Effects of Framing on Auditor Decisions

Framing effects occur when an agent (e.g., a manager) constructs a description of some entity (e.g., a company) such that the way information is stated (framed) influences the decisions made by other agents (e.g., auditors, analysts, and investors). Auditors, in particular, are charged by society with evaluating and reporting on the fairness of the descriptions of a company (financial statements and related notes) constructed by its management. The financial statements, notes, and the auditor's report provide the financial markets with information on which to base investment and other business decisions. Although auditors have substantial incentives for detecting framing effects that “cover up” misleading financial information, detection is not always achieved. This project was designed as a field (case) study to investigate the cognitive representations used by expert and novice auditors in performing a simulated audit task to evaluate financial data from two actual audit cases in which framing effects were present and were not detected by auditors. The first case contained a deliberately created framing effect (management fraud); the second case contained a naturally occurring framing effect (financial statement error). Thinking-aloud comments given by three expert and three novice auditors were analyzed to determine the representations used in performing the simulated audit task of concurring partner review. In the fraud case, management had manipulated income so that all subjects initially generated a “growth company” representation that was incorrect. Subjects who interpreted cues configurally (i.e., as patterns) were able to construct an alternative representation (a company in decline) and detect the fraud. One novice and one expert who had experience in the industry represented by the fraud case did this. Expert and novice auditors without such experience did not. In the error case in which receivables were grossly overstated, none of the subjects had relevant industry experience. Experts generated a “collections” representation that focused attention on the material risk associated with the problem of collection of accounts receivable. These subjects detected the financial statement error. Novices generated a “collateral” representation that failed to detect the error in accounts receivable