Executive compensation horizon incentives, performance targets, and auditor risk assessment
Document Type
Article
Publication Date
11-1-2023
Abstract
Shorter compensation duration can induce executives to act myopically and manage earnings to boost short-term firm performance. Such earnings management activities increase financial statement misstatement risk and, therefore, audit risk. Using audit fees as a proxy for auditors’ risk assessments, we investigate whether auditors consider executives’ compensation horizon incentives in assessing audit risk. We find that shorter executive compensation duration is associated with higher audit fees. However, auditors also consider other elements of the executive compensation contract when assessing audit risk. Specifically, we find that when executive compensation includes performance-vesting grants, auditors pay less attention to compensation duration and perceive companies that meet or just beat performance targets as riskier (and thus charge them higher fees). Overall, our findings suggest that auditors adopt a nuanced approach to the audit risks posed by executive compensation contracts.
Publication Source (Journal or Book title)
Journal of Accounting and Public Policy
Recommended Citation
Peng, Q., Sivadasan, P., & Zhang, R. (2023). Executive compensation horizon incentives, performance targets, and auditor risk assessment. Journal of Accounting and Public Policy, 42 (6) https://doi.org/10.1016/j.jaccpubpol.2023.107121