AUDIT QUALITY AND FINANCIAL PERFORMANCE OF LISTED FIRMS IN

NIGERIA

CHAPTER ONE

INTRODUCTION

1.1. Background to the Study

The potential success of a business depends on its financial performance, which means its ability
to effectively implement strategies to achieve institutional objectives. In order to achieve
successful performance, companies have always explored ways to improve on financial reporting
in order to help investors make informed decisions and prevent litigations from scandals. This
can be ensured by the effective implementation of audit quality in the financial reporting process.
Afza and Nasir (2014) stated that external audit quality enhances the performance of the
company through investor opinion. They viewed the credible, precise and genuine financial
records that are audited by the major accounting companies as enhancing the overall consumer
confidence in those businesses. Jusoh, Ahmad, and Omar (2013) further argued that the high
quality of the audit will minimize organizational costs where auditors have a reputation and
honesty measure of financial reporting that could in turn contribute to lower monitoring costs
and increase company performance (Ogbodo & Nzube, 2018).

Listed companies' financial performance on the stock exchange is of significance, as well as

being a forum for capital pulling and for reducing business cost of capital. In fact, a business
with a very high financial results provides a good place for investors. In the same vein, capital
markets, administrators and analysts rely on audited financial results in some reports to take
decisions on financial performance (Ado, Rashid, Umar & Lateef, 2020). Better financial
reporting efficiency would also have a positive effect on the financial performance of the
company. Management also tends to disproportionately reflect profits, which adds to buyers'
revenue opportunities and eventually raises their share price by the amount they really receive
(David, Uche & Ngwa, 2018). Management often increases or covers negative news illogically

1
until it cannot be stopped. At this point, stock market responds rapidly to such bad news (Kim &
Zhang, 2015).

Financial performance is a multifaceted term (Santos & Brito, 2012). Performance is very
important for governance, since it is a commodity arising from the power and duty to carry out
its purpose lawfully and not illegitimately, by an entity or group of individuals within an
institution and in line with moral norms. Performance depends on the willingness of the
company to accumulate and use resources in various ways and build competitive benefits
(Gladness & Agasha, 2020). The life blood of economic units is said to be performance, and
without them, necessary steps cannot be taken when making decisions, leading to investors not
knowing the outcomes of the business. The strong financial success of any sector does not only
increase the company's value, but also supports the market and adds to the overall economic
growth of the company (Bello, Ahmad & Yusof, 2017). In addition to their sustainability,
financial performance dictates the productivity of the organization in the usage of capital (Eid,
Mona & Ahmed, 2020).

The happenings in recent times such as the collapse of Tyco in 2002, WorldCom in 2002, Enron
in 2003, Cadbury Nig, collapsed in 2005 and Thomas Cook in 2019, have drawn the attention of
investors and regulators to a number of well-published cases of accounting default in the world.
Mechanisms for sound, high-quality financial statements have been based primarily on audit
quality structure in order to reduce financial scandals (Enekwe, Nwoha & Udeh, 2020). Quality
financial reporting relies on the role of external auditing in promoting the quality of cited firms'
financial reporting. It's a crucial component of the administrative and surveillance infrastructure
and thus an operation of major public concern.The audit of financial records is a tool to track
information inefficiency by ensuring that the management's accounts are free of factual
inaccuracies. It also helps to protect the interests of individual stakeholders (Loveday, 2017). The
social position of auditors can be a crucial financial commitment in mitigating the chances of
severe mistakes and ensuring that the accounts are drawn up in compliance with pre-determined
rules and regulations (Farouk & Usman, 2014

Conversely, recent financial scandals and the collapse of one of the audit giants, Arthur
Anderson’s firm in 2002, Tyco in 2002, Enron in 2003, Cadbury Nig, in 2005 and Thomas Cook
in 2019 showed the incapacity of these firms to understand the audit quality on their own (Affes
2
& Smii, 2016). Thus, it is necessary to reconsider the current valuation rules and propose new
measures that take into account the complexity of the audit work (Usifoh, Adegbie & Rafiu,
2019). External audits conducted in compliance with high-quality auditing standards will help
reporting organizations enforce accounting standards to ensure that their financial statements are
trustworthy, accurate, and useful. Audits will help companies strengthen their corporate
governance, risk management, and internal control, resulting in improved financial performance.
(Gabriel, Martin & Anaja, 2017). It is against this background that, this study seeks to examine
the effect of audit quality on financial performance of listed firms in Nigeria.

1.2 Statement of the Problem

Uwuigbe, (2016) stated that the financial and nonfinancial firms in Nigeria have been facing a
number of issues recently, such financial constraints include, a lack of information, weak inter-
firm linkages, regulatory burdens, rising labor costs and fierce international competition and
these challenges often prevent them from innovating and reaching long-term sustainable
survival. Up till now, organizations are failing as a result of poor performance. This poor
performance may be attributed to asset management and utilization as well as liquidity and
equity related issues. On this note, Ohioda and Okun (2018) opined that management problem in
terms of liquidity problem, poor assets utilization, poor returns on assets, equity and insolvency
in fact, may be significant factors resulting to the failure of some firms. This has led to reduction
in shareholders wealth thereby, leading to loss of shareholders and a decrease in new investment
for the company (Kurai, Bernard & George, 2017). The continued failures by organizations
around the world have posed a host of critical concerns on audit quality, external auditors’
independence, and other audit related issues (Sattar, Ahmed & Rashid, 2020).

Paul, Fancy and Ogunkuade (2017) reported that the increasing claims about audit quality were
taken from the negative publicity regarding the auditor's services and such bad coverage as seen
by the experiences of major corporate scandals. Specifically, examples of companies and
countries that have a fair share of the negative publicities associated with the level of audit are:
Enron, WorldCom, Dynegy, Adelphia, Tyco (United States); WorldCom, Pamalat (Italy);
Carrian Group (Hong Kong); HIH Insurance, OneTel (Australia), and Savannah Bank, Societe
General Bank, Intercontinental Bank, Oceanic Bank and Cadbury (Nigeria) (Odia & Ogiedu
2013). In reality, Mgbame, Eragbhe and Osazuwa (2017) reported that the ongoing audit quality
3
controversy, which has impacted both the companies and the auditor, is an ongoing occurrence
because of global financial reporting scandals. The bad business audits have made efficiency and
profitable foreign investment in Nigeria pointless (Sattar, Ahmed & Rashid, 2020).

Audit quality is also a significant problem for accounting researchers and their connection with
the success of companies. In view of the fact that many Nigerian companies are struggling to
recover reputation among national and foreign investors, it is important to research the
connection between audit quality and the performance of listed firms in Nigeria (Elewa & Rasha,
2019). Moreover, a host of recent studies in Nigeria exploring the link between audit quality and
the performance of firms like Farouk and Hassan (2014); empiri (2019); Farouk and Musa
(2014); Affes and Smii (2016); Ado, Rashid, Umar and Lateef (2020); Chinedu, Nwoha and
Udeh (2020) but the results have been inconclusive. However, in prior audit quality and financial
performance test studies, the use of accounting indicators of business accomplishment is
incorrect and therefore, makes the findings of these studies questionable. This is because the
studies have stated that audit quality would not have a direct influence on accounting
performance of the listed entities but on stock market performance which is bestowed on the
principle of audit signaling (Kurai, Bernard & George, 2017). Furthermore, the integrity of the
audited financial statements in the financial and non-financial sectors is questionable since many
accounts are of corporate scandals in Nigeria (Gabriel, Martin & Anaja, 2017). It is therefore,
imperative to examine the effect of audit quality on financial performance (proxied by a market-
based performance measure – Tobin-Q, efficiency-based performance measure – return on assets
(ROA) and Liquidity based performance measure – working capital ratio) of both financial and
non-financial firms in Nigeria.

1.3 Objective of the Study

The main objective of this study is to examine the effect of audit quality on financial
performance of listed firms in Nigeria. However, the specific objectives are as follows;

I. ascertain the effect of audit quality on Tobin’s Q of listed firms in Nigeria.

II. determine the effect of audit quality on return on assets of listed firms in Nigeria.
III. evaluate the effect of audit quality on working capital ratio of listed firms in Nigeria.

1.4 Research Questions

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The research questions formulated to guide this study are:

I. What is the effect of audit quality on Tobin’s Q of listed firms in Nigeria?

II. How does audit quality affect return on assets of listed firms in Nigeria?
III. What impact does audit quality have on working capital ratio of listed firms in Nigeria?

1.5 Research Hypotheses

For the purpose of achieving the objectives of this study, the following hypotheses were tested.

Hypothesis 1

H0: Audit quality does not have significant effect on Tobin’s Q of listed firms in Nigeria.

Hypothesis II

H0: Audit quality does not affect return on assets of listed firms in Nigeria.

Hypothesis III

H0: Audit quality has an impact on working capital ratio of listed firms in Nigeria.

1.6 Justification for the Study

Audit quality is an important factor in preserving the financial performance of the undertakings;
objective auditing quality is the foundation for the trust that financial results are integral and
accurate, and that this is of considerable significance for effective markets as well as enhancing
financial performance (Affes & Smil, 2016). External auditing, undertaken in accordance with
standards of dominance auditing, will, therefore, improve the implementation of accounting
principles by related organizations to help ensure the usefulness, accountability and authenticity
of their financial reporting (Elewa & Rasha, 2019).

An impartial audit helps strengthen a clear system of internal regulation, risk management and
corporate governance in organizations that add to financial efficiency (Hassan & Farouk, 2014).
Studies like Elewa and Rasha (2019); Farouk and Musa (2014); Affes and Smii (2016); Ado,
Rashid, Umar and Lateef (2020); Chinedu, Nwoha and Udeh (2020); David, Uche and Ngwa
(2018) and Owolabi and Ayobami, (2020) have been carried out on the impact of audit quality

5
on financial performance and firm value in developed countries for banking sector. However, the
study of the impact of audit quality on performance in developing countries like Nigeria and in
both financial and nonfinancial sector has been uncommon, with few research conducted on
them. This study tends to justify this study through the effect of audit quality on financial
performance of listed financial and nonfinancial firms in Nigeria.

1.7 Significance of the Study

This study will be relevant to a number of people from business managers, auditors, investors,
shareholders, the government, general public and other researchers.

Management: This study would help management refine their financial statements and
remove material mistakes in their financial statements. This will also encourage auditors to
resolve agency problems between them and management in order to report audit findings
diligently.

Prospective Investors: This review will help prospective investors to make decisions based
on a clean financial statement and to ensure that their assets are reported faithful and are reliable
when making investments.

Shareholders: The study will also allow financial and non-financial company's shareholders
to assess how the audit quality ultimately impacts their returns and one of the main priorities
of a company is to boost shareholder profit.

Opportunity for further study: It also constitutes a benchmark for further investigators
who wish to conduct further investigation in this field in order to provide an additional
understanding of this subject.

1.8 Scope of the Study

The focus of this study was to examine the effect of audit quality on financial performance of
listed firms in Nigeria. The population for this study consists of both financial and nonfinancial
firms listed in Nigeria as at 31st December, 2019. The samples selected were ten (10) firms with
five (5) financial and five (5) non-financial firms listed on the Nigerian Stock Exchange. The
sample was selected using convenient sampling technique. The samples chosen were samples
whose annual report and accounts can easily be assessed for the years under consideration. Lagos
6
State is the study's geographical position. since the listed firms are domiciled in Lagos state,
Nigeria. The study's time dimension is for ten-years starting from 2009 to 2019. The information
gathered comes from the annual financial statements of the sampled companies for the study
period.

1.9 Operationalization of Variables

The relationship between audit quality proxied by audit committee competence, audit committee
independence, audit size and audit fees and financial performance measured by working capital
ratio, return on assets and Tobin-Q are correlated.
To evaluate

Y = f(X)

Y = Dependent variable (Financial Performance) (FPER)

X = Independent variable (Audit quality) (AUQ)

X and Y are broken down as follows

Y = (y1, y2, y3)

X = (x1, x2, x3, x4)

Where y1 = Tobin-Q (TBQ)

y2 = Return on assets (ROA)

y3 = Working capital ratio (WCE)

and x1 = Audit committee competence (ACC)

x2 = Audit committee independence (ACI)

x3 = Audit Fees (AUF)

x4 = Audit size (AUZ)

These will result to an expanded functional model of:

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TBQ = f (ACC, ACI, AUF, AUZ) ------------------------- Function 1

ROA = f (ACC, ACI, AUF, AUZ) ------------------------- Function 2

WCE = f (ACC, ACI, AUF, AUZ) ------------------------- Function 3

PER = f (ACC, ACI, AUF, AUZ) ------------------------------- Function 4

1.10 Operational Definition of Terms

The following terms are key to this study and They have been given acceptable definitions.

Audit quality: This is the joint possibility of a certain auditor discovering a breach in the
accounting system of the client and reporting the breach.

Audit committee independence: This consists of more independent non-executive directors

than Executive Directors in the Audit Committee.

Audit committee competence: This is composition of the audit committee with people with
accounting and finance knowledge and expertise.

Audit fees: This is payments charged to the audit firm with relation to the job performed, for the
services rendered to the auditee.

Audit size: Three metrics are used: the wealth of auditing partners; the size of client portfolios of
our partners and the number of audit partners in the business.

Financial performance: This means an organization's real performance calculated against its
expected outputs (or goals and objectives). It refers to how well an organization can use its asset
for revenue generation
Tobin-Q: This is a measure of firm assets in relation to a firm's market value, stating its
overvalued or undervalued.
Return on assets: This demonstrates how profitable a business is in comparison to its overall
assets.
Working capital ratio: This is actually determined by splitting total current assets into total
existing liabilities.

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 CHAPTER TWO

The chapter focuses on the review of relevant literature on audit quality and financial
performance of quoted firms in Nigeria. The conceptual analysis, theoretical review, empirical
review, discrepancies in the literature, and researcher conceptual model are the five sub-sections
of the chapter.

2.1 Conceptual Review

2.1.1 Financial Performance

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Performance is a generic concept applicable to any of an organization's operations over a period
of time; often in regard to past and future expenditures, performance, obligation, transparency or
capital. Asset usage has been described as a measure of a company's financial efficiency (Elewa
& Rasha, 2019). It shows how good a company is doing financially. Returns on Investment
should be used as an important financial success metric. Return on Equity (ROE), Return on
Assets (ROA), Return on Investment (ROI), and Return on Investment Capital (ROIC). Both
metrics use the standard accounting methodology of earnings before interest and tax (EBIT),
operating expenses, gross income and net profit (Okolie & Famous, 2016). Performance would
be the primary test to determine whether a company will remain viable. Benefit is the top priority
among profit-oriented establishments. A good company is also reliable and productive in taking
care of its obligations. Managers of corporate organizations are much concerned about how to
achieve high financial performance as it has a long-term impact on their corporate structures,
which include everything from management performance: investors target and lenders driven
(Kibiyaa, Ahmada, & Amran, 2016).

Numerous steps have been taken by a company to participate in its financial reporting and are
resulting from this; there is a lack of agreement as to the metric or variable that can be added to
the firm's proxy performance. The various metrics used to assess efficiency and used by different
scholars to analyze audit quality and performance include stock returns, asset returns and
earnings per share. The indicators are used to assess management commitments for organization
development and survival. Performance is generally calculated in terms of profitability.
Performance according to Affes and Smil (2016) is the ability of a corporation to make money
from any of its activities (operating, investing and financing activities). In order for a corporation
to make a profit, it must be able to produce more income than the direct and indirect costs of
producing the revenue. Shareholders' capital maximization is the willingness of a company to see
growth and steady dividend distributions or capital gains resulting from appreciation of the
company's stock shares (Owolabi & Ayobami, 2020). Shareholder's equity is very important
because it influences the investment decisions of the owners and, as such, the management
should pay due attention to it (Farouk & Musa, 201).

Financial performance is a measure of how well a company uses the resources it has available to
generate revenue. In certain cases, it provides recommendations for potential activities in terms
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of corporate development, management supervision, and property acquisition. It's also beneficial
to concentrate on what management has learned in monetary terms over time (Gladness &
Agasha, 2020). These achievements may also be used to conduct comparisons between similar
businesses. Furthermore, financial performance is a method of objectively evaluating a
company's activities in monetary terms. Its aim is to show how well shareholders are doing at the
end of the accounting period compared to the beginning. This can be easily accomplished by a
simple review of business figures or financial ratios obtained from financial statements. (David,
Uche & Ngwa, 2018). There are different ways to assess financial performance. There are also
many varying absolute and relative metrics, including investments, sales and profit before
interest and taxation, net income ratios, return on equity and return on assets, among many
others. ROA and ROE are the most commonly used efficiency metrics in most research. ROA
discusses the return on the company's investments. Firms have largely used it as an aggregate
measure of financial performance. ROA is achieved by way of a formula whereby net income
after taxation is split by total assets. ROA is also used to assess financial efficiency. On the other
hand, ROE shows the return on shareholder capital and is achieved by dividing net profit after
tax by total equity capital. It further describes the degree of sustainability of the firms taking into
account the overall amount of money spent by the shareholder (Kim & Zhang, 2015). The
strength of an organization's financial performance is called financial efficiency. Financial
performance is the method of determining the financial assets and limitations of the company by
correctly defining the relationship between the products in the balance sheet and the benefit and
loss account. In financial analysis, the ratio is used as a benchmark for determining the financial
condition and efficiency of a company (Santos & Brito, 2012).

Thus, the study will adopt market-based performance measure-Tobin-Q, efficiency-based

performance measure-return on assets (ROA) and Liquidity based performance measure-working
capital ratio as measures of performance. Tobin-Q and working capital ratio has been rare in
usage in measuring performance which is major rationale for choosing the variables as proxies of
performance.

2.1.1.1 Tobin’s Q

This is defined as the market value of a firm divided by the replacement cost of the firm’s assets
(Juhanmi, 2017). Despite the fact this ratio is used very commonly in analytical research, there
11
has been no paper to our knowledge that has identified a connection between the q ratio and the
future firm's results. The numerator and the denominator of the ratio: the firm's worth depends on
the estimated value of the firm's future cash flows (Pandey, 2010). A low Tobin’s Q ratio
(profit/cost) between 0 and 1 means a firm's value is greater than the cost to replace its
properties. The stock is actually undervalued. A high Tobin’s Q ratio means that the firm's value
is less than the replacement cost of the firm's properties, which implies that the stock is a cheap
piece of junk (Pandey, 2010). This calculation of firm value can be the most significant
consideration for an investor's investment decisions. When looking at a wider market, the study
will assess if the market is actually at an overbought or undervalued stage. If a business or
company's price ratio is greater than one, the market or company may be overvalued (Gabriel,
Martin & Anaja, 2017). A price that is less than one would mean that a share is comparatively
undervalued.

2.1.1.2 Return on Assets

According to Pandey (2010), this can be defined as a percentage of the total assets invested in a
business, as measures benefit before interest and tax. The Asset Return (ROA) measures a
company's efficiency in terms of its total assets. The Return on Assets (ROA) demonstrates how
well management employs its resources to generate revenue. The ROA for public companies
would be significantly different and will be strongly influenced by the industry. The company's
investments include both debt and equity. Both of these sources of revenue are used to finance
the organization's operations (Olowe, 2011). The ROA figure helps investors understand how the
business converts money into net income. The higher the return on investment, the better, since it
generates more income with less investment (Olowe, 2011).

2.1.1.3 Working Capital Ratio

Working capital is the denominator of the percentage measurement between total current assets
and current liabilities. For that function, the present ratio should be referred to as the current
ratio. It is an indicator of liquidity, which quantifies how current the company will satisfy
payment obligations (Olowe, 2011). Pandey (2010) states that a working capital ratio under 1.0
is a clear sign of a possible liquidity problem, whereas a ratio over 2.0 is perceived to be a
healthy short-term liquidity situation. The near-term supply of working capital is misleading if a

12
company's existing assets are disproportionately weighted in terms of inventories, as this will
make liquidating the assets impossible in the short term (Sattar, Ahmed & Rashid, 2020). This
dilemma is more evident when there is a poor product turnover ratio. A related issue may occur
when contract commitments aren't paid on schedule (which may be indicative of unrecognized
bad debts) (Kurai, Bernard & George, 2017). The working capital ratio would be abnormally
poor for those businesses that are drawing down funds from a line of credit because they appear
to hold cash reserves far smaller than those of cash-rich firms. In this case, a working capital
ratio of 1:1 is typical and makes it unlikely that there would be an issue with the payment of
liabilities (Odia & Ogiedu 2013).

2.1.2. Audit Quality

Audit quality involves the detection of material misstatements and errors as well as the reporting
of these misstatements and errors. Since audit quality cannot be explicitly observed, researchers
have used various proxies to quantify audit quality including audit duration, audit hours, audit
fees, litigation rate and budgetary accruals (Matoke & Jane, 2016). Auditing standard is subject
to multiple overt and indirect influences. The audit quality perceptions vary among stakeholders
according to the level of involvement in audits and the way they view it, both directly and
indirectly. Consideration can be granted to the following three issues: input, performance, and
background variables. The considerations behind a successful audit include the auditor's aptitude
and expertise, as well as the auditor's ethical principles and mind-set.

DeAngelo (1981) defined the quality of audit services as “the market-assessed joint probability
of both a given auditor discovering a defect in the client's accounting system, and of the auditor
then reporting the defect.” The chances of an auditor finding a flaw are determined by the
auditor's skill and the audit procedures used on a given audit (Khajavi & Zare, 2016). After
DeAngelo (1981), some academics such as Palmrose (1988) and Teoh and Wong (1993) jointly
agreed that audit accuracy is measured by a perception of finding and disclosing misstatements
by the auditor. DeAngelo's (1981) two-dimensional concept of audit quality set the standard for
resolving problems of audit quality. The first step is to identify material misstatements, and
second, to identify material errors reported. DeAngelo (1981) argues that at larger firms, their
audit reputation is higher because they have more to lose from being found out. When major
corporations have more capital, they are able to recruit more trained workers.
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Audit quality is determined by how well auditors detect and report material misstatements in
financial statements, the detection aspects are a reflection of auditor competence, while reporting
is a reflection of ethics or auditor independence, particularly independence. The Australian
Public Policy Committee (2014) defines audit quality as follows: Meeting investors' needs for
independent and reliable audits; Audit committee communications on financial statements,
including related disclosures; and Assurance about internal control. Based on the above
understanding, it can be concluded that the audit quality is an audit conducted in accordance with
auditing standards generally acceptable that can detect and report material misstatements in the
financial statements which include disclosure either caused by an error, fault or fraud and is able
to provide assurance of internal controls, and capable to provide going concern warnings.

Good audit quality plays an important role in ensuring an effective business climate, and an
impartial audit underpins the reputation, honesty, and integrity of financial statements (Khajavi
& Zare, 2016). Audits conducted by certified accountants, in compliance with high quality
auditing practices, will help facilitate the application of accounting standards, which ensure the
credibility, clarity, and usefulness of financial reports. Sound assessments provide businesses
with more value by reinforcing good corporate policy, risk management and internal control
(International Auditing and Assurance Standard Board, (IAASB), 2011).

In audit quality literature, the size (big 4 and Non-big 4) of the audit firm is commonly employed
as the measurement of audit quality. This measurement was also discussed from the different
context of the study, (Rashid, Noor, Mastuki, & Bardai, 2015). Considering the fact that larger
auditors (firms) have a better reputation compared to smaller auditors and for the reason that
large auditors have more to lose if their clients overstate, large auditors have more grounds to
issue clean reports (DeAngelo, 1981). Capital market responds more positively as soon as firm
switches to a Big4audit firm. Literature offers evidence of a higher earning response coefficient
(ERC) for the clients of Big4audit firms when compared with the clients of the non-Big4 audit
firms (Owolabi &Ayobami, 2020). A number of studies have examined whether the auditor
brand name as proxy by auditor size (Big 6/5/4), is related with financial performance
(Mustapha, Mohd, Rashid, Lateef, & Bala, 2019). However, several studies employed audit fees
as the proxy for measuring the quality of audit because of the fact that quality in audit is invisible
(Mustapha, Mohd, Rashid, Lateef, & Bala, 2019). Finally, this study employed audit fees as one
14
of the measurements for audit quality which is also consistent with the research carried out by
(Hassan & Farouk, 2014; Mustapha, Mohd, Rashid, Lateef, & Bala, 2019). Studies like Elewa
and Rasha (2019); Farouk and Musa (2014); Affes and Smii (2016); Ado, Rashid, Umar and
Lateef (2020); Chinedu, Nwoha and Udeh (2020); David, Uche and Ngwa (2018) and Owolabi
and Ayobami, (2020) have been carried out on the impact of audit quality on financial
performance using audit tenure, audit size, audit fees and audit committee attributes. The
measures of audit quality adopted for this study are audit committee competence, audit
committee independence, audit fees and audit tenure. The rationale for using these measures is
because, audit size and audit fees does affect the performance of auditors in performance of audit
duties and responsibility to client company and audit committee independence and competence
act as internal measures used to enhance the auditor’s duties in the organization. Also, the
limited scope on usage of the measurement as proxies contributed to the justification for
choosing the variables.

2.1.2.1 Audit Size

Small firms and regulators have argued that the quality of audit should not only be judged on the
basis of the size of large public accounting firms as dictated in the disclosure of audit standard on
independence of audit quality from auditor firm size (DeAngelo, 1981). DeAngelo (1981)
rejected this allegation of small firms and revealed that big audit firms have more independence
and higher quality in their audit work. Furthermore, Gladness and Agasha (2020) noted that large
audit firms have more intention to detect material problems in financial statements. Big audit
firms will have the potential to lose their clients if they become notorious, have lower audit
quality and show a lack of independence in their judgment (Okolie, 2014). Okolie and Izedonmi
(2014) scholars have theorized that large auditors attract a fee premium because their greater
wealth decreases clients' exposures to risk (the deep pockets theory); others have theorized that
there is no actual audit quality differential, but rather that large firms are considered to have
gained expertise and a reputation for quality (the reputation theory). Antecedents regarding
auditor size point to a positive relationship with firm performance. Specifically, big 4 audit
companies tend to improve firm performance compared with non-big 4 audit firms (Okolie,
2014). The improved performance is because big 4 audit firms have more experience in auditing

15
publicly listed companies, better quality human resources, and the ability to handle complex
audits (Gladness & Agasha, 2020).

2.1.2.2 Audit Fees

Okolie and Izedonmi (2014) pointed out that researchers have hypothesized that big auditors
attract a fee differential because their larger resources decrease clients' exposures in lawsuits (the
deep pockets theory); whilst others have theorized that there is no real audit quality disparity, but
rather that large companies are considered to have acquired credibility for accuracy. The fees of
the auditors who work on the audit are very influential in the success of the audit process. The
manner in which auditors are paid is an important issue in corporate organizations, particularly in
Nigeria (Companies and Allied Matters Act, CAMA, 2004). American Institute of Certified
Public Accountants (AICPA) discovered that the expense of audits to be charges for the audit
services provided to the auditee. Audit companies have to weigh carefully expense and profit
that may result from the discharge of their services and determine their audit fees, the aspects
regarding audit fees are thoroughly examined from the point of view of the impact, audit fees
amount will have on auditor’s independence. The payments are charged to the auditor with
relation to the job he/she performs, for the services he/she gives to the auditee. In this respect,
Code of Ethics for Professional Accountants of International Federations of Accountants (IFAC,
2010) requires that a professional accountant may quote whatever fee is considered acceptable
by the public accountant in the exercise of professional services.

Based on the researcher, audit fees are defined as the amount paid by client company to audit
firms in performance of audit duties to ensure true and fair view of the financial statement is
achieved to ensure efficient decisions being carried out by investors and shareholders.

2.1.2.3 Audit committee competence

The requirements for audit committee competence are stated by the Nigerian Securities and
Exchange Commission (SEC) Code (2011), Restructuring of the Central Bank of Nigeria Code
(2006) and other codes. These codes require that at least one member of the audit committee
hold a financial reporting and accounting credential. Securities and Exchange Commission
(SEC) has a similar condition which allows companies to have a financial specialist on board.
Juhmani (2016) proposed that the presence of an audit committee would improve its productivity
16
and efficacy in identifying and preventing earnings control. However, Dhaliwal et al. (2006)
have observed that the competence criteria have no definition, and is too generic. The authors
believed that people are using the term to mean (1) certified public accountant, auditor, financial
manager, or controller (2) someone that has served in a supervisory capacity that includes
financial statement planning. Thus, audits can be professional or supervisory in nature, but the
contention is which form of competence is essentially central to the standard of the audit? Is its
academic accounting or supervisory finance? Livingston (2003) found that supervisory
experience did not translate into understanding accounting practices, which could not offer
assurance of quality assurance.

Based on the researcher, audit committee competence is said to be members in the committee
with financial expertise in terms of financial accounting, banking and accounting background.

2.1.2.4 Audit committee independence

The number of non-executive directors exceeds the percentage of executive directors on the audit
committee. The real and fair image of the firm's contribution to stronger corporate governance is
the nature of audit committee independence (Okolie & Izedonmi, 2014). According to Talat and
Mian (2013), the autonomous mindset is done with honesty and an analytical approach to work.
Holding financial management expertise marks an auditor as having a clear understanding on
financial reporting issues. This has given rise to independent status for financial reporting as a
key aspect in evaluating their consistency. The reasoning by Yasar (2013), having to do with
auditor's independence and the major role it plays in auditing consistency, supports this claim. In
addition, Loveday (2017), in accepting that the transparency of the audit process is essential in
preserving credibility of the audit, indicated that the auditor is impartial. Professional accounting
bodies work to assess members' integrity based on a variety of different measures. In order to
ensure the quality of services provided by its members, the American Institute of Certified Public
Accountants (AICPA) (2009) has released a statement on quality management principles, which
includes five elements of quality control including freedom. To ensure that employees retain
freedom (in reality and in appearance) in all required situations, they must conduct all
professional services with dignity and maintain objectivity in discharging professional
obligations.

17
Okolie and Izedonmi (2014) describes auditors as being neutral in their assessment by being
independent when making judgments during an audit. Independence means being exempt from
external guidance in the absence of, which the value of the audit feature would be reduced
(Elewa & Rasha, 2019). This weakens the unconventionality of the audit by failing to spot
earnings manipulations (Okolie & Izedonmi, 2014). According to Aderibigbe (2005), the term
'independence' acts as a banner for democracy, dignity and all that is good. Loveday (2017)
defines a mental attitude of independence, and physical appearance which portrays the auditor as
not being swayed by others. This can be sustained by avoiding financial relation that makes it
appear that the wealth of the auditor relies on the results of the audit and management relations
that makes the auditor appear as if he is interested in management decisions. As a central factor
for quality assurance, Olabisi, Taofeek and Toluwalase (2017) argue that independence should
be a core attribute in the success of audit tests, review of findings and attestation in the audit
study. Despite debating the concept of auditor independence several times, David, Uche and
Ngwa (2018) concluded that auditor independence is subjective, and differs from case to case.

Based on the study, the definition of Loveday (2017) will be adopted which is defined as a
mental attitude of independence, and physical appearance which portrays the auditor as not being
swayed by others.

2.2. Theoretical Review

The theories discussed to show the impact of audit quality on performance of listed firms in
Nigeria are Agency theory, Theory of Inspired confidence and Stakeholder’s theory. The theories
are related to audit quality and how it affects performance. The theory looked at its founder and
year, assumptions, supporters, critics and relevance and importance of the study.

2.2.1 Agency theory

The theory of the Agency has its origins in economic theory. This was explained by Alchian and
Paddyetz (1972) and further developed by Jensen and Meckling (1976). The need for audit stems
from knowledge asymmetry and organization disputes between corporate administrators, non-
investors and intermediaries. From the Agency's Theory of Expectations, Dang (2005) pointed

18
out that auditing financial statements are an important oversight tool that guarantees that
financial statements are free from factual misstatements. In literature, Agency Theory is widely
used to research knowledge asymmetry between principals (shareholders) and agents
(management).

The association of the principal agent, as demonstrated in the Agency Principle, is important for
understanding how the position of the auditor has evolved. The fundamental principle of the
Agency Hypothesis is that there is a conflict of interest in organizational affairs due to a disparity
in the benefits of management and shareholders. The Agency Theory implies that the role of the
auditor is to control the association between the manager and the owner. It is important that the
accountant and the owners have a common agreement that the auditor is not responsible for
accounting. However, the auditor is responsible for ensuring that the report is satisfactory
(Loveday, 2017). The philosophy of the Agency is also a realistic economic theory of
transparency, which aims to explain the consistency of the audit.

Sarens and Abdolmohhamadi (2007) suggest that the premise of agency theory is that principals
and agents behave rationally and use contracting to increase their resources. As a result, there is a
moral hazard problem. Jensen and Meckling (1976) moral hazard is a condition, in which agents
may face the dilemma of behaving against the interests of their principals in order to maximize
their own resources. Since the principals do not have access to all the details available at the time
the agent takes a decision, they are unable to determine if the actions of the agent are in the
company's best interests. To minimize the risk of moral hazard, contractors and agents are
engaged to attain maximum efficiency, including the development of inspection mechanisms
such as auditing. Defond (1992) emphasizes the divergence of diffusion, the separation of
ownership and the control of such heterogeneity of demand. Numerous auditing procedures
would also be expected to track the behavior of the agent in more diffuse ownership systems
(Farouk & Hassan, 2014). The main-agent association, as seen in the Agency Theory, It is
critical to comprehend how the role of the auditor has evolved (David, Uche & Ugwa, 2018).
Watts (1998) states that auditing is perceived to be a bonding fee charged by agents to a third
party to fulfill the principal's need for transparency. Louise (2005) points out that audits act as a
central goal in the fostering of trust and faith in financial records. The philosophy of the Agency

19
therefore emphasizes the valuable economic theory of transparency, which tends to justify the
creation of the audit function and improve the efficiency of the audit process.

2.2.2 Theory of Inspired Confidence

Established by the Limperg Institute in the Netherlands in 1985, the principle of inspired trust
states that the auditor, as a secret agent, derives his large role in society from the need for an
expert and objective analysis, as well as from the need for an expert and independent judgment
backed by the exams. Accountants and auditors are also supposed to recognize and understand
that the public wants to expect a low rate of audit errors. Which allows auditors to prepare and
conduct their audits in a way that minimizes the likelihood of undetected content misstatement.
The accountant is obliged to carry out his duties in a way that does not violate the confidence he
commands (Wild, 2003). The value of the principle of trust-inspiring is that the roles and
obligations of the auditor’s stem from the public faith in the performance of the audit process and
the assurance that the judgment of the auditor conveys. As this trust decides the life of the
process, the betrayal of trust logically implies the cessation of the process or work. DeAngelo
(1981) addressed the social importance of the audit and claimed that where there is a misguided
trust that the company has in the effectiveness of the audit process and the audit result, the
credibility of the audit is lost.

Limperg Institute noted that, when an organization lacks trust in the effectiveness of the audit,
this, in fact, reduces the usefulness of the auditing process. Limperg's driven Trust Principal
addresses both the market for and the availability of audit services. According to the Limperg
Institute, the need for audit services is a direct consequence of the involvement of outside
stakeholders in the business. These stakeholders are seeking responsibility from the board, in
exchange for their commitment to the company. The Principle of Inspired Trust, however, blends
the needs of the society for the reliability of financial information with the capacity of audit
strategies to satisfy these needs, and emphasizes the evolution of the needs of the community and
the methods of auditing over time. As a consequence, developments in the demands of society
and changes in auditing methods result in changes in the role of the auditor.

2.2.3 Stakeholders Theory

20
Stakeholder Theory founded by Freeman in 1984. Stakeholders may be identified as any
community or person that may or may be influenced by the achievement of the goals of the
company. The principle starts with the premise that principles are inherently and specifically part
of the business method. Matoke and Jane (2016) argued that stakeholder theory was derived
from a mixture of sociological and operational sciences. Stakeholder theorists believe that
administrators of companies have a network of partnerships to represent – including vendors,
staff, lenders and other business associates. Suleimon (2015) thus agreed that stakeholder theory
aims to resolve a community of stakeholders that need management consideration. Many
companies have built and operate their enterprises in a way that is strongly compatible with
stakeholder philosophy. Firms such as eBay, Google, Lincoln Electric, and the firms featured in
Designed to Last and Nice to Great offer convincing explanations of how managers appreciate
crucial insights into stakeholder philosophy and use them to build excellent businesses (Cosserat,
2009). The stakeholder's principle reflects on problems relating to the company's stakeholders. It
stipulates that a corporate organization inevitably tries to strike a balance between the needs of
its different stakeholders in order to ensure that a certain degree of satisfaction is received by and
of its stakeholders.

2.2.4 Theoretical Framework

Since agency theory is essential for understanding how the function of an auditor has evolved, it
will be used in this analysis. Agents are appointed by the principals, who delegate any decision
making power to them. By doing so, the principals are putting their confidence in their agents to
act in their best interests. Principals may lack confidence in their agents as a result of knowledge
asymmetries between principals and agents' varying motivations, and may need to put in place
structures, such as the audit, to strengthen this trust. As a result, agency theory is a valuable
economic theory of transparency for explaining the evolution of audit efficiency.

2.3 Empirical Review

The love shows past findings on how audit quality affects the performance of various companies
in different countries and sectors.

2.3.1 Audit quality and Tobin’s Q

21
Gladness and Agasha (2020) examined the effect of audit quality on firm performance of listed
firms in Botswana and Uganda. The research sampled domestically listed financial and non-
financial firms in the stock markets of Botswana and Uganda for the five years 2014-2018. Ex
post design was adopted as research design. The population is 26 companies and all was used a s
sample size. The source of data is secondary data and Regression analysis was used. Using
auditor size and audit costs as audit efficiency and asset return proxies and Tobin's Q as company
performance metrics, the relationship between the variables was calculated through a regression
analysis. The analysis also regulated the difficulty, risk and development of the firms. The
findings of the analysis have shown that audit quality has a negative insignificant indicator on
financial performance.

Mustapha, Rashid, Wan and Jamil (2020) presented empirical proof of the influence of audit
committee (AC) that is: financial competence, and stock of the company performance audit
committee, calculated by Tobin's Q among Jordanian firms. The present research developed by
Agency Theory and Resource Dependency Theory to achieve the objective of the study, in which
the sample consisted of 180 firms from financial, industrial and service companies listed on
Amman Stock Exchange during the period from 2009 to 2017. Using the panel data process, the
findings have shown that the scale of the audit committee, the independence of the audit
committee and the financial experience of the audit committee have a constructive and important
association with the firm's success.

Elewa and Rasha (2019) investigated the effects of audit quality and firm performance. It uses
the financial statements of non-financial companies referred to as EGX 100. The population
surveyed is made up of thirty non-financial companies. The research covered the five-year period
from 2010 to 2014. The panel regression analysis was used for analysis. Independent factors are
the auditor's expertise (as calculated by Big-4) and the auditor's freedom (measured by auditor
Rotation: ROT). Dependent factors are the return on assets (ROA) and return on equity (ROE).
In line with the effects of the Random Effect Model, the results showed that BIG 4 and audit
rotation have an insignificant effect on company's ROA and ROE. The overall findings indicated
that the effect of audit quality on financial performance is insignificant.

Loveday (2017) explored the effect of quality audit practices on financial performance in
Nigeria, drawing information from audit firms. Data was obtained by means of a questionnaire.
22
Univariate, bivariate and multivariate analyzes were conducted using descriptive metric, Pearson
Product Moment Coefficient of Correlation and stepwise multiple regression. The results
suggested a statistically significant positive association between audit quality metrics (auditor
freedom, professional qualifications and expertise and communication performance) and
financial reporting (measured in terms of reliability of financial report). Auditor independence
has the highest predictive capacity with 47.9 per cent with differences in financial statement
efficiency. In comparison, the regression model of just auditor independence gives the best
benefit for the reliability of the financial statements. Due to the presence of professional training
and qualifications and commitment results, audit independence is the key attribute of financial
reporting audits.

Asiriuwa, Edosa, Uwuigbe and Ranti (2018) analyzed the characteristics and consistency of the
audit committee, concentrating on the particular specifications of the 2011 SEC Code. The study
used the deductive method through the ex-post-facto research design and the conditional probit
regression model to examine the different hypotheses put forward in the report. The data used for
the analysis were obtained for 150 firm-year observations from the annual reports of the listed
firms on the floor of the Nigerian Stock Exchange. The results of the analysis found that the
composition of the audit team, the duration of sessions, the amount of experience and overall
efficacy all have a favorable association with the efficiency of the audit. However, their
partnership was only notable in scale and overall efficacy. The study advises that, because the
important positive nature of the efficacy of the audit committee indicates that four qualities
collectively account for effectiveness, companies should be advised to set up audit committees
with all these attributes. In addition, the provision to have a 6-member audit committee is sound
and empirically established to support audit accuracy. As a result, firms that have yet to sign up
to these should be speeded up, while sanctions should be imposed on firms that do not.

Rateb (2018) studied the effects of the peculiarities of the audit committee on the performance of
the company. The sample consists of 165 non-financial firms listed on the Amman Stock
Exchange (ASE) for the period 2014-2016. The findings of the study indicate that the scale,
freedom and gender composition of the audit committee have a substantial positive relationship
with the success of the company, whereas expertise and number of meetings have an
insignificant correlation. The findings of the analysis may be of use to managers and boards in
23
making reasonable decisions regarding the features of the audit committee and the corporate
governance processes to increase the efficiency of the organization. The study gives policy
makers a better understanding of the different characteristics that the audit committee needs to
incorporate into future policy preparation to protect the interests of shareholders. The association
between the features of the audit committee and the results of the company is also unclear.

Agwor and Onukogu (2018) studied the influence of the expertise of the audit committee and the
earnings control activities of the food and beverage companies in Nigeria. Secondary data was
obtained from the annual reports of 15 sampled companies using the ease sampling technique,
half of which was focused on data availability. The research period represented the period from
2006 to 2016. Earnings control was calculated by budgetary accruals using the updated Jones
(1991) formula. Time series data are used to approximate the budgetary accrual for each sampled
company as at the end of the 2016 financial year. Ordinary Least Square regression was then
applied to cross-section projections of budgetary accruals, taking the cross-section consistency
measurements of the audit committee (i.e., committee competence, committee size and
frequency of meetings) as independent variables. The firm size was used as a background vector
determined by the natural logarithm of observable non-current properties. It was found that the
scale of the committee was redundant due to the constancy of the data points, the frequency of
the meeting failed to measure the statistical importance at 5% level, although the association
between the competence of the committee and the earnings management was not only important
at 5% level, but a negative coefficient of 1,517 was observed. The firm size also yielded a
positive coefficient of 0.906.

Arslan and Rashid (2015) identified the relationship between corporate governance and payout
policies. The research used data from 100 KSE-listed firms for the period from 2007 to 2013.
The advanced level of statistical methodology was used, consisting of a logic regression analysis
and a comparative average of different classes. The findings of this study indicated that
dividends are the product of the standards of corporate governance and in businesses where the
interests of shareholders are not respected; opportunistic directors use free-flowing funds to
spend in ventures and fields that boost their prestige, grandeur and credibility. Biphasic findings
revealed a strong link between operational performance, liquidity, equity composition, corporate
size and financial leverage and dividend strategy. There is a reasonably weak relationship
24
between asset structure dividend payout strategy, although there is no meaningful relationship
between growth prospects and the latter.

Halim (2017) described the impact of price on the ratio of earnings, dividend yield and book-to-
market ratio of predictability to audit efficiency as a moderating element. The research
population audited the financial statements of 35 banking companies at IDX and 35 public
accountants in 2015. The population is relatively limited, but many of them are used as
examples. Primary evidence is the public accountant's interpretation of the efficiency of the audit
gathered by submitting a questionnaire to the respondents. Secondary details as financial
statements and closing share prices in 2014-2015 was accessed via Internet access at
www.idx.co.Id. The results are evaluated by Partial Least Square (PLS). The findings of this
study find evidence that price to earnings ratio, dividend yield and book to market ratio partly
influence stock return predictability and audit efficiency by increasing the impact of price to
earnings ratio, dividend yield and book to market ratio on stock return predictability.

2.3.2 Audit quality and Return on assets

Ado, Rashid, Umar and Lateef (2020) presented evidence of the direct effect of audit quality on
financial performance of listed companies in Nigeria. The research employed 84 NSE-listed
companies with 756 samples for the nine-year period from 2010 to 2018, based on a panel data
methodology. In comparison, the study used a secondary approach to the collection of data from
Thompson Reuters DataStream as well as the financial statements of the listed firms. In the
present analysis, multiple regressions were used to test the model. The findings showed that the
audit fee showed a positive and negligible association with ROA. This means that if there is a
reduction in the amount charged to auditors for audit services, the financial results of listed firms
in Nigeria will improve. Consistent with the Agency Hypothesis, the auditor size indicates a
significant positive association with the ROA. This optimistic figure means that the percentage
growth in companies audited by Big4 would also rise, accompanied by the increase in financial
results (ROA). Auditor freedom is also shown to be positive and statistically important in
comparison to the ROA. Finally, auditor freedom is found to be more effective than the financial
results auditor.

25
Olabisi, Taofeek and Toluwalase (2017) investigated the relationship between Audit Efficiency
and Earnings Control in Nigerian deposit money banks. The thesis followed a longitudinal
analysis methodology and gathered secondary data for the period 2005-2014. The sample
population consisted of fifteen (15) deposit money banks listed on the Nigerian Stock Exchange
as of 2016, out of which six (6) were chosen on a random basis, resulting in 60 submissions. The
data panel method was used, while the fixed and random effects model was used for estimation.
For analysis, descriptive statistics, Pearson correlation coefficient and basic pooled OLS
regression analysis were used to evaluate the potential relationship between the variables
described. The findings of the analysis found that there was a significant positive relationship
between joint audit and earnings control. There was also a major negative association between
audit specialization and earnings management, which suggests that any unit increase in audit
specialization lowers earnings management. In addition, there was a major positive association
between audit independence and earnings control. There was, however, an insignificant
detrimental association between audit tenure and earnings control. The research concluded that
long audit cycles were mechanisms implemented by bank administrators to affect the objectivity
of auditors in the course of the audit assignment.

Ohidoa and Okun (2018) analyzed the characteristics of companies and audit fees in Nigeria.
The reason for this was that, over the years, the auditing profession has been under increased
scrutiny of the increasing amount of fees charged by the audit customer and the contributing
effect of such fees on the independence of the auditor and the need to examine the factors
affecting audit fees in Nigeria. The research used time series and c ross-session results (panel
data) of firms listed on the Nigeria Stock Exchange and the data used was compiled from
secondary sources (annual financial statements) of firms listed on the Nigeria Stock Exchange
from 2013-2017. The sample number of eighty-nine (89) companies was used by Yaro (1964)
for the determination of sample size. The mathematical method used in the analysis was the
Least Square Regression Panel with the aid of Eview 7.0 and SPSS 20. The study showed that
the form of auditor, the firm size of the client, the sophistication of the client, the firm risk of the
client and the discretion of the audit committee had a substantial impact on audit fees, while the
profitability of the firm had little effect on audit fees.

26
 Matoke and Jane (2016) established the relationship between audit quality and financial
performance of listed companies in Nairobi Securities Exchange. This study adopted a
descriptive research design. The sampling frame of this study was drawn from directories of the
Nairobi Securities Exchange Limited; consisting of all the 9 listed companies in Kenya. Data
from the ICPAK indicate that there are a total of 826 CPAs working in the 9 listed companies in
Kenya. The study used simple random sampling to select 89 respondents since the study
population was homogenous. Both primary and secondary data was used. Piloting was carried
out to test the validity and reliability of the instruments. To establish the validity of the research
instruments the researcher sought the opinion of experts in the field of study. The study used
Cronbach (Alpha – α) model to test the reliability of the data. Data was analysed by multiple
linear regression analysis. Findings of the study indicated that the effect of audit quality on
financial performance is positive and significant and the greater the degree of an auditor’s
independence, the greater the propensity of a firm making substantial net profit margins. The
impact of auditor size was also positive and significant, although, its impact was lesser that of
auditor independence.

2.4 Tabular Summary of Empirical Review

S/ AUTHOR TITLE METHODOL FINDINGS GAP(S)

N AND YEAR OGY
1. Gladness and Impact of audit Multiple linear The findings of the analysis have shown
Choice
Agasha quality on firm regression that audit quality is a negative but non-
of
(2020) performance of analysis significant indicator of company success
location
listed companies for financial performance. and
in Botswana, and limited
Uganda sample
years to
5 years.
2 Elewa and The effect of Random Effect BIG 4 and ROT have an insignificant Choice
Rasha (2019) audit quality on Model results impact on the ROA and ROE of the firm. of
firm proxies
performance for
audit
quality
and
location
.
3. Talat and The influence of OLS regression The findings of the panel data revealed that Limited

27
 Miam (2014) audit committee model the two characteristics of the audit scope
characteristics on committee, namely the size of the audit
a firm’s financial committee and the external audit
performance efficiency, had a clear and important
positive effect on ROA and Tobin's Q.
Two other factors, namely the
independence of the audit committee and
the activity of the AC, remain negligible,
along with most of the previous studies
carried out in different countries.
4. Usman and The impact of Multiple The results of the findings revealed that the Limited
Musa (2014) audit quality on regression scale of the auditor and the independence scope
financial analysis of the auditor had a substantial effect on and
performance of the financial success of the cement firms in environ
quoted firms in Nigeria. However, the independence of the ment
Nigeria auditor has greater impact on financial choice
performance than auditor size.
5 Loveday The influence of Pearson The results revealed a statistically Poor
(2017) audit quality Product substantially positive association between analytic
practices on Moment audit quality metrics (auditor freedom, al tool
financial Coefficient of professional preparation and expertise and and
reporting in Correlation and communication performance) and financial seconda
Nigeria, drawing stepwise reporting (measured in terms of reliability ry data
evidence from multiple of financial report). not
auditing firms regression consider
ed

6 Affes and The impact of Hausman test The findings of the analysis also revealed Limited
Smil (2016) the audit quality that the variables: the size of the audit firm, scope to
on that of the the sector-based specialization of the audit 2009
accounting firm, the co-audit and the size of the audit and
earnings. committee, increase the efficiency of the sample
accounting earnings. years to
5.
7. Olabisi, Relationship Descriptive The findings of the analysis revealed that Limited
Taofeek and between Audit Statistics, there was a substantial positive association scope to
Toluwalase Quality and Pearson between joint audit and earnings control, 2014
(2017) Earnings correlation which suggests that a shift from single and
Management in coefficient and audit to joint audit improves the environ
Nigerian listed simple pooled management of earnings. There was also a ment
deposit money OLS regression major negative association between audit choice
banks. analysis specialization and earnings management, adopted
which suggests that any unit increase in .
audit specialization lowers earnings
management. In addition, there was a
28
 major positive association between audit
independence and earnings control. There
was, however, an insignificant detrimental
association between audit tenure and
earnings management.
8 Baker, The impact of Multiple The results of the findings revealed that the Choice
Ahmad and audit quality on regression scale of the auditor and the discretion of of
Abdulsttar financial analysis the auditor had a substantial effect on the location
(2015) performance of financial success of the cement firms in and
quoted firms in Jordan. However, the independence of the limited
Jordan auditor has greater impact on financial scope
performance than the scale of the auditor.
9. Ilaboya and The impact of Multivariate The results showed that there was a Choice
Izien (2014) audit firms’ regression favorable relationship between company of
characteristics on technique size, board independence and audit location
audit quality efficiency, while there was a negative and
relationship between the independence of limited
the auditor, the size of the audit firm, the scope
length of the audit and the quality of the
audit.
10. Bello, Relationship OLS regression The findings of the analysis, after Choice
Ahmad and between internal model evaluating the direct association between of
Yusof (2017) audit quality the independent variables and the location
(IAQ) and dependent variable, showed that there are and
organizational substantial positive relationships between environ
performance the variables in the study, with the ment
with moderating exception of IAI with organizational and
variable of top efficiency. However, the outcome of the seconda
management moderating influence of top management ry data
support in the support in the relationship between was not
federal independent variables and organizational adopted
universities in performance has shown that IAI has a for data
Nigeria favorable and important relationship with instrum
organizational performance. The result ent
revealed a strong link between the
dimensions of IAQ and operational
efficiency and maximum performance in
Nigerian federal universities when the
internal audit standard dimensions are
functional.
11 Ohidoa and Firms’ Panel Least The study showed that the form of auditor, Other
Okun (2018) characteristics Square the firm size of the client, the factors
and audit fees in Regression sophistication of the client, the firm risk of in
Nigeria. the client and the discretion of the audit determi
committee had a substantial impact on nation
audit fees, while the profitability of the of audit
29
 firm had little effect on audit fees. quality
neglecte
d.
12. Asiriuwa, Audit committee Binary probit The results of the analysis found that the Audit
Edosa, attributes and regression composition of the audit team, the duration fees and
Uwuigbe and audit quality model of sessions, the amount of experience and tenure
Ranti (2018) with emphasis overall efficacy all have a favorable not
on the specific association with the efficiency of the audit. consider
requirements of However, their partnership was only ed
the 2011 SEC notable in scale and overall impact.
code
13. Rateb (2018) The effect of Linear The findings of the study found that the Choice
audit committee regression scale, freedom and gender composition of of
characteristics on model the audit committee had a major positive location
the company’s relationship with the success of the and
performance company, while the expertise and number limited
of meetings had an insignificant scope
correlation. The findings of the analysis
may be of use to managers and boards in
making reasonable decisions regarding the
features of the audit committee and the
corporate governance processes to increase
the efficiency of the organization.
14 Dauda The Chi Square The study showed that the practice of the Poor
(2015) effectiveness of statistical tool Audit Committee Characteristics relates to analytic
audit committee the effectiveness of the audit committees of al tool.
and as well deposit money banks in Nigeria, thus Others
explores the demonstrating the committee's tool like
relationship effectiveness in conducting its duties, the Hausma
between audit effectiveness of the audit committee does n effect
committee not generally enhance or otherwise and
effectiveness and improve the value of deposit money banks. OLS
the value of should
deposit money have
banks in Nigeria been
consider
ed
15. Agwor and Impact of audit Ordinary Least It was noticed that the scale of the Limited
Onukoga committee Square based committee was redundant due to the scope to
(2018) expertise and regression constancy of the data points, the frequency 2016
earnings of the meeting failed to measure the and also
management statistical importance at the 5% level, both
practices of although the association between the financia
quoted food & competence of the committee and the l and
beverages earnings management was not only nonfina
manufacturing relevant at the 5% level, but a negative ncial
30
 firms in Nigeria coefficient of 1,5 17 was observed. The sectors
firm size also yielded a positive coefficient was not
of 0.906. consider
ed
16 Mohamed The association Univariate and The independence of the audit committee; Choice
and Ragab between the multivariate the expertise of the members of the audit of
(2014) audit committee analyses committee; the meetings of the audit location
effectiveness, committee; and the consistency of the audit and
audit quality and had a strong negative correlation with limited
earnings budgetary accruals as a surrogate for scope.
management earnings control. On the other hand, no
practices of substantial association has been identified
Egyptian between the size of the audit committees
companies and the number of discretionary accruals.
17 Matoke and Audit Quality Multiple Linear Findings of the study indicated that the
Jane (2016) and Financial regression effect of audit quality on financial
Performance of performance is positive and significant and
Companies the greater the degree of an auditor’s
Listed in Nairobi independence, the greater the propensity of
Securities a firm making substantial net profit
Exchange margins. The impact of auditor size was
also positive and significant, although, its
impact was lesser that of auditor
independence.
Source: Author’s Compilation (2021)

2.5 Gap Literature

Prior studies like Elewa and Rasha (2019); Farouk and Musa (2014); Affes and Smii (2016);
Ado, Rashid, Umar and Lateef (2020); Chinedu, Nwoha and Udeh (2020); David, Uche and
Ngwa (2018) and Owolabi and Ayobami, (2020) as listed in the empirical review above have
been carried out on the impact of audit quality on performance and firm value in developed
countries for banking, manufacturing and oil and gas sector. However, the study of the impact of
audit quality on performance in developing countries like Nigeria and in both financial and
nonfinancial sectors has been uncommon, with very few research conducted on them. with
limited scope. This study tends to bridge this gap by studying the effect of audit quality on
financial performance of listed financial and nonfinancial firms in Nigeria.

2.6 Researcher’s Conceptual Framework

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 The model shows the relationship between the dependent and independent variables. The
dependent variable is financial performance measured by Tobin-Q, return on assets, and
Working capital ratio while independent variable is audit quality measured by Audit committee
competence, Audit committee independence, Audit Fees and Audit size.

INDEPENDENT VARIABLES DEPENDENT VARIABLE

AUDIT QUALITY FINANCIAL

PERFORMANCE

AUDIT H01
COMMITTEE
32 TOBIN-Q
COMPETENCE
 AUDIT H02
COMMITTEE RETURN ON
INDEPENDENCE ASSETS

WORKING
H03 CAPITAL
RATIO

AUDIT SIZE

MAIN OBJECTIVE/HYPOTHESIS

Figure 2.6.1: Researcher’s Conceptual Model (2021)

CHAPTER THREE

METHODOLOGY

This chapter gives the description of the methodology to be adopted in conducting this research.
This chapter discusses the details of the research design, study population, sample size and

33
 sampling techniques, validity and reliability of the instrument, data collection method and
statistical instrument to be employed in data analysis.

3.1 Research Design

Ex Post facto research design was employed for this study because it involves events which have
taken place already and since the data existence, there was no attempt to manipulate the
independent variable and its proxies suitable for the study.

3.2 Population of the Study

The population of study is the total set of elements on which the study is based. For this study,
the population of the study was made up of the One Hundred and Sixty-one (161) Nigerian listed
financial and nonfinancial institutions on the Nigerian Stock Exchange as at 31st December,
2019.

3.3 Sample Size and Technique

Out of the financial and non-financial institutions listed on the Nigerian Stock Exchange for this
study, five (5) financial institutions and five (5) nonfinancial institutions was selected as the
sample representatives of this study consisting of five deposit money banks and five
manufacturing companies and formed the results for the entire population. The sampling
technique that the study adopted was the convenience sampling technique selected because the
banking sector is the largest financial sector in the stock exchange market for the rendering of
financial services and manufacturing sector is the largest sub-sector in the non-financial sector
(Nigerian Stock Exchange, 2019). The banks are listed below:

Table 3.1: List of Deposit money banks selected for the study

S/N COMPANY

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1 Access Bank Plc.

2 Guaranty Trust bank Plc

3 WEMA bank Plc.

4 Zenith bank Plc

5 First bank. Plc

Source: Author Compilation (2021)

Table 3.2: List of manufacturing companies selected for the study

S/N COMPANY

1 Guinness Nigeria Plc.

2 PZ Cussons Nigeria Plc

3 Nestle Nigeria Plc.

4 Dangote Sugar Nig. Plc

5 Vita foam Nigeria Plc

Source: Author Compilation (2021)

3.4 Data Gathering Method

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The data used in this study was gathered, presented, and analyzed from secondary sources. The
secondary source for this analysis came from the annual reports of the companies that were
chosen as a sample for both financial and non-financial institutions between the year 2010-2019.

3.5 Research Instrument

The instrument used for this research was the use of annual reports and financial statement of the
selected sample size from 2010 to 2019.

3.6 Validity and Reliability of Data set

3.6.1 Validity of Research Instrument

The degree to which a metric accurately represents what it is attempting to measure is known as
validity. The researcher adopted the content validity, which refers to the extent to which a
measure represents all facets of a given construct. The validity of the source and data for this
research was established by the fact that only published and audited annual reports in compliance
with Nigerian Stock Exchange (NSE), International Financial Reporting Standards (IFRS) and
International Auditing Standard (ISA) as reported in the financial statements of listed firms was
used. These reports are published by independent auditors in line with the statutory requirement,
which carry with it a penalty if information contained therein are found to be materially
misstated. The data extracted was certified by the project supervisor and other experts in the
Department.

3.6.2 Reliability of Research Instrument

A research instrument's reliability is described as its ability to reliably measure what it claims to
measure. The information was gathered from publicly available financial statements that had
been audited by statutory external auditors. The auditors' audit professional opinion was accurate
and honest, and the financial regulators' acceptance of the audited financial statement gave the
data credibility. The company followed the requirements of CAMA 2019 (Section 401-404)
about independent auditors auditing the accounts.

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 3.7 Method of Data Analysis

To allow for trending, the data collected for this project work was first presented in a table. To
examine the effect of the independent variable on the dependent variable, the study used
descriptive statistics and Multiple Ordinary Least Square regression with the Hausman method as
the data analysis technique. The model's output was expressed in tables to help interpretation and
make it easier to draw conclusions and inferences from the data. The reason for its usage was
because of ease of usage and quick ability to understand the results obtained. Multiple Ordinary
Least Square regression using Hausman method was used to test the combined effect of the
independent variables on the dependent variable. The secondary data was analyzed using E-view
9.

3.8 Model Specification and Measurement of Variables

Table 3.3: Definitions of the Proxies used for Models Testing

Audit committee competence ACC Absolute number of audit committee members

having accounting or finance experience (Sattar,
Ahmed & Rashid, 2020)

Audit committee independence ACI Proportion of independent directors to total number

of directors on the audit committee (Elewa
& Rasha, 2019)

Audit Fees AUF Natural logarithm of audit fee paid by the client
(Loveday, 2017)

Audit size AUZ Company uses Big Four for audit ‘1’ and ‘0’ if
otherwise (Gabriel, Martin & Anaja, 2017)
Performance

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Tobin-Q TBQ Market capitalization divided by total assets
(Pandey, 2010)
Return on assets ROE Profit before tax divided by total assets (Olowe,
2011)

Working capital ratio ROCE Current assets divided by current liabilities (Olowe,
2011)
Model Specification

The relationship between audit quality proxied by audit committee competence, audit committee
independence, audit size and audit fees and financial performance measured by working capital
ratio, return on assets and Tobin-Q are correlated.

To evaluate

Y = f(X)

Y = Dependent variable (Financial Performance) (FPER)

X = Independent variable (Audit quality) (AUQ)

X and Y are broken down as follows

Y = (y1, y2, y3)

X = (x1, x2, x3, x4)

Where y1 = Tobin-Q (TBQ)

y2 = Return on assets (ROA)

y3 = Working capital ratio (WCE)

and x1 = Audit committee competence (ACC)

x2 = Audit committee independence (ACI)

x3 = Audit Fees (AUF)

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 x4 = Audit size (AUZ)

Regression Equation

TBQit = α0 +β1ACCit + β2ACIit + β3AUFit + β4AUZit + µit ……………................ (1)

ROAit = α0 +β1ACCit + β2ACIit + β3AUFit + β4AUZit + µit ……………................ (2)

WCEit = α0 +β1ACCit + β2ACIit + β3AUFit + β4AUZit + µit ……………................ (3)

PERit = α0 +β1ACCit + β2ACIit + β3AUFit + β4AUZit + µit ……………...........(4)

Where:

µ: Error term, which captures other explanatory variables not explicitly included in the model.

α0: Intercept

it: time coefficient i.e for the firm i in year t

39