“A Proposed Framework to Assess and Interpret the Role of Internal Audit in Mitigating Fraud Risk in Financial Reporting” “An Applied Study”

Abstract

The purpose of this research is to test the impact of the internal audit function (IAF), an increasingly common internal governance mechanism, on firm’s fraudulent financial reporting practices. Specifically, this research investigates the relationship between the quality of the IAF and abnormal accruals (as a proxy of fraud risk in financial reports) and whether the audit committee and the board of directors play a role in enhancing this relationship. Design/methodology/approach – This research uses data from financial reports and survey responses. Regression analysis was used to test the hypotheses. Findings – The research findings show an expected negative/inverse relationship between internal audit quality and abnormal accruals, this research shows that the association between internal audit quality and abnormal accruals is negative and in particular “Risk-based audit plans”, “Engagement Planning and Performance of Audit Work” and “Reporting by IA Department” are negatively and significantly associated with abnormal accruals. Next, when this research investigates whether audit committee quality affects the relationship between internal audit quality and abnormal accruals, the results suggest that internal audit quality and audit committee quality when incorporated that leads to lower level of fraudulent financial reporting and a better effect in facing fraud risks. Also, when this research investigates whether board quality affects the relationship between internal audit quality and abnormal accruals, the results suggest that internal audit quality and board of directors’ quality when incorporated that leads to lower levels of fraudulent financial reporting. The researcher can conclude that, if firms already have other strong internal