The persistence in the association between section 404 material weaknesses and financial reporting quality

Emma Riikka Myllymäki*

*Corresponding author for this work

Research output: Contribution to journalArticleScientificpeer-review

19 Citations (Scopus)

Abstract

This study examines whether Sarbanes-Oxley (SOX) Section 404 material weakness (MW404) disclosures are predictive of future financial reporting quality. I find evidence that for companies with a history of MW404s, the likelihood of misstatements in financial information continues to be significantly higher for two years after the last MW404 report compared to companies without a history of reported MW404s. The magnitude of the effect decreases non-linearly with decreasing speed. The findings further imply that the reason for the misstatement incidences is the unacknowledged pervasiveness of control problems. In particular, it appears that in many cases, the future misstatements are unrelated to the MW types disclosed in the last MW404 report, suggesting that some MW types are unacknowledged and, hence, control problems are even more pervasive than what was identified. Overall, the findings of this study highlight the importance of discovering and disclosing material weaknesses in internal control over financial reporting.

Original languageEnglish
Pages (from-to)93-116
Number of pages24
JournalAUDITING: A JOURNAL OF PRACTICE AND THEORY
Volume33
Issue number1
DOIs
Publication statusPublished - Feb 2014
MoE publication typeA1 Journal article-refereed

Keywords

  • Financial reporting quality
  • Internal control remediation
  • Material weakness
  • Misstatement

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