
Y = Qualitative Y = Quantitative Y = Audit
Audit Risk Audit Risk Fees
Financial 3.629 3.629 20.794
Human—Corporate Governance 1.105 1.105 1.154
Human—Accidents, Training and 1.127 1.127 1.207
Health & Safety
Natural 1.357 1.357 1.444
Social 1.432 1.432 1.573
Intellectual 1.283 1.283 1.364
Manufactured 1.145 1.145 1.178
Industry Classification 1.144 1.144 1.153
Accruals 4.185 4.185 4.707
Same Auditor
Quantitative Audit Risk 21.266
Qualitative Audit Risk 1.151
Mean of VIF 1.823 1.823 5.181

Natural, Social, Intellectual and Quantitative Audit Risk are positively correlated
with Audit Fees, whereas Industry Classification, Accruals and Qualitative Audit
Risk are negatively correlated with Audit Fees. The power of the model fit is high
(R2 = 44.5%).
Table 5.39 shows the multicollinearity check for each regression analysis carried
out in this section when Same Auditor is equal to 1. The results show there are no
concerns regarding multicollinearity (Cohen et al. 2013).

5.7 Summary Results for the Entire Dataset

Table 5.40 summarizes the results of the test of the hypotheses outlined in Chap. 4
and Fig. 5.1 presents the test of the research design. Even though many of the
research hypotheses are not supported by the empirical results, they lead to an
insightful discussion on the possible causes of those results which are contrary to
the theoretical expectations. Chapter 6 will discuss the results of this study.
5.7 Summary Results for the Entire Dataset 115

Table 5.40 Summary results
Hypothesis Whole dataset
Hp1a: Qualitative Audit Risk is affected by Hp1a: partially supported
the quality of integrated reporting Qualitative Audit Risk is affected by the
quality of Human—Corporate Governance;
Human—Accidents, Training and Health &
Safety; and Intellectual
Hp1b: Quantitative Audit Risk is affected by Hp1b: partially supported
the quality of integrated reporting Quantitative Audit Risk is affected by the
quality of Financial, Human—Corporate
Governance, Natural and Intellectual
Hp2a: Auditors report lower levels of Hp2a: supported
Qualitative Audit Risk for those firms
reporting an external audited integrated
report compared to their clients with non-
audited integrated report
Hp2b: Auditors report lower levels of Hp2b: not supported
Quantitative Audit Risk for those firms
reporting an external audited integrated
report compared to their clients with non-
audited integrated report
Hp2c: Auditors report lower levels of Hp2c: not supported
Qualitative Audit Risk when they also audit
the integrated report, compared to their
clients with integrated report audited by a
different auditor
Hp2d: Auditors report lower levels of Hp2d: not supported
Quantitative Audit Risk when they also audit
the integrated report, compared to their
clients with integrated report audited by a
different auditor
Hp3a: Auditors charge lower Audit Fees to Hp3a: not supported
firms reporting a higher quality of integrated
report than to firms reporting a lower quality
of integrated report
Hp3b: Auditors charge lower Audit Fees to Hp3b: supported
firms reporting an external audited integrated
report compared to firms with non-audited
integrated report
Hp3c: Auditors charge lower Audit Fees Hp3c: not supported
when they also audit the integrated report,
compared to their clients with integrated
report audited by a different auditor
Hp4a: Qualitative Audit Risk negatively Hp4a: supported
affects Audit Fees directly
Hp4b: Quantitative Audit Risk negatively Hp4b: not supported
affects Audit Fees directly
116 5 Relationship Between Integrated Reporting and Audit Risk …

Fig. 5.1 Test of the research design

References

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Cohen J, Cohen P, West SG, Aiken LS (2013) Applied Multiple regression/correlation analysis for
the behavioral sciences. Routledge
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processing. Account Rev 68:681–691
Mock TJ, Wright A (1993) An exploratory study of auditors’ evidential planning judgments.
Auditing 12:39
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Chapter 6
Concluding Remarks

Abstract Could integrated reporting become the future framework of corporate
reporting; that is, “the next step in the evolution of corporate reporting” (International
Integrated Reporting Council in The International <IR> Framework. International
Integrated Reporting Council, London 2013: 1)? Some benefits and issues regarding
the use of integrated reporting (IR) are outlined. First, it is claimed that IR can provide
new opportunities to enhance the quality of corporate auditing. By measuring the
quality of disclosure of each of the six forms of capital of IR, as well as the audit risk,
through its main qualitative and quantitative components, the effects of IR can be
better linked to specific features of corporate auditing. Secondly, IR can be both
beneficial and detrimental with regard to audit fees, depending on the type of capital
and the different audit risk component involved. Thirdly, contrary to expectations,
assurance on IR quality does not enhance the effect of IR on audit risk and audit fees.
Further research could explore issues related to those investigated in this study. More
specifically, there is a call to move towards the second, third and fourth stages of
research in the IR field in order to better understand the benefits and costs attached to
the preparation and use of IR by both companies and their stakeholders.

6.1 The Future of Corporate Reporting

In this section, we discuss the results of the theoretical and empirical analysis
conducted in the previous chapters of this manuscript. Chapter 1 discussed the
grounds for the need to analyse the role of non-financial voluntary disclosure and its
role in the assessment and cost of mandatory auditing. Chapter 2 reviewed the
literature on the evolution of the use and disclosure of non-financial voluntary
information, with a specific focus on the rise of the adoption of a single report—
One Report (Eccles and Krzus 2010)—based on a triple bottom line approach
(Elkington 1994), the Integrated Report (IR), and the philosophy behind it, the so
called integrated thinking. Chapter 3 introduced and discussed audit quality,
identifying the relevant topics in the literature that are affected by and affect the
quality of assurance of company disclosure. It also put forward a new measurement

© Springer International Publishing AG 2017 117
C. Demartini and S. Trucco, Integrated Reporting and Audit Quality,
Contributions to Management Science, DOI 10.1007/978-3-319-48826-4_6
118 6 Concluding Remarks

method to assess the quality of the auditing procedure, which is focused on both the
qualitative and quantitative side of auditing. The research framework and hypoth-
esis development were addressed in Chap. 4, which also includes the measurement
model of the overall empirical work and the sample description, which is composed
of European non-financial listed companies issuing disclosure on the six forms of
capital of the IR. Chapter 5 presented the descriptive statistics, research models and
empirical findings of the analysis conducted in the European context to test the
hypotheses developed in the previous Chapter.
The following sections are aimed at discussing and linking the new knowledge
developed in this manuscript to the prior literature, in order to highlight the sci-
entific, managerial and methodological impact of this study. More specifically, the
question is raised whether integrated reporting could become the future framework
of corporate reporting, i.e., “the next step in the evolution of corporate reporting”
(International Integrated Reporting Council 2013: 1). In this sense, we investigate
whether it can provide new opportunities to enhance the quality of corporate
auditing or if it is just another framework of voluntary disclosure that will not
change the traditional approach to corporate disclosure. The remainder of this
Chapter will also set out the future avenues of research based on the extant results
and open related calls for research.

6.2 Developing the Next Integrated Reporting Framework

As stated in Chap. 2, disclosure theory asserts that companies provide voluntary
disclosures if benefits offset costs (Abeysekera 2013; Beattie and Smith 2012).
Stakeholders in general, and financial analysts in particular, have begun to use and to
appreciate non-financial indicators (Previts et al. 1994; Breton and Taffler 2001).
More specifically, some authors have highlighted the increasing relevance of soft
information, that is, unquantified and unquantifiable forward-looking information
(Beattie et al. 2004).
Over the last three decades, scholars and practitioners have tried and advanced
different frameworks aimed at filling the informational gap perceived by stakeholders,
such as the balanced scorecard (Kaplan and Norton 1996), the sustainability report
(GRI 2002), the intellectual capital report (Guthrie et al. 2012; Bontis 2003; Vafaei
et al. 2011), ‘core & more’ (Federation of European Accountants 2015), and so forth.
More recently, the introduction of integrated reporting initiatives by the IR Committee
of South Africa and subsequently by the International Integrated Reporting Council
have laid the groundwork for a new overarching reporting framework, which includes
both financial and non-financial information in a single document, also called One
Report (Eccles and Krzus 2010). One of the main innovations in this framework is the
integrated thinking philosophy driving the preparation of the IR. According to this
philosophy, each capital that builds up the basic pillars of IR have to be linked to the
others, in order to overcome the limitations of prior voluntary disclosure and thus
provide a systemic view of a company’s performance.
6.2 Developing the Next Integrated Reporting Framework 119

Since both the IR Committee of South Africa and the International Integrated
Reporting Council did not provide a mandatory list of indicators or performance
metrics that should be included in the IR, we reviewed the extant literature to
identify the main items included in each of the six pillars, which are financial,
manufactured intellectual, human, social and relationship, and natural capital
(Table 6.1). This study adopted the aforementioned list of items, which represents
the starting point to develop a set of indicators for a comparison of the performance
disclosed by European companies in the study period (2014). In this regard, we
aimed at further developing the literature on IR by creating a methodological tool
for both IR users and preparers. The former—IR users—will be able to assess the
degree of disclosure of a company’s IR, whereas the latter—IR preparers—will get
further knowledge on the definition and content of each capital. Some scholars have
addressed the lack of clarity in the definition of some capitals of IR as a weakness in
the overall framework (Flower 2015). Moreover, by developing a minimum set of
indicators that should be included in a corporate IR, we contribute to the analysis of
IR and overcome another flaw in its framework identified by Flower, who contends
that managers report only those items that are more favourable to them, without
disclosing those that do not support corporate value creation Flower (2015).
A further beneficial effect of having a single minimal set of indicators is the pos-
sibility to compare and contrast over time and across different companies the
dynamics of the six forms of capital in different sectors, countries, and contexts. In
this sense, we have further developed the literature on another relevant topic in the
IR field: the assurance of the IR and its quality. As affirmed by Dando and Swift
(2003), the assurance of the information disclosed in the IR by an independent
third-party is vital to bridge the credibility gap of voluntary disclosures. To date, the
proportion of firms disclosing both social and environmental reports and IR on the
total of firms is low, and low in quality as well. Some of the causes that prevent an
effective assurance of integrated reports are listed below:
(1) the liability concerns of the main accounting firms (Eccles et al. 2011);
(2) the lack of consensus on what “true and fair view” means for an integrated
report (Eccles et al. 2012);
(3) the lack of agreed-upon guidelines and measures for the development of a
standard assurance procedure or changes in the extant standard auditing pro-
cedures (Charl et al. 2014);
(4) the relevance of the assurance on the reported information without an assurance
of the related procedures (Cheng et al. 2014).
By providing a standard set of measures to the contents that should be included in
the IR, we believe that auditors will be able to develop a suitable and effective
assurance procedure in accordance with international auditing standards (Simunic
1980; Lennox 1999). Consequently, more and more stakeholders will start to use the
IR as a reliable report, which in turn will bring companies to adopt the IR as a standard
reporting tool.
120 6 Concluding Remarks

Table 6.1 Literature review on the capitals of IR
Items of each component of the Literature streams and standard setters
IR
Financial Assets, debt, equity or grants IIRC
Intangibles, non-current assets, Abeysekera (2013)
short-term loans
Manufactured Buildings, equipment, and IIRC
infrastructure
Supplier audits Novo Nordisk
Product recalls Novo Nordisk
Failed inspections Novo Nordisk
Intellectual New patents IIRC, Novo Nordisk, Abeysekera
(2013)
Intellectual capital IIRC, Abeysekera (2013)
Culture Abeysekera (2013)
Brands IIRC, Abeysekera (2013)
Customers Abeysekera (2013), Novo Nordisk
Copyrights IIRC
Software and organizational IIRC
systems
Procedures, processes, and IIRC
protocols
Human Corporate governance IIRC, King’s report
Number of Employees Novo Nordisk
Employees turnover Novo Nordisk
Gender in management Novo Nordisk, Abeysekera (2013),
UN Global Compact
Frequency of accidents Novo Nordisk
Training and development Abeysekera (2013)
Health and safety Abeysekera (2013), UN Global
Compact
Ethical values IIRC, Novo Nordisk, King’s report,
UN Global Compact
Leadership IIRC
Social and Donations Novo Nordisk
Relationship Animal purchased for research Novo Nordisk
Independent directors Abeysekera (2013), King’s report
Audit committee Abeysekera (2013) King’s report
Common values and behaviours IIRC
Key relationships IIRC
Reputation, trust and loyalty IIRC, Novo Nordisk
(continued)
6.2 Developing the Next Integrated Reporting Framework 121

Table 6.1 (continued)
Items of each component of the Literature streams and standard setters
IR
Natural Energy consumption Novo Nordisk, Abeysekera (2013)
Water consumption IIRC, Novo Nordisk, Abeysekera
(2013)
CO2 emissions from energy IIRC, Novo Nordisk
consumption
CO2 emissions from transport Novo Nordisk
Organic residues IIRC, Novo Nordisk
Waste Novo Nordisk
Non-hazardous waste Novo Nordisk
Breaches of regulatory limit Novo Nordisk, UN Global Compact
values
Minerals and forests IIRC
Biodiversity IIRC
Eco-system health IIRC, UN Global Compact

To date, there are still a lot of open questions regarding the development of the
IR framework, its adoption, and its usefulness for stakeholders. Some of these are
summarised in recent literature reviews on this topic (e.g. Dumay et al. 2016),
which call for more research to move beyond the first stage towards the second
stage of research. As in the case of intellectual capital reporting, in the field of IR
“first stage efforts have typically focused on consciousness raising activities that
strive to communicate the importance of recognising and understanding the
potential for (…) creating and managing a sustainable competitive advantage. The
aim of stage one [is] to render the invisible visible by creating a discourse that all
could engage in” (Petty and Guthrie 2000: 155–156). Second stage research has
much to do with the benefits of the IR (Dumay et al. 2016). To do that, as we argue
in this study, there is a need for harmonisation that must be satisfied (Dumay et al.
2016). Regarding the focus of IR literature, Dumay et al. found that auditing and
assurance have not been a matter of concern for IR scholars so far, who have
focused more on external reporting issues (Dumay et al. 2016). Thus, the following
section will investigate whether the information disclosed in an IR can be useful in
reducing the auditing effort, and in this way reducing the audit fees charged to client
companies for mandatory audits.

6.3 Integrated Reporting as a Tool to Enhance Audit Risk
Assessment?

As stated in Chap. 4, this study aims at responding to the call for further research on
the benefits of IR and its link to audit quality (Dumay et al. 2016; IIRC 2014;
Dando and Swift 2003). Even if more and more companies are willing to disclose
122 6 Concluding Remarks

voluntary non-financial information, stakeholders appreciate the value of assurance
which is attached to this kind of disclosure (KPMG 2013).

6.3.1 Linking Integrated Reporting to Qualitative
and Quantitative Audit Risk

As theoretically predicted, the results from this study show that IR and audit risk are
strongly related.
On the one hand, we demonstrated that the qualitative component of audit risk
improves when a firm shows higher levels of human capital (related to both its
corporate governance structure and accidents, training and health and safety). This
result is consistent with that stream of the literature that highlights the role of
non-financial voluntary disclosure as a tool to reduce audit risk, since more
transparent and truthful voluntary disclosure is often linked to a higher quality
mandatory disclosure (Beattie and Smith 2012; Bozzolan et al. 2006; Chen et al.
2012). More specifically, the qualitative part of audit risk is quite related to the
structure and processes of corporate governance and to how these prevent mis-
statement and financial issues in corporate disclosure (Bedard and Johnstone 2004;
Cohen et al. 2008; Hogan and Martin 2009; Grant Kirkpatrick 2009). Thus, audit
risk is expected to be positively affected by the skills, training and attitudes of
human resources working at different levels of the firm. On the other hand, the
empirical findings showed that the qualitative risk of the audit increases in asso-
ciation with higher levels of intellectual capital disclosure. Therefore, this study
confirms another stream of the literature, which contends that the increase in effort
that audit firms have to produce in order to check for more disclosed information
should have a direct effect on the amount of audit risk (Breton and Taffler 2001;
Edvinsson and Malone 1997). In accordance with the corporate governance liter-
ature, qualitative audit risk is also linked to the cost of the audit in a positive way;
that is, an improvement in the qualitative component of audit risk is associated with
lower audit fees, confirming that managerial ability is relevant to auditors’ decisions
(Krishnan and Lee 2009).
Furthermore, IR impacts quantitative audit risk in a foreseeable way. As
underscored by IR research, the role of the sets of capital included in the IR
framework is to provide stakeholders with information on how the company creates
value (International Integrated Reporting Council 2013; Cheng et al. 2014). The
present study found that this is true for human, intellectual, and natural capital.
Moreover, in line with audit quality studies, financial capital has been found to
increase the quantitative audit risk (Mock and Wright 1999; Maletta and Kida 1993;
Pratt and Stice 1994; Taylor 2000). By extending the scope of the research or the
period of analysis, the results from this manuscript can be corroborated or extended.
Findings from a traditional control, such as the amount of accruals, are in line
with prior research regarding its effect on quantitative and qualitative audit risk.
6.3 Integrated Reporting as a Tool to Enhance Audit Risk Assessment? 123

This strand of the literature argues that an increase in the level of accruals requires
an increased effort by auditors (inherent and control risk) in detecting weaknesses in
the mandatory reporting (Cahan and Zhang 2006; Davis et al. 2009), which in turn
also leads to a growth in audit fees (Abbott et al. 2006; Doyle et al. 2007;
Ashbaugh‐Skaife et al. 2008).

6.3.2 Integrated Reporting and Audit Fees

The literature on traditional audit fees has pointed out that these mirror the effort
auditors make to the process of auditing financial disclosure (Simunic 1980; Hay
et al. 2006; Hogan and Wilkins 2008; Chen et al. 2012). The present study con-
firmed that part of the literature by identifying those forms of capital that negatively
impact the cost of mandatory auditing: namely, human, intellectual, natural, and
social capital. As a matter of fact, soft and intangible capitals included in the IR are
more responsible for the increase in audit fees. Thus, the empirical findings seem to
emphasize the general law that links audit fees to the auditor’s effort. In fact, among
the six pillars manufactured and financial capital include items that are already
included in the mandatory reporting, whereas the remaining four are not covered by
traditional financial disclosure. Therefore, these forms of capital require further
effort from auditors, who have to look at voluntary disclosure also when providing
assurance to mandatory disclosures.

6.3.3 Assurance on Integrated Reporting, Audit Risk
and Audit Fees

Regarding the level of assurance of the disclosed voluntary information, it can be
stated that qualitative audit risk is positively affected by the presence of an inde-
pendent third-party assurance. Moreover, this is particularly clear in the first
industrial sector.1 As evidenced in this research, the need for assurance on the IR is
strongly linked to the need to highlight the relevance, truthfulness and corporate
transparency of both mandatory and voluntary disclosure. Assurance also represents
a way to provide a benchmark to the quality of information that can and should be
disclosed, or a meaning to the “true and fair view” of IR (Eccles et al. 2012), even

1
This class includes the Energy and the Material sectors with the following sub-classes: Oil & Gas
Drilling; Oil & Gas Equipment & Services; Integrated Oil & Gas; Oil & Gas Exploration &
Production; Oil & Gas Refining & Marketing; Oil & Gas Storage & Transportation; Coal &
Consumable Fuels; Commodity Chemicals; Diversified Chemicals; Fertilizers & Agricultural
Chemicals; Industrial Gases; Specialty Chemicals; Construction Materials; Metal & Glass
Containers; Paper Packaging; Aluminium; Diversified Metals & Mining; Copper; Gold; Precious
Metals & Minerals; Silver; Steel; Forest Products; Paper Products (Thomson Reuters Datastream).
124 6 Concluding Remarks

though the IR framework does not provide a mandatory list of items or performance
metrics to be issued (Eccles et al. 2011). However, qualitative audit risk is nega-
tively affected by the presence of the same auditor assuring both mandatory and
voluntary disclosure. This could be related to the lack of independence of the
assurance provided to each report by the same auditor (Flower 2015).
Moreover, audited non-financial reports negatively affect the level of quantita-
tive audit risk. The increased effort that auditors must provide to assure the quality
of voluntary disclosure is not balanced by the presence of an audited IR. Auditors
seem to show disregard to disclosures that are not traditional and based on a loose
framework. This argument confirms the need to move towards a more normative
research in the IR field to provide an agreed upon list of items that have to be
included in the IR (Dumay et al. 2016).
Mandatory audit fees are also negatively affected by independent third-party
assurance on IR when the financial report auditor also assures the IR as well as in
the case of different auditors for different reports, especially in the second industrial
sector.2 This could be due to the fact that, even though the assurance on voluntary
disclosure is rather widespread, it is still new in the auditing procedures, risk
assessment models and assurance standards (IIRC 2014).
When investigating the field of quality assurance on voluntary information in
general, and IR in particular, some consideration should also be given to the nec-
essary skill set of the audit team that would be required for an IR. In particular, the
audit would require an understanding of both financial and non-financial mea-
surement and risk (IIRC 2014; Simnett and Huggins 2015; Dando and Swift 2003).
Therefore, auditors may need an understanding of the environmental, human and
social non-financial and voluntary disclosure and should be able to include these in
the evaluation of the client’s risk. This is particularly relevant since this kind of
information involves subjective judgments and mainly takes on a narrative form
(Dixon et al. 2004).

2
This class includes the Industrial and Consumer Discretionary sectors with the following
sub-classes: Aerospace & Defense; Building Products; Construction & Engineering; Electrical
Components & Equipment; Heavy Electrical Equipment; Industrial Conglomerates; Construction
Machinery & Heavy Trucks; Agricultural & Farm Machinery; Industrial Machinery; Trading
Companies & Distributors; Commercial Printing; Environmental & Facilities Services; Office
Services & Supplies; Diversified Support Services; Security & Alarm Services; Human Resource
& Employment Services; Research & Consulting Services; Air Freight & Logistics; Airlines;
Marine; Railroads; Trucking; Airport Services; Highways & Railtracks; Marine Ports & Services;
Auto Parts & Equipment; Tires & Rubber; Automobile Manufacturers; Motorcycle Manufacturers;
Consumer Electronics; Home Furnishings; Homebuilding; Household Appliances; Housewares &
Specialties; Leisure Products; Apparel, Accessories & Luxury Goods; Footwear; Textiles; Casinos
& Gaming; Hotels, Resorts & Cruise Lines; Leisure Facilities; Restaurants; Education Services;
Specialized Consumer Services; Advertising; Broadcasting; Cable & Satellite; Movies &
Entertainment; Publishing; Distributors; Internet & Direct Marketing Retail; Department Stores;
General Merchandise Stores; Apparel Retail; Computer & Electronics Retail; Home Improvement
Retail; Specialty Stores; Automotive Retail; Home furnishing Retail.
6.4 Practical Implications 125

6.4 Practical Implications

Practitioners and managers can benefit from this study in several ways. By ana-
lyzing specific components of audit risk, that is the qualitative and the quantitative
components, auditors can review their audit risk assessment model to improve the
audit quality and better set audit fees, which has been often considered as a proxy of
audit risk in the prior literature (Simunic 1980; Chen et al. 2012).
As argued in Chap. 1, the definition of the auditing model is also useful for:
(1) managers inside the audited firms in order to improve their internal control
procedures and the effectiveness of the procedures which affect the corporate
governance sphere as well; (2) investors at large in order to evaluate the quality of a
listed firm; (3) partners of audit firms in order to design and use the revised audit
model; (4) standard setters, at both the national and international level.
By taking a normative approach to the minimum set of items that should be
included in the IR, the present study represents a valuable step in the advancement
of the harmonization process of the IR framework, which can be useful for both IR
preparers and users. Whether a standard framework is agreed upon by standard
setters, companies, stakeholders and auditors, some of the issues of assurance such
as materiality, reporting boundary, and completeness will be solved (IIRC 2014;
Wallage 2000). Regarding the value relevance of assurance of IR, the present study
provides firms with enhanced knowledge about which kind of audit component is
affected by IR assurance (qualitative audit risk) and the decision to ask the same
auditor to provide assurance on both mandatory and voluntary disclosure.
Moreover, managers in the primary sector should make the decision on auditing
the IR, since they are supposed to gain greater benefit from the auditing of IR than
the other industrial sectors.

6.5 Limitations and Further Development

This study is not without its limitations. First, our research models do not take into
account Merger and Acquisitions (M&As) or the number of foreign subsidiaries and
markets served. Furthermore, this study takes a static approach, since it focused on
the 2014; it does not consider the trend over time and the recent global financial
crisis that could have some effect on the evaluation of Audit Risk. Our dataset is
composed of both civil law and common law countries. The research models in this
study do not consider the difference between the two types of countries, which
might affect (a) how voluntary disclosure is perceived by stakeholders, and
(b) auditors’ skills and experience (Bozzolan et al. 2003; Demartini and Trucco
2016). Moreover, this research does not check for differences in countries where
joint auditing is mandatory (e.g. France) compared to those where there is no such
regulatory requirement (e.g. UK; André et al. 2016). An additional limitation could
involve the stage of development of countries included in the study sample, since
126 6 Concluding Remarks

more advanced economies require more experienced auditors. Thus, the level of
qualitative audit risk and quantitative audit risk, as well as audit fees, could be
affected by the complexity of the economic system as a whole (Grabinski et al.
2014). Further studies could also entail an in-depth analysis of the role of corporate
governance on audit quality and its cost in different regulatory settings.
The research sample is confined to the European context, where the impact of the
recent global financial crisis has been relatively limited. Additional research should
compare results from this study with other contexts, such as the U.S., where the
SOX plays a key role in the quality of disclosure and auditing (Deumes and
Knechel 2008). Our dataset does not include the financial sector, given its pecu-
liarities. However, the 2007–2008 global financial crisis negatively impacted many
of these companies. Therefore, future research could provide an outlook of the role
of the IR in assessing the quality of auditing in the financial sector.
Regarding the normative model of the IR, corroboration of the results regarding
the measurement model of the forms of capital included into the IR is also needed
in order to move to the second, third and fourth stages of research in the IR field and
identify the benefits of adopting IR (Dumay et al. 2016). A normative model of the
IR is also linked to the possibility of enhancing the audit quality of this report.
Thus, until IR is no longer the one (and only) report (Eccles and Krzus 2010),
further research could aim at analyzing the role of a single (different) auditor(s) in
assuring the quality of the different reports. Furthermore, future research could
investigate the perception of IR by auditors to uncover whether and why auditors
perceive the value relevance of IR compared to the financial disclosure audit.

Acknowledgements The authors would like to acknowledge the insightful comments of
anonymous reviewers of the manuscript, which enhanced the quality of this study, although we
alone are responsible for the findings, recommendations and errors in the manuscript. We would
like to thank the assistant editor of this book series. We are also grateful to Delio Panaro for his
valuable support in the data analysis. Our families, friends and colleagues also contributed in
supporting us in carrying this project forward. This study is part of a larger project on voluntary
disclosure and audit quality.

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