Question

In a 1993 article in Accounting and Business Research, Meier, Alam, and Pearson studied auditor lobbying on several proposed U.S. accounting standards that affect banks and savings and loan associations. As part of this study, the authors investigated auditors’ positions regarding proposed changes in accounting standards that would increase client firms’ reported earnings. It was hypothesized that auditors would favor such proposed changes because their clients’ managers would receive higher compensation (salary, bonuses, and so on) when client earnings were reported to be higher. The following table summarizes auditor and client positions (in favor or opposed) regarding proposed changes in accounting standards that would increase client firms’ reported earnings. Here the auditor and client positions are cross-classified versus the size of the client firm.

a) Auditor Positions

	Large Firms	Small Firms	Total
In Favor	19	124	143
Opposed	10	24	34
Total	29	148	177

(b) Client Positions

	Large Firms	Small Firms	Total
In Favor	15	117	132
Opposed	13	32	45
Total	28	149	177

(a) Test to determine whether auditor positions regarding earnings-increasing changes in accounting standards depend on the size of the client firm. Use α = .05. (Round your expected frequencies to 2 decimal places. Round your answer to 3 decimal places.)

2x2x = ; so (Click to select)Do not rejectReject H₀: independence for auditor positions regarding earnings-increasing changes.

(b) Test to determine whether client positions regarding earnings-increasing changes in accounting standards depend on the size of the client firm. Use α = .05. (Round your answer to 3 decimal places.)

2x2x = ; so (Click to select)RejectDo not reject H₀: independence for client positions regarding earnings-increasing changes.

(d) Does the relationship between position and the size of the client firm seem to be similar for both auditors and clients?

	Yes
	No

Answer 1

a) For Audit position:

Observed Frequencies
	Large firms	Small firms	Total
in favor	19	124	143
Opposed	10	24	34
Total	29	148	177
Expected Frequencies
	Large firms	Small firms	Total
in favor	29 * 143 / 177 = 23.43	148 * 143 / 177 = 119.57	143
Opposed	29 * 34 / 177 = 5.57	148 * 34 / 177 = 28.43	34
Total	29	148	177
	(fo-fe)²/fe
in favor	(19 - 23.43)²/23.43 = 0.8374	(124 - 119.57)²/119.57 = 0.1641
Opposed	(10 - 5.57)²/5.57 = 3.5219	(24 - 28.43)²/28.43 = 0.6901

Test statistic:

χ² = ∑ ((fo-fe)²/fe) = 5.214

df = (r-1)(c-1) = 1

p-value = CHISQ.DIST.RT(5.2135, 1) = 0.0224

Decision:

p-value < α, Reject the null hypothesis.

Reject H₀: independence for auditor positions regarding earnings-increasing changes.

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b) Clients position:

Observed Frequencies
	Large firms	Small firms	Total
in favor	15	117	132
Opposed	13	32	45
Total	28	149	177
Expected Frequencies
	Large firms	Small firms	Total
in favor	28 * 132 / 177 = 20.88	149 * 132 / 177 = 111.12	132
Opposed	28 * 45 / 177 = 7.12	149 * 45 / 177 = 37.88	45
Total	28	149	177
	(fo-fe)²/fe
in favor	(15 - 20.88)²/20.88 = 1.6565	(117 - 111.12)²/111.12 = 0.3113
Opposed	(13 - 7.12)²/7.12 = 4.8591	(32 - 37.88)²/37.88 = 0.9131

Test statistic:

χ² = ∑ ((fo-fe)²/fe) = 7.740

df = (r-1)(c-1) = 1

p-value:

p-value = CHISQ.DIST.RT(7.7401, 1) = 0.0054

Decision:

p-value < α, Reject the null hypothesis.

Reject H₀: independence for client positions regarding earnings-increasing changes.

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c) Yes, the relationship between position and the size of the client firm seem to be similar for both auditors and clients.