Do Auditors Accurately Predict Litigation and Reputation Consequences of Inaccurate Accounting Estimates?

To effectively manage audit risk, auditors must anticipate potential litigation and reputation consequences associated with inaccurate accounting estimates. Our paper examines whether auditors correctly anticipate these consequences. We provided 57 manager- and partner-level auditors with case facts from an auditor negligence lawsuit and asked them to predict the percent of juries that would return verdicts against the auditor. We compare auditors' predictions to the actual verdicts we observed when we provided the same set of case facts to 805 mock jurors who deliberated as part of 141 juries. Auditors overestimated the percent of jurors and juries that returned negligence verdicts, especially when audit quality was higher. We also report process measures that help explain why auditors overestimated the negative consequences associated with inaccurate estimates. These measures show that auditors underestimated jurors' willingness to attribute inaccurate estimates to situational factors and jurors' perceptions of audit quality. Finally, we examine auditors' predictions regarding the effect that news articles about the litigation would have on their reputation with the general public. Similar to our litigation results, auditors overestimated the negative impact the news articles have on both their own reputation and the reputation of auditors in general