The importance of audit partners' risk tolerance to audit quality

Abstract

AbstractRelying on their history of legal infractions to measure individuals' risk tolerance, we examine the association between engagement partners' risk appetites and audit quality in the United States. Criminology and economics research links infraction activity with enduring personality traits that capture an individual's risk tolerance. Our evidence supports the prediction that partners known to engage in risky off‐the‐job behaviors conduct lower quality audits. Specifically, we find that clients of partners with prior legal infractions exhibit a higher likelihood of material misstatements revealed through subsequent restatements, greater propensity to misstate based on the F‐score, more instances of “missed” material weaknesses, and less timely loss recognition, while also paying lower audit fees. In cross‐sectional results consistent with expectations, we generally find that the impact of partners' risk tolerance on audit quality is more heavily concentrated in clients of non–Big 4 firms and offices without industry expertise. Collectively, our analysis contributes to emerging research on the role that individual partner characteristics play in shaping audit outcomes.