Internal audit standard compliance, potentially competing duties, and external auditors' reliance decision

• Date: 01 January 2020
• DOI: http://doi.org/10.1002/jcaf.22434
• Author: Marc Ortegren,Mark Edmonds,David Breger
• Published date: 01 January 2020

BLIND PEER REVIEW

Internal audit standard compliance, potentially competing

duties, and external auditors' reliance decision

David Breger

1

| Mark Edmonds

2

| Marc Ortegren

3

1

Department of Accounting and Finance,

University of Wisconsin, River Falls,

Wisconsin

2

Department of Accounting & Finance,

University of Alabama at Birmingham,

Birmingham, Alabama

3

Department of Accounting, Southern

Illinois University Edwardsville,

Edwardsville, Illinois

Correspondence

Marc Ortegren, Department of

Accounting, Southern Illinois University

Edwardsville, Edwardsville, Illinois.

Email: mortegr@siue.edu

Abstract

This article explores the impact of two previously overlooked characteristics,

compliance with Institute of Internal Auditors (IIA) standards and the pres-

ence of potentially competing duties, on external auditors' perceptions of inter-

nal audit competence, objectivity, and, in turn, their willingness to rely on the

internal audit function. This research finds that external auditors consider

internal audit functions to be more competent and objective when they fully

comply with IIA standards and that external auditors consider internal audi-

tors to be more objective in the absence of any potentially competing duties in

other areas. Overall, ratings of objectivity and competence relate to the deci-

sion to rely on the internal audit function. This study contributes by providing

evidence that external auditors are more willing to rely on internal audit func-

tions that comply with IIA standards and do not perform managerial/consult-

ing duties, even though evidence suggests internal audit functions often do not

fully comply with IIA standards and do perform managerial/consulting duties.

Additionally, this study's results suggest that remedial action could reduce

external audit fees and improve internal audit quality.

KEYWORDS

competence, objectivity, reliance decision

1|INTRODUCTION

Since the passage of the Sarbanes-Oxley Act in 2002,

external auditors have altered their focus from a primar-

ily substantive based audit to a reliance approach,

shifting their attention to the effectiveness of the comp-

any's controls over financial reporting. This trend has

continued into current practice with major accounting

firms touting the benefits of continuous auditing, an

approach that focuses on continuously monitoring controls

throughout the reporting year (Deloitte, 2010; KPMG,

2008). Advances in technology in recent years have pro-

vided opportunities for companies to develop complex sys-

tems of control, thereby substantially reducing the risk of

material misstatement. The continuous monitoring of these

controls is primarily the responsibility of the internal audit

function (IAF) (Gonzalez & Hoffman, 2018). As continu-

ous auditing continues to expand, and more reliance is

placed on the controls to prevent miss tatements, external

auditors will be required to increase their reliance on the

internal audit function.

Recognizing the changes in current practice and their

impact on the external audit profession, this study

expands on the research conducted around the IAF reli-

ance decision. This article identifies two primary risks to

the continuous auditing process and examines how these

risks influence the external auditor's reliance decision.

When making a reliance decision, auditing standards

require external auditors to focus on the competence and

objectivity of the IAF. These two characteristics can be,

Received: 21 October 2019 Revised: 14 November 2019 Accepted: 16 November 2019

DOI: 10.1002/jcaf.22434

112 © 2019 Wiley Periodicals, Inc. J Corp Acct Fin. 2020;31:112–124.wileyonlinelibrary.com/journal/jcaf