AUDIT QUALITY AND PERFORMANCE OF BANKS LISTED ON THE NIGERIAN STOCK EXCHANGE (2005-2016)

1.1 Introduction

Audit quality is capable of influencing corporate performance, through mitigation of risks and significant misstatements. The lower risk of misstatements consequently, increases the confidence of capital market investors in financial reports which also lowers the cost of capital and increases the market valuation of the firm (Heil, 2012). Users of audited financial statements therefore believe that the information it contains are completely free from material bias and so depend on it to allocate scarce economic resources with expectations of commensurate returns. Audit of financial statements reduces information asymmetry in a firm and protects the interests of stakeholders through provision of assurance on the correctness, truthfulness and fairness of the financial statements prepared by management (Alaswad et al., 2016; Tyokoso et al., 2017).

As a prelude to other parts of this study, this chapter will discuss the background upon which this study was initiated, the statement of problems that led to this study, the Aim and Objectives of the study. Others are Significance of the study, Scope of work, Research hypothesis and questions, Limitations of the Study and Definition of technical terms.

1.2 Background of Study

Since the audit forum was established, one of its key aims has been to promote confidence in financial reporting. The statutory audit can reinforce confidence because auditors are expected to provide an external, objective opinion on the preparation and presentation of financial statements. Auditors need to be independent in the opinions they express, while the work they have to do to form their opinions is highly dependent on, and the real world and may become particularly challenging in some national environments.

Increased concerns regarding corporate accountability in various developed nations have been associated with the need for appropriate audit which involves risk management and internal control systems (Beekes & Brown, 2006). The impact of audit quality on organizational performance has recently received attention from various researches like Chang, Dasgupta and Hilary, (2009), Bhatia, Ali, Balachandran and Jurdi(2015), Ilaboya & Ohiokha (2014).

Bhatia (2015) examined the relationship between audit quality and firm’s financial decisions using audit fees as proxy and found out that there is a positive relationship between audit fees and corporate financial decisions. Chang (2009) also examined the effect of auditor choice on financial decision that firms take and found out there exist a negative relationship between the size of the audit company and debt financial choices the firms make.

Ilaboya (2014) indicates that there’s a positive relationship between firm size, audit tenure and audit quality. According to them, those firms audited, use equity issue more than they use debt to finance their project. This is because potential and existing investors have confidence in the audited financial statements and this makes them invest more in the company. Other studies have however yielded mixed results.

Audit quality plays an important role in maintaining an efficient working environment, and independent quality audit underpins confidence in the credibility and integrity of organizational performance which is essential for well-functioning organizations and enhance organizational performance (Musa & Shehu 2014). The societal role of auditors should be a key contribution to organizational performance, in terms of reducing the risks of significant misstatements and by ensuring that the financial statements are elaborated according to preset rules and regulations (Heil, 2012).

Internal financial statement users such as management, audit committees and board of directors have an interest in quality audits, for example; to help reduce the cost of capital (ISB, 2000; Miettinen, 2011).Lower risks on misstatements increase confidence in capital markets, which in turn lowers the cost of capital for firms (Heil, 2012). Audit quality is subject to many direct and indirect influences. In cycle with the stakeholder theory (Khan, 2006), perceptions of audit quality vary amongst stakeholders depending on their level of direct involvement in audits and on the perspective through which they assess audit quality. Audit quality is recognized to influence financial reporting and strongly impact on investors’ confidence (Levitt, 2008). Conventionally, external auditors lay critical and highly challenging roles in assuring the credibility of organizations performance. Audit quality will be measured using: audit committee, audit period, audit fees, and firm size.

Financial performance of organizations may be calculated from return on investment perspective, and measured by several indicators which include return on asset (ROA), return on equity (ROE), and return on investment (ROI) (Mohd, 2013; Omar2013; Sim Chia Hua, 2016). The societal role of auditors should be a key contribution to financial performance, in terms of reducing the risks of significant misstatements and by ensuring that the financial statements are elaborated according to preset rules and regulations. Lower risks on misstatements increase confidence in capital markets, which in turn lowers the cost of capital for firms (Heil, 2012; Watts and Zimmerman, 1986).For the purpose of this study, return on asset will be adopted to measure organizational performance.

Audit quality shows positively effect of both performance indicators, this provides that external audit provides the monitoring device to reduce information asymmetry between the managers and shareholders and also a positive relationship between firm size, audit tenure and audit quality. Audit quality has a significant positive impact on business financial success, and to also determine whether corporate financial performance may be influenced by firm practices in financial reporting standards (FRS), audit quality as well as transparency and disclosure requirements in their annual reports (Sim&Daw, 2016; Ilaboya& Ohioka, 2014). This study is conducted to examine the impact of audit quality on organizational performance.

Therefore, in Nigeria where the research was carried out, the activities that was conducted is to know Audit Quality and Performance of Banks Listed on the Nigerian Stock Exchange (2005-2016).

1.3 Statement of Problems

Investigation revealed that some studies indicate that high-quality audit services improve the confidence of investors in financial statements and increases investment possibilities (Lin and Liu, 2009). Thus, high-quality auditing is particularly important for companies that are frequently involved in raising funds, such as financial institutions. accordingly, other studies have also found that a firms’ demand for high-quality audit services is related to its financing needs (Knechel, 2008). While some studies are of the opinion that high quality audit is associated with lower cost of capital (Pittman and Fortin, 2004; Hartarska, 2009)

The audit failure in the world, especially in Nigeria, has brought great disappointment to the user of financial report. The problem has been traced to long-term of audit firm tenure which has been traced to creative accounting. In Nigeria audit setting, the challenge of audit tenure and audit quality reporting has not attracted much testable study beyond mere anecdotal opinions Mgbame, et al (2012).

However, lack of efficiency on the part of management could lead to disorganized financial statements. These financial statements ordinarily do not show the true state of affairs and financial position of the deposit banks and hence, could threaten the decisions of the prospective investors. Unfavorable results on investment would reduce the credibility of the financial statements; which would in turn reduce the level of capital flow, thereby de-generating the state of the business environment.

The burden therefore rests on the auditors to address these issues through efficient and effective execution of the audit assignment, and the outcome production of a quality report. The study therefore investigates the factors that could affect the quality of the audit assignment, and analyzes the existence and degree of relationships between these factors and the achievement of high audit quality in the Nigeria deposit banks.

1.4 Aim and Objectives of Study

The aim of the study is to examine the Audit Quality and Performance of Banks Listed on the Nigerian stock exchange (2005-2016). In achieving this aim, the following specific objectives were laid out as follows:

1. To ascertain the relationship between audit quality and return on asset commercial of banks in Nigeria;
2. To determine the effect of audit quality on return n asset of commercial banks in Nigeria;
3. To determine the effect of audit quality on net profit margin of deposit banks in Nigeria; and
4. To examine the relationship between audit committee effectiveness and performance of banks in Nigeria.

1.5 Research Questions

The study came up with research questions so as to be able to ascertain the above stated objectives. The specific research questions for the study are stated below as follows:

• What is the relationship between audit quality and return on asset of commercial banks in Nigeria?
• What is the effect of audit quality on return on asset of commercial banks in Nigeria?
• To what extent does audit quality affect net profit margin on listed deposit banks in Nigeria?
• What is the relationship between audit committee effectiveness and performance of banks in Nigeria?

1.6 Research Hypothesis

In order to pursue the objective of this study, the following generalized statements have been designed to guide and aids in obtaining the result for the experiment to be conducted. For this work, the null hypothesis will be represented with H0 while the alternative hypothesis will be represented with hypothesis H1.

• H₀1: There is no significant relationship between audit quality and return on asset of commercial banks in Nigeria.
• H₀2: There is no significant effect of audit quality on return on asset of commercial banks in Nigeria
• H₀3: Audit quality has no significant effect on net profit margin of deposit banks in Nigeria
• H₀4: There is no significant relationship between audit committee effectiveness and performance of banks in Nigeria.

1.7 Significance of Study

Research has been carried out on impact of audit quality on organizational performance both in and outside Nigeria. It has been observed that audit quality showed both positive and negative impact on the performance of organizations. This study will therefore be of great importance to commercial banks in Nigeria it will help them in knowing the impact of audit quality on their performance, to what extent is its effect and it impact on Return of Asset. It will also be of great importance to existing and potential shareholders to enable them understand that a good organization performance can be achieved through quality audits and its influence on decisions taken by firms.

This study will enlighten bankers, government, investors and researchers on the effect of audit quality on financial performance of deposit banks in Nigeria. It helps bank operators and officials on what to focus on in order to grow the financial performance of various institutions.

It will also be beneficial to managers to understand the importance of credible financial statements in financial decisions taken by the firms. It would also improve the confidence of investors in financing reporting and increase fund raising possibilities.

1.8 Scope of Study

The scope of the research is focused on the Effect of Audit Quality on Financial Performance of Nigeria Deposit Banks and their activities for the period (2005-2014).

This study covers commercial banks listed on the Nigerian stock exchange (NSE). As at 2017, 22 commercial banks were listed on the Nigerian stock exchange, out of which 15 commercial banks will be selected for this study.

This study will consider commercial banks which have available data from the year 2005-2016. The annual report of the selected companies will be analyzed to derive the needed information for the purpose of this research.

1.9 Limitations of the Study

During the course of this study, many things militated against its completion, some of which are:

1. Time Constraint: The time frame given to accomplish this project was very short due to school academic calendar and it was carried out under pressure which made the researcher not to implement some necessary features.
2. Establishment Policies: Establishment policies posed a serious limitation as most staffs are not ready to release information needed for this project work. There were lots of information needed from the staffs of this establishment to enhance the study which took them time to release or they did not release at all for security purposes, hence the scope was reduced.
3. Research material: availability of research material is a major setback to the scope of the study.
4. Frequent power failure: This made the researcher append more money on fuel to ensure sustainable power.
5. Financial Constraint: Insufficient fund tends to impede the efficiency of the researcher in sourcing for the relevant materials, literature or information and in the process of data collection (internet, questionnaire and interview).

1.10 Operational Definition of Terms

Financial Performance: It is a subjective measure of how well a firm can use assets from its primary mode of business and generate revenues. This term is also used as a general measure of a firm’s overall financial health over a given period of time, and can be used to compare similar firms across the same industry or industries in aggregation.

Audit Quality: It is the process of systematic examination of a quality system carried out by an internal or external quality auditor or an audit team. It is an important part of an organization’s quality management.