FINANCIAL REPORTING QUALITY IN GREECE: A CASE STUDY OF

AUDITOR’S QUALIFICATIONS

Michael Bekiaris
University of the Aegean, Department of Business Administration
E-mail: m.bekiaris@aegean.gr

Theodoros Sgouros
PricewaterhouseCoopers

Stergios Tasios
University of the Aegean, Department of Business Administration,

Abstract
Purpose – This paper aims to examine the quality of financial reports of Greek companies in this
complex and volatile environment created by the economic turmoil. We use as a proxy for the
examination of financial reporting quality the concept of audit quality as this is depicted in auditor
qualifications.
Design/ methodology/ approach - The paper used a case study approach in order to examine auditor
qualifications among three companies (A,B,C) with differences in their size, operations and structure.
Semi structured interviews were conducted with the auditors that performed the audit of annual
financial statement and with the chief financial officers of each company.
Findings – A common qualification for all entities, irrespective from their characteristics, is the
qualification of unaudited tax years. Companies A and C were severely affected by the economic
crisis, a negative impact depicted in the adjusted misstatements of these companies that relate to
revenue and accounts receivables. Moreover, they face serious liquidity problems which, in the case of
company A are due to the fact that it cannot collect its money from the public sector and in company C
to its high debt.
Company B, which is a foreign multinational company was less affected by the economic crisis and
appears to be in a better position regarding its liquidity, as it has an overdraft account with a loan from
the parent entity. As far as management’s attitude is concerned company B preferred the issuance of a
qualified report rather than distribute less earnings to its shareholder, which is the parent company, in
contrary to companies A and C which adjusted all audit findings due to the need for finance from the
banking sector.
Research limitations/ implications - Case study results cannot be projected to the entire population
and thus provide a generalization of the results. Future research will include a quantitative survey to
verify the findings and provide a wider view of the issue under examination.
Practical implications - The findings of the survey could be useful to the regulatory authorities in
Greece (i.e. Committee of Accounting Standards and Auditing, Capital Market Commission etc.) in
their the improvement of financial reporting in Greece.
Originality/ value – The paper may be considered as the first empirical study examining audit
qualifications in Greece under the conditions created by the economic recession. In addition, it
contributes to the limited literature in the area of financial reporting quality in Greece.

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Key words: financial reporting quality, audit qualifications
1. Introduction
Financial reporting is a two party transaction in which the issuers of the financial reports provide them
to the users, who use them with the expectation that these will help them enhance their financial
decisions. The potential users of financial reports vary widely and include creditors, suppliers,
financial analysts, government authorities and in general, all related to the company parties. The issue
of quality in financial reports is of prime concern not only for the final users but for the whole society
as it affects economic decisions which may have significant impact. This was verified by the most
evident way by the impact of the recent economic recession which led to a series of corporate
collapses both globally as well as in Greece.
The primary aim of this paper is to investigate the quality of financial reports of Greek companies in
this complex and volatile environment created by the recent economic turmoil. The concept of audit
quality as this is depicted in auditor qualifications is used as a proxy for the examination of financial
reporting quality. For this purpose a case study research was conducted on three companies operating
in Greece. Results indicate both differences and similarities in the audit findings. A common
qualification for all entities relating the provision for unaudited tax years. The approach towards the
audit report appears to be significantly different as the foreign multinational company preferred a
qualified report than distribute less earnings, in contrary to local smaller entities. Accordingly the
economic recession had a severe effect on the smaller companies which is reflected on the findings of
in the audit, which was not the case for the case for the large multinational company under
examination.
The remainder of the paper is organized as following: part two presents a literature review that
includes an overview and definition of key terms including a reference on the types of audit reports. In
addition prior research in the field of audit qualifications is presented in this section including research
efforts conducted in Greece. Research objectives and methodology, are presented in part three and
empirical findings, including data and characteristics of the three cases examined, in part four. Finally,
a summary of the main results and conclusions, as well as proposals for future research are presented
in the last part of the paper.

2. Literature review
2.1. Research on audit reports and qualifications
International Standard on Auditing or ISA 700 gives three categories of matters that affect an auditor’s
opinion, (IFAC 2009). The first category is the qualified opinion, which has two generic grounds for
qualification, one being circumstances leading to a limitation on the scope of the auditor’s work and
the other being circumstances leading to disagreement-with-management. In both cases, the auditor’s
opinion states that the financial statements give a true and fair view of the company’s situation, except
for the matters leading to the qualification. The second category is the disclaimer of opinion, which
arises when the effects of the limitation are so material and pervasive to the financial statements that,
as a whole, they could be misleading. The third category is the adverse opinion expressed on matters
in financial statements which are so material and pervasive that the auditor concludes that they are
seriously misleading.
The same standard also specifies that a material matter regarding a going concern problem needs to be
disclosed in an emphasis-of-matter paragraph. In addition, ISA 570 (IFAC, 1999) deals with the
reporting of going concern issues, and lists three instances in which an auditor is to express a
qualification. The first instance relates to financial statements not including adequate disclosure about
a going concern problem. In such a case, the auditor’s report is to be qualified; preferably including a
reference to the material uncertainty casting doubt on the company’s going concern. The second
instance is where, in the auditor’s judgment, the company cannot continue as a going concern and yet
the financial statements have been prepared on the basis that it can. Here, an adverse opinion is to be
expressed in the auditor’s report. The final instance refers to a limitation-on-scope qualification where

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management is unwilling to make or extend its assessment of the entity’s ability to continue as a going
concern, (IFAC 1999, 2009).
To characterize an audit report qualified, all companies according to company law should prepare
financial statements that must comply with the existing legislation and accounting standards. With the
exception of very small companies, financial accounts must be audited by registered auditors, who
prepare a report that contains a clear expression of opinion. An unqualified opinion is expressed when
the financial statements give a true and fair view and have been prepared in accordance with relevant
accounting standards and other requirements. A qualified opinion is issued when there is either a
limitation in the scope of the auditor’s examination that results in insufficient evidence to express an
unqualified opinion or the auditor disagrees with the treatment of the disclosure of a matter in the
financial statements and the statements may not or do not give a true and fair view of the matters on
which the auditors are required to report or do not comply with relevant accounting or other
requirements. The auditors are also required to add an explanatory paragraph in their report whenever
there is ‘‘substantial doubt’’ about a client’s ability to continue its operations as a going-concern.
Several models have been developed in the audit literature to explain qualifications in audit reports.
The general consensus of these models has been that financial and non-financial factors affect the
audit opinion decision. Dopouch et al. (1987) developed a probit model to investigate the extent to
which models based on financial and market variables predict auditors’ decision to issue a qualified
audit report. Their results showed that the most significant variables in predicting qualifications are
current year loss, the industry rate of return and the change in the ratio of total liabilities to total assets.
Keasey et al. (1988), used a logistic regression approach based on financial and non-financial
independent variables to explain audit qualifications for small companies. They showed that the
likelihood that a company receives a qualified audit report increases when:
• The auditor is a large accounting firm;
• The number of directors is small;
• There are few non-director shareholders;
• The auditee has raised a secured loan;
• There is a long time lag between the financial year-end and the audit report date.
Most of the prior research examined either going-concern or non-going concern modifications.
Related to the latter are also studies that examine falsified financial statements. However, prior
research on non-going concern and related audit modifications is limited. A few studies also examine
both going-concern and non-going concern modifications like Spathis, (2003), who examined the case
of falsified statements in Greece, by developing a model with two overall objectives:
• To investigate the relationship between client performance measures and auditors’ decisions;
• To develop a classification model to distinguish between firms that should receive a qualified
opinion from the ones that should receive an unqualified one.
Accordingly, a similar study by Pasiouras, (2007) developed a classification model to distinguish
between qualified and unqualified reports.
Blacconiere and DeFond, (1997) investigated the audit opinions of 24 US publicly-traded S and Ls
institutions that failed during 1982-1989. They find that S and Ls that are perceived as being less
financially viable, with greater declines in stock prices prior to the audit opinion date and lower net
interest yield, are more likely to be assigned a going-concern opinion. Further, examination of the five
S and Ls with non-going concern reports reveals that these institutions are in better financial condition
and have smaller stock price declines than the average of the ones receiving going-concern opinions.
Finally, they find that going-concern reports in the year prior to the failure of an S and L do not
prevent audit litigation, as well as that the propensity to be sued is relatively positively to the size of
the failed S and L. As Lam and Mensah point out, (2006), audit opinions are issued in varying
regulatory and legal environments, some with more risk to the auditor than in others. They also argue
that, assuming that auditors in developed economics have similar ethical standards and training and
apply the same global audit methodologies, their audit opinions even in identical business
circumstances may vary due to differences in the regulatory and legal pressures faced.

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Gosman, (1973) observed that certain company characteristics appeared to be closely associated with
the receipt of qualifications by 100 Fortune 500 firms during the 1959-1968 period. Although no
,significant industry classification differences were found, he showed that larger firms were
significantly more likely to receive at least one qualification. Later, Dopuch (2007) provides evidence
that a probit model using publicly available financial and market data predicts whether an auditor will
issue a first-time qualified opinion in the current year, or another qualified opinion in the subsequent
year. Their results showed that market variables included in the model have explanatory power beyond
that contained in the financial statement variables in the model, (Dopuch et al, 2007).
Accordingly, Keasey et al (1988), examined the extent to which a number of variables are able to
explain the receipt of a “small audit qualification”. The main empirical findings showed that
companies audited by large audit practices, firms which had a prior year qualification, a secured loan,
declining earnings, large audit lags and few non-director shareholders were more likely to receive an
audit qualification than other companies. Citron and Taffler, (1992) analyzed a large sample quoted
companies over the decade 1977-1986, investigating whether the presence or absence of a going
concern qualification is associated with some variables such as the likelihood of company failure or
audit firm size. They found a positive relationship between the objective likelihood of company failure
and the probability of a going concern opinion, although it only happens when the probability of
failure is very high. In addition, the findings showed that smaller audit firms do not appear to exhibit
lower going concern, Keasy et al, 1988).
From the above we develop the following three research questions:
Q1: Large entities are more likely to receive an audit qualification in comparison to small companies
Q2: Companies that have a secured line of finance and declining earnings are prone to an audit
qualification
Q3: Small companies with a small number of shareholder directors are less likely to receive an audit
qualification
2.2. Accounting and auditing environment in Greece
The Greek accounting system, including accounting and commercial laws, has been significantly
affected by the French accounting system. Greek plan of accounts (EGLS) which regulates the nature
of accounts and their accounting treatment, was initiated in 1980 (law 1041/80 & presidential decree
1123/80) and was based on its French equivalent (Grigorakos 2007). The Greek accounting plan was
amended in 1987 in order to incorporate the 4th EU directive which defines the content and structure of
financial statements. The basic laws that rule the corporate operations are common law 2190/1920 and
law 3190 for limited liability companies. IFRS are mandatory for all listed companies, while non listed
companies have the option to prepare their financial statements under law 2190 or IFRS. Corporate
governance is regulated by law 3016 which was introduced in 2002 in order to improve corporate
governance practices in Greece and the directions of the Hellenic Capital Market Committee.
Patronage is a feature of the Greek state resulting to lack of trust and a perception that it is not
pursuing the public but rather sectional interest (Tsalavoutas & Evans 2007). This leads to a pursuit of
state favor as well as to attempts to cheat the system (Bellas 1998) in individual, but in corporate level
as well. Tax is closely linked with accounting in Greece, where tax avoidance is considered a common
practice by both citizens and companies and is attributed to the perceived unfairness of the tax rates
(Baralexis 2004). Also, in many cases inconsistencies exist between tax laws and accounting
principles leading to collisions among the two practices. Moreover in order to comply with tax
regulation companies reporting under a year or period IFRS prepare their financial statements
according Greek GAAP (i.e law 2190, EGLS) in order to comply with tax regulation. It is a common
practice for most companies to make accounting entries under Greek GAAP and to use Greek GAAP
accounts and financial statements as basis in order to prepare after period or year end adjustments
IFRS financial statement.
The audit profession is professionally organized by HICPA (Hellenic Institute of Certified Public
Accountants - SOEL). The supervision is exercised by the Committee of Standardization and Auditing
(ELTE) (2003) which deals with accounting information guidance and audit quality (Leventis &

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Caramanis 2005). The audit market which opened to private auditing firms in 1992 is dominated by
the presence of the big 4 audit firms (PwC, Delloite, Ernst & Young, KPMG) and the domestic firm
SOL. The remaining of the market is distributed among several smaller foreign and domestic firms
(Grant Thornton, BDO, etc.). Professional training is provided by the IESOEL, the training institute of
HICPA and the ACCA. Audit of financial statements is subject to Greek Auditing Standards that are
harmonized with International Standards on Auditing issued by International Federation of
Accountants.
From the above we draw the following research question:
Q4: Complexity of Greek tax system and collision with accounting principles is likely to lead to
qualifications on the audit report

3. Research objectives and methodology

Multiple case study approach was chosen in order to examine audit qualifications of Greek companies.
The selection of multiple case study instead of single case approach relies on the capacity to handle
the complexity of phenomena under study (Yin 1994) and the fact that increases external validity
(Leonard-Barton 1988). The multiple case study approach uses replication logic to achieve
methodological rigor (Yin 1994) and triangulate evidence, data sources and research methods
(Eisenhardt 1989). Case studies normally collect data from multiple sources including some or all of
the following: documentary evidence, interview data, direct observation and participant observation,
(Malcom 2003). The adoption of multiple methods is called “triangulation” and offers the opportunity
to access different sources both for a common research method, (with in method triangulation) and
with different methods, (between methods triangulation).
Yin (1994) emphasizes that case study sites must not be chosen in order to be representative in some
way because researchers should not be concerned with producing statistical generalizations. A
particular number of cases however must be must be specified in order to enhance external validity
and limit variations (Wilson and Vlosky, 1997). For our case study organizations belonging to
pharmaceutical, personal care and food industry were selected of whom, company A is local medium
sized company, company B is a large entity, subsidiary of a multinational corporation and company C
a local small company. Companies were selected in order to combine certain similarities with regards
to industry and operations and differences to characteristics like organizational and ownership
structure, so as to provide answers to the research questions stated above. Semi structured interviews
were conducted with the CPA’s and CFO’s of the above companies in order to collect data for the
research.
As far as the number of cases that should be chosen is concerned, no ideal number of cases exists.
Case number depends more on the purpose of the research, the questions asked, the resources
available and cost - benefit constrains, and therefore the decision regarding the number of cases should
be left to the individual researcher, (Patton1990). Some researchers suggest upper and lower limits in
the numbers of cases for case study research with the maximum number not exceeding 12 to 15 cases
(Miles and Huberman 1994, Ellram 1996). This is due to the fact that a number greater than 15 could
generate too much information. For the lower limit, two to four cases is suggested as the minimum
acceptable requirement given that for a number of cases is less than four, it is difficult to generate
theory and empirical findings are likely to be unconvincing, (Eisenhardt, 1989). Each case however
should be chosen in such a way that it either predicts similar results for predictable reasons, that is
literal replication or produces contrary results for predictable reasons, that is theoretical replication,
(Perry 1998).

4. Case study
4.1. Case study A
Company A is a pharmaceutical company, which purchases and distributes biopharmaceutical
products in hospitals and drugstores. The profit derives from the difference between the purchase and

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the selling price of the drugs. It focuses on the licensing, marketing, sales and distribution activities of
specialized pharmaceutical products, stemming from biotechnology research. The company retains a
disorders, haematology, nephrology, oncology and rheumatology. The consolidated turnover of the
company reached € 255.2 million in 2009 and the employees were 189.

The main problems that company A faces are focused on 1) liquidity ,as due to the nature of the
business delay in payments of receivables from the public hospitals exists and 2) the high level of debt
that the company obtains from banks in order to finance its working capital. Auditor of the company is
one of the big 4, (i.e. PwC, Deloitte, KPMG, Ernst & Yang). Audit report of company A was
unqualified for audit of financial year 2010, as all unadjusted misstatements found by the auditors
were either corrected by management or were below the materiality level, (immaterial errors to the fair
and true presentation of the financial statements).
4.1.1. Company A: Adjusted Misstatement 1
In accordance with the Company's accounting policy, appropriate provision should be made for tax
contingencies in respect of open tax years, based on past tax audit experience and management's
expectations of the likely final tax assessments. However, the tax contingency reserve is classified and
presented as a deferred tax liability instead of a current income tax liability, due to the sensitive nature
of the estimate, which may jeopardize the company's tax position. This means that the company’s
management does not want to disclose to the tax authorities the estimates made for the unaudited tax
years.

Auditors understood and appreciated the reasons for the management's position, which does not impair
the overall fair presentation of the financial statements. Moreover they further considered whether the
required classifications would cause any breaches under the loan covenants and concluded that this
would not result in any further breaches for the company.
4.1.2. Company A: Adjusted Misstatement 2
Company's revenue recognition policy requires that gross sales be reduced for rebates, withholdings,
discounts etc. Auditors noted that gross sales for 2006 and 2007 were not reduced for withholdings /
contributions (approx 0.6% to 2.2%) deductible by public state customers upon settlement/payment of
their sales invoices. Consequently, gross sales and trade receivables were overstated for both 2006 and
2007, since such withholdings were historically recognized as an expense upon cash settlement on the
basis that such amounts were not considered material by management. However, the "build up" of
public sector debtors due to payment delays in 2009 has caused this to become more significant in
relation to the financial statements.

During 2009 management revised its calculation on the basis that they will settle outstanding public
hospital receivables with a 3,5% cash settlement discount based on prior settlement in 2004. The effect
of the aforementioned decision was that the corresponding provision was understated. Auditors
reviewed the client's revised calculations and assessed the correction on the financial statements
(corresponding decrease in trade receivables).
4.1.3. Company A: Adjusted Misstatement 3
Revenue of company A is mainly generated from public sector customers, which accounts for approx
70% - 77% of total revenue. Despite the existence of legislation, which requires public sector
customers to settle sales invoices within 60 days, under normal contractual terms, significant payment
delays are experienced due to liquidity problems encountered by the counterparty.

Historically, the public sector settles past due debts based on specific legislation, which is passed at
intervals of 3 years. The law that was passed in 2004 introduced the 60 days payment condition and
the right to charge overdue interest. This law also envisaged that companies participating in the
settlement would have to give a settlement discount of 3.5% to public hospitals. Management did not
recognize the effects for the time value of money, since such adjustments were not considered to be
material on the basis that the management expected to collect these receivables within 1- 2 yrs when it

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issued its previous financial statements for the comparative periods and the effects of unwinding the
discount over the expected period of settlement.

The estimated effects (discount and unwinding of interest) of discounting these receivables for the
time value of money for each year on pre-tax income is not material by reference to net turnover and
gross profit. Discount rates used in the calculation are based on Greek Government Bond yields
applicable to each financial year and based on the respective yield, which corresponds to the estimated
term over which the receivable will be collected. These rates were obtained from Reuters.
Assumptions for expected collections for each year are as follows: 2007→18 months and 2008→ 12
months and 2009→ 12 months; these were determined at the end of each year based on available
evidence when the financial statements were prepared for each respective year (i.e. no benefit of
hindsight taken).

The auditor believes that, based on historical experience and expectations, these receivables should be
discounted for the time value of money, since there is no strong evidence that the government can and
will adhere to the agreed 60 days credit terms. The auditor assumes that the effects of discounting and
subsequent unwinding of interest is not material by reference to net turnover, gross profit both
quantitatively and qualitatively. It is acceptable to assess the materiality of the impact of these errors
by reference to turnover, since one can argue that sales concluded with the public sector include (a)
sale of goods and (b) finance income earned from extended credit terms. On this basis, the net effect of
the discounting and interest income would impact a single line item, turnover; the exclusion of interest
income and its presentation as a separate line item below operating income would result in a mismatch
of costs and benefits and may be misleading to the users of the financial statements. However, the
auditor concurs with management's decision to recognize an adjustment for the effects of a potential
settlement discount based on past experience and expectations under the circumstances described
above.
4.1.4. Company A: Adjusted Misstatement 4
The entity has non-current debenture loans with banks in the amount of € 36million as of 31.12.2009
that are subject to compliance with certain financial covenants that the company is required to
maintain throughout the year and over the life of the loan. During the last quarter of 2008 the
Company was in breach of certain financial covenants relating to two of the debenture loans
amounting to €28m and as a result of increased borrowings required to maintain minimum working
capital requirements.

The auditors requested from management to obtain a waiver from banks so as not to qualify the audit
report for presenting amounts as long term while actually they are considered as short term. The
company obtained an unconditional waiver from the lender in December 2008 under which the lender
waived its rights to demand immediate repayment of the outstanding non-current borrowing under the
loan facility until 31 December 2009. Therefore the matter was not qualified.
4.1.5. Company A: Adjusted Misstatement 5
Company is currently in the process of completing an initial public offering (IPO) of ordinary shares
under a combined offering of new ordinary shares. The IPO project commenced in November 2009
and the Company incurred Eur 609k of transaction costs relating to the IPO as of 31.12.2009. The
Company has deferred these costs in equity as of 31.12. 2009.

IAS 32 states that transaction costs of an equity transaction are deducted from equity. Par. 37 specifies
that the costs must be incremental and directly attributable to the equity transaction and that they
would otherwise have been avoided. Incremental costs that can be deferred in equity relate to
underwriter fees, audit fees (comfort letters, format of offering documents), legal fees etc. The costs of
an equity transaction that is abandoned are recognized as an expense.

Auditors obtained an analysis of the IPO costs incurred up to 31.12.2009 and tested all the expenses
incurred by agreeing them to the relevant invoice in order to ensure that all costs identified are directly

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attributable to the IPO project and that they would have not otherwise occurred. Management decided
to classify the incremental costs associated with the public offering as transaction costs and to deduct
such costs (net of tax) from equity in accordance with IAS 32 on the basis of evidence examined.

4.2. Case study B

Company B is a large company specializing in food products, as wells as in home and personal care
products. It manufactures goods and buys finished products from other suppliers as well. The entity is
a subsidiary of a global group with direct presence in over 100 countries. In Greece, Company B is
among the largest companies in the foods, home and personal care products with an annual turnover in
2009 of € 438 million. The company distributes in supermarkets about 1,800 product codes and is a
leading supplier to the retail trade. It owns four production plants in Athens, Schimatari, Pirgos and
various warehouses for the resale of goods in Rendis, Piraeus, and Schimatari. It employs 600 persons.
The profit comes from the difference between the sale price of goods to supermarkets and agents and
the production and resale costs. The objective of Company B is innovation, profitability,
competitiveness, sustainable development and effective social action.
4.2.1. Company B: Qualification 1
The books and records of the Company B have not been audited by the tax authorities since its
establishment on November 30, 2007, which makes it possible to impose additional tax at the time that
these uses are reviewed and tax is finalized. At the stage of the audit it was not possible to reliably
estimate the outcome of a future tax audit, and therefore no provision has been made in the financial
statements for this potential liability.
Auditors required from management to obtain the last tax audit declaration that has been performed by
the statutory public tax authority. For the years up to the audit, which remain unaudited by the tax
authorities, the entity had to make an estimate for the additional tax that could be imposed. Due to the
fact that management did not want to disclose the calculation of the expenses that they believe that the
tax auditor will reform, they made a “secret” provision that was not adjusted to the books and
consistently they left this exercise to the public tax statutory auditor. Due to this uncertainty (the
management did not know the exact amount of the tax penalty) the auditor had to qualify the audit
report for the contingent liability of a tax penalty for the previous fiscal years.
4.2.2. Company B: Qualification 2
The company charged the results of the current fiscal year with accrued expenses of € 3.4 million that
concerned the previous year, in line with corporate policy whereby costs are posted in the books of the
fiscal year in which the costs are approved and paid. In addition the entity did not recognize in the
results of the current fiscal year a forecasted/accrued expenditure level estimated at € 2.3 million
which will be registered at the time of approval and payment in fiscal year 2010. If the company had
registered the forecasted expenditure for the related period, in accordance with generally accepted
accounting principles, the equity of the company would have been reduced by € 2.3 million, liabilities
would have been increased by € 2.3 million and income statement of the current fiscal year would
increase by € 1.1 million.
Accruals, like prepayments, are commonly made for rent, gas, electricity, telephone and other items
where the expenditure has been incurred in the current period but where no invoice has yet been paid.
As year-end adjustments, which only take place once a year, there are rarely any controls over accruals
and any errors are likely to be those of understatement in order to increase profit. In company B the
accruals concern bonus, unpaid leave and sale rebates for 2009 that were not posted in the accounts as
an accrual in 2009, but were wrongly posted in 2010 accounts that were paid to the beneficiaries.
4.2.3. Company B: Qualification 3
Deviating from the accounting principles laid down by the Greek Law (Codified Law 2190/1920), in
the current financial year, the entity did not form a provision for personnel compensation due to
retirement pension amounting to € 15.9 million. Hence, the value of the item "Provisions for personnel

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compensation due to retirement" appears to be reduced by € 15.9 million and equal increase the
company’s equity.
According to the recognition & measurement of employee benefit plans, when an employee has
rendered service to an entity during an accounting period, the entity shall recognize the undiscounted
amount of short-term employee benefits expected to be paid in exchange for that service:
1) As a liability (accrued expense), after deducting any amount already paid. If the amount already
paid exceeds the undiscounted amount of the benefits, an entity shall recognize that excess as an asset
(prepaid expense), to the extent that the prepayment will lead, for example, to a reduction in future
payments or a cash refund; and
2) As an expense, unless another standard requires or permits the inclusion of the benefits in the cost
of an asset.
In this case, the entity’s management has not posted to the general ledger the liability of €15.9 million
and the relevant expense. This has come up from the difference in the liabilities between the reporting
package and the statutory books (Greek GAAP). The auditor has to check the agreement between the
statutory and the IFRS accounts. The provision here has been recorded in the IFRS but not in the
statutory books. This is a clear deviation from the statutory accounting principles. This should be done
by management in order to recognize the liability (that now exists) that in future time the entity will be
forced to compensate its employees for the employee benefit plans. As a result balance sheet and the
income statement are not presented fairly in the financial statements. Management refused to post the
amount in its books; therefore the amount has been included in the audit report as a qualification.
4.2.4. Company B: Qualification 4
On March 27, 2009 a decision was issued by the Competition Committee, imposing a fine of 6.9
million euro to the Company for illegal terms in contracts with its customers, prohibiting the supply of
products to supermarkets from third parties. The company requested the suspension of the imposition
of the penalty amounting to 3.4 million until a final decision on the appeal will be rendered. This is
still pending in Administrative Court of Appeal. The Company's management believes that the final
decision will not bear more damage than the provision already formed.
Company B, management refused to adjust its books as the auditors suggested so as to be in
compliance with the lawyer’s estimate for the final outcome of the litigation. If the entity had posted
the penalty in its books the profit for the year would have been decreased by 3.4 million. Therefore
auditors qualified the audit report for this matter.
4.2.5. Company B: Qualification 5
During 2008 Company B acquired another company raising a value of goodwill amounting to € 233
million that had arisen in 2008 from the merger by acquisition derived from the difference between the
market and the nominal value of shares. Company B deviated from the provisions of Article 43
paragraph 4 of law 2190/1920 and did not amortized goodwill for the year 2009. According to the
relevant provisions of IFRS the Company assessed the goodwill just to detect whether there is
impairment of goodwill. From this exercise there was no impairment of goodwill on this.
However as it is required by IFRS 3, goodwill is subject to annual impairment reviews. The goodwill
qualification has been disclosed due to the fact that the entity did not posted in its books the 20% of
the total value of goodwill as a depreciation expense, as required by the Greek law. If the Company
had made a depreciation in accordance with the requirements of Article 43 paragraph 4 of
law.2190/1920, then the net profit before tax would be reduced by 47 million, the net worth of the
company would be reduced by € 94 million, and the carrying value of goodwill would be € 139
million.
4.3. Case study C
Company C operates in the sector of personal care products. It manufactures soaps, liquid soaps and
shampoos, with the prime customers been supermarkets and hotels. The entity operates solely in
Greece and its brand is among the most well known in the Greek market. The annual turnover in 2010
amounted to € 12.8 million. Company distributes to supermarkets about 50 product codes and is a

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competitive supplier in the soap market. It owns a production plant in Thiva, co-operates with a very
well known distributor that takes the soap products to the supermarkets and occupies 96 employees.
Profit per good sold is calculated as the difference between the sale price of goods to supermarkets and
hotels and the cost that has been occurred to produce the products. The objective of Company B is
innovation, profitability, competitiveness, sustainable development and the increase of its market
share. Financial statements of company C are prepared under IFRS.
Company C faces liquidity problems due to loan agreements with certain banks and the most
significant task is not to breach two specific covenants (1. EBITDA/Finance Cost, 2.Debt/Equity) that
have been agreed among the parties. Compliance with debt covenants is crucial and if these covenants
are broken, then the long term loans will be classified as short term which would allow the banks to
request for their money back at any time. This means that the entity will face a direct going concern
issue because it will not be able to cover its current liabilities with current assets or have enough
working capital to finance its daily operation. Therefore it is crucial for the entity to present in its
books a high equity and EBITDA.

4.3.1. Company C: Adjusted Misstatement 1

In Company’s financial statements for the year ending 31.12.2009, there was a revaluation reserve of
€3.004.433 for machinery. The Net Book Value for machinery as of 31.12.2009 was €15.732.412. The
machinery is measured in the adjusted value that consists of the fair value at the date of the
restatement, decreased by the subsequent accumulated depreciation and the subsequent loss for
devaluation. The revaluation reserve had been created internally, through a board of directors meeting,
where a minute created and analyzed the machinery parts that would be revalued.

The fair value is the market value as estimated by management based on IAS 16. The positive
difference is credited in equity as a revaluation reserve. The negative difference is debited in the
income statement, if it does not offset a relevant revaluation reserve. The last revaluation reserve for
machinery has been performed on 31/12/2006. Auditors, according to IAS 8, assumed that the cost
measurement of the machinery is more reliable than the fair value.

The hard part in this misstatement, which has been adjusted by management, is the presentation of the
accounting treatment. According to IAS 8, the change in the measurement method of machinery
demands the disclosure of comparative financial statements for the two prior years. Therefore the first
posting is to debit the revaluation reserve and credit machinery with the revaluation amount that now
does not exist. Secondly the understated retained earnings and the overstated depreciation expense
have to be adjusted in order to reflect the correct amount retrospectively for the comparative years
31.12.2010, 31.12.2009 and 31.12.2008.

4.3.2. Company C: Adjusted Misstatement 2

Company uses the method of fair value to evaluate its land and buildings. The last valuation took place
on 31.1.2006. This was five years ago and far outside of the limit of regular revaluation every three
years as per IAS 16. A new valuation has taken place at the year end of 2010 and a devaluation of 3,1
million has occurred. An equal decrease in the revaluation reserve has taken place.

Auditor’s requested from the entity’s management to hire an independent certified valuator to perform
a new and updated valuation for the land and buildings that the entity owns according to IAS 16. Then
they evaluated the competence, capabilities and objectivity of that expert, to obtain an understanding
of the work of that expert and evaluate the appropriateness of that expert’s work as audit evidence for
the relevant assertion.

4.3.3. Company C: Adjusted Misstatement 3

The entity has overdue balances for more than one year. These balances that are open and not
supported or backed by a post dated cheque for more that one year have not been assessed as doubtful
or bad debt by the management. These customers do not accept the amount due or do not answer to
any communication performed by management in order to reconcile the overdue balance. All these

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receivable balances that remained unmoved for more than one year and the management cannot
provide sufficient explanations for the potential collectability in the future should be classified as bad
debt. The accounting treatment is to credit receivables and debit expense. This task was not performed
by management but after the auditor’s suggestion the value of the bad debt was recorded in the books.

4.3.4. Company C: Adjusted Misstatement 4

The entity underprovided the provision for obsolete stock in order to minimize the loss and the
EBITDA result. As a consequence inventory balance fohe period was overestimated and expenses are
underestimated providing for a better profit and consequently a better EBITDA.

Auditor’s, as at the bad debt case, compared all the unmoved balances in all inventory codes such as
raw, packing materials and finished goods. Many of these inventory codes were unmoved and had
become obsolete due to the fact that the entity during the year had proceed to the production of new
products that required new raw materials and new packing materials. At the same time the inventory
items used for the old products were made obsolete because they could not be used in the new
production or could be sold.

The result of all these corrections that the auditor suggested to perform and the management accepted
lead to an unqualified audit report because the financial statements presented the true and fair view
financial position of the entity. But at the same time all the covenants agreed with the banks were in
breach. This could waive the agreement with the banks and the long term loan could become short
term. As a consequence, the entity could not finance its operating activities because the banks could
withdraw their money from the entity. This is a typical going concern issue. Finally, the entity agreed
with the banks to restate the covenants in order to avoid being in breach of their agreement, with a
higher spread on the basic interest imposed by the banks as a reward for deferring the use of their
money on company C.

4.4. Results and discussion

A common qualification for all entities both irrespective from their characteristics is the qualification
of the unaudited tax years. This qualification is due to the practices of the statutory tax authorities and
not to fraudulent reporting or management’s misstatements. In Greece the tax statutory authorities do
not perform the tax statutory audit after the finalization of the accounting year, but after two, three or
four years. The main cause for this is the inability and insufficiency of Greek tax authorities to
perform timely. In addition the state charges an interest of 2% on the imposed penalty retrospectively
from the year that the books have been finalized until the date that the statutory tax audit takes place.

The imposed penalty from the tax authorities concerns accounting expenses that the Greek tax
legislation does not recognize as expenses. This has a direct effect in the increase of the profit. The
entity now will pay an additional tax for this additional profit that is generated from unrecognized
expenses. For example if the tax audit takes place after 2 years from the finalization of the financial
statements and the disclosure of the tax declaration, the final penalty (expenses not recognized as
expenses) that will be imposed to the entity under review will be the sum of each month for two years
multiplied by 2%.

Consequently auditors modified their audit report with the following wording: “Our audit has
identified that the tax declaration of the Company has not been audited by the tax authorities for the
financial year 2010. Consequently there is a risk that additional taxes and penalties may be imposed
when this is audited and the related tax liabilities finalized. The outcome of a tax audit cannot be
estimated at this point and consequently no provision has been recognized in these financial
statements.” This is the acknowledgement of the auditor that cannot place an opinion for a contingent
liability that could occur in the future.

Apart from the above, this qualification provides the auditor with the appropriate assurance for
transfer pricing practices, especially for entities that operate within a “subsidiary”, associate or related
party environment. The auditor bears no responsibility for any invoices that will not be recognized as

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an expense from the tax statutory audit. These expenses that will not be recognized as expenses will
increase the taxable profit and the entity will have to pay additional income tax. This additional tax
will bear a monthly surplus of 2% for the months that the entity remains unaudited from the tax
authorities.

Company B, is a subsidiary of a multinational company and has an overdraft account with a loan from
the parent entity to finance its operating activities or its investing activities on a euribor plus interest
rate. Company A, despite the fact that is a medium entity faces liquidity problems due to the fact that
it cannot collect its money from the public sector which is its main customer, due to the nature of the
medicine business in Greece -hospitals are non-payers or pay very late at a discounted rate-. As a
result, the entity finances its operations through loans obtained from Banks and bears a very high
finance cost. Company C which also operates in Greece is highly indebted.

Furthermore, Company B has a source to low-cost loans and companies A and C that are owned by
Greek shareholders bear a comparatively higher interest cost from the loans that they obtain from
Greek banks. Especially after the financial crunch that broke out in 2008 and with the acceptance of
the Memorandum of Understanding that has been concluded between the Greek government, the
International Monetary Fund and the European Union in 2009 the cost of debt for the Bank of Greece
is very high. This had as a consequence an increase in the cost of capital. Therefore the Greek entities
such as company A and C obtain loans with a very high interest rate and face significant difficulties to
repay the interest and the capital of the loans that they had obtained from banks or, are even not able to
deal with the higher spreads imposed by the banks especially in this unstable financial environment
(this occurs whenever the European Central Bank increases the interest rates).

The aforementioned facts allow the multinational entities to proceed to policies of lower prices to their
customers for their goods because of the higher profit margin that they can manage due to the lower
finance cost that is allocated to their products. This cannot be achieved by local Greek entities due to
the factors described in the precedent paragraph. Also the large multinational entities proceed to
acquisitions of other entities or merges with other entities that operate in the same business sector in
order to increase their market share, and profitability. This was very clear in the case of company B.

Due to the financial crunch and the decreasing levels of market share and profitability the entities are
seeking to reduce their operating costs and succeed better economies of scale. The qualification for the
penalty from the Competition Committee that is still under dispute in the Greek courts evidences the
practices that the large multinational companies follow, which are not fully in compliance with firm
competition among entities. This is the outcome from their incentive to obtain the highest market
share.

What is quite impressive in the case of company B in comparison to companies A and C is that the
subsidiary of the multinational company which is fully owned by the parent entity and the parent
entity is the major shareholder, have a very different attitude depending on the type of the audit report
issued and the qualifications that will be included within it. Company B had more than five
qualifications in contrary to the other two entities that obtained an unqualified report.

The qualifications described in the case of company B concern goodwill, accruals and provisions that
have not been posted in the books, as the Greek accounting laws require. If these had been posted in
the books, they would have a direct effect in the reported profit and consequently to the earnings that
would be distributed, which would be much lower. Central management of the parent entity is aware
of the accounting practices that local management follows and deviates from the accounting principles
and lead the auditor to issue a qualified audit report. Therefore the management of Company B prefers
to get a qualified report rather than distribute less earnings to the shareholder. The shareholder does
not care for the type of audit report and the matters that will be disclosed to the public, but only for the
distributable earnings.

This is not the case for companies A and C. Despite the fact that the auditor found many errors that
needed to be adjusted in order to be in compliance with the accounting principles, management

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corrected the errors and adjusted the correct figures in its books appropriately. This attitude from local
management has its source in many factors. The shareholders want to own a company that operates
very well and the management practices do not contradict with laws. Banks will not provide loans to
companies that are qualified and have breached the law. Therefore it is very important for the Greek
entities to keep open their sources of finance.

Company A that sells products to public sector faces the problem of late collectability of its
receivables that have become overdue or even non payment of the receivable. Most of the times, the
Greek laws require for a significant discount for the amounts that are already overdue. Especially
nowadays the public sector does not pay at all its liabilities to entities that it co-operates with. The new
form of payment is long term bonds that can be liquidated in their nominal value at least after 3 years.
If an entity wants to liquidate the bond now and get cash on hand in respect of this bond from a bank,
it will suffer a significant discount rate that makes the trade of the bond not advantageous for the
entity.

Overall the analysis of the three cases provides evidence that the four questions stated in the literature
review appear to be valid and consistent with the findings of other surveys. In particular:
Q1: Large entities are more likely to receive an audit qualification in comparison to small companies
Result: the audit report of the large company was qualified in contrary to medium and small sized
companies that adjusted audit finding and obtained an unqualified audit report
Q2: Companies that have a secured line of finance and declining earnings are prone to an audit
qualification
Result: Company B that has a secured line of finance had a qualified audit report in contrary to
companies B and C that depend on finance from bank borrowing.
Q3: Small companies with a small number of shareholder directors are less likely to receive an audit
qualification
Result: Companies A and C who have a small number of shareholder directors did not receive an audit
qualification
Q4: Complexity of Greek tax system and collision with accounting principles is likely to lead to
qualifications on the audit report
Result: All entities had a modified audit report relating to tax issues

5. Summary and conclusions

The purpose of this paper is to examine the quality of financial reports of Greek companies in this
complex and volatile environment created by the economic turmoil. We use as a proxy for the
examination of financial reporting quality the concept of audit quality as this is depicted in auditor
qualifications. For this reason case study approach was followed in order to examine auditor
qualifications among three companies with differences in their size, operations and structure. Semi
structured interviews were conducted with the auditors that performed the audit of annual financial
statement and with the chief financial officers.

A common qualification for all entities, irrespective from their characteristics (i.e size, operations
etc.), is the qualification of unaudited tax years. This qualification is due to the practices imposed by
statutory tax authorities and not due management’s misstatement or improper accounting treatment. In
all cases Greek tax authorities did not perform the tax statutory audit after the finalization each
accounting year, but after two, three or four years. This is attributed to the inability of the tax
authorities to timely perform tax audits. Furthermore, this delay in the tax audit benefits state
revenues, as an interest of 2% is charged on the imposed penalty retrospectively, from the year that the
books have been finalized until the date that the statutory tax audit takes place.

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Findings of the survey indicate that companies A and C were severely affected by the economic crisis.
This negative impact is depicted in the adjusted misstatements of these companies that relate to
revenue and accounts receivables. Moreover, they face serious liquidity problems which, in the case of
company A are due to the fact that it cannot collect its money from the public sector and in company C
to its high debt. Both companies are subject to high interest rate and face significant difficulties to
repay the interest and the capital of the loans obtained from banks and therefore finance their operating
and investing activities. Company B, which is a foreign multinational company, appears to be in a
better position regarding its liquidity, as it has an overdraft account with a loan from the parent entity
to finance its operating and investing activities. This gives an advantage to company B over companies
A and C as it has the ability to proceed to a lower pricing policy.

Qualifications for company B relating to goodwill reflect its policy to expand its operations through
mergers and acquisitions of other local entities operating in the same business sector. In addition, the
qualification for the penalty from the supervisory authorities, which is still under dispute in the Greek
courts, is an evidence of the practices that large multinational companies follow in their incentive to
obtain the larger market share.

As far as management’s attitude is concerned company B preferred the issuance of a qualified report
rather to distribute less earnings to its shareholder, which is the parent company. Parent company
appears to be interested solely in the distributable earnings and not in the type of audit report and the
matters that will be disclosed to the public. This is not the case for companies A and C. Despite the
fact that the auditors found many differences, they adjusted their financial statements in order to
comply with accounting principles. This is attributed to the fact that shareholders want management
practices to comply with laws and regulations and to ensure finance from banks which are reluctant to
provide loans to companies with a qualified audit report.

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