The Relationship between Audit Quality and Earnings Management among Companies Listed at the Nairobi Securities Exchange

Abstract

This article documents the link amid audit quality and earnings manipulation among companies listed at the Nairobi Securities Exchange. Existing literature has shown that audit quality can influence earnings management though with inconsistent findings. We anchor this study on agency theory and use two measures to determine audit quality -audit fees and auditor industry specialization. We use discretionary accruals computed by the Modified Jones Model to quantify earnings manipulation. The study controlled for firm size and found out that audit fees have a negative but statistically significant effect on earnings manipulation while auditor industry specialization showed a positive but statistically insignificant influence on earnings manipulation. These findings align with those arguing that higher audit fees imply comprehensive audit work to minimize earnings manipulation. The study implies that regulators, audit committees, and managers ought to emphasize not only the lowest bidder for audit services but the auditor’s technical competence.

Keywords: Audit Quality, Earnings Management, Discretionary Accruals, Audit fees, Financial Reporting Quality