The influence of financial reporting quality and audit quality on investment efficiency. Evidence from Pakistan

• Pages: 600-614
• Date: 07 October 2019
• Published date: 07 October 2019
• DOI: https://doi.org/10.1108/IJAIM-08-2018-0097
• Author: Faisal Shahzad,Ijaz Ur Rehman,Waqas Hanif,Ghazanfar Ali Asim,Mushahid Hussain Baig

The influence of financial

reporting quality and audit quality

on investment efficiency

Evidence from Pakistan

Faisal Shahzad

Department of Management Sciences, COMSATS University Islamabad,

Attock, Pakistan

Ijaz Ur Rehman

College of Business Administration, Al Falah University, Dubai, UAE, and

Waqas Hanif,Ghazanfar Ali Asim and Mushahid Hussain Baig

Department of Management Sciences, COMSATS University Islamabad,

Attock, Pakistan

Abstract

Purpose –This study aims to empirically investigate the effect of financial reporting quality (FRQ) and

audit quality (AQ) on the investment efficiency (IE) for the firms listed on the Pakistan Stock Exchange

during the period2007-2014.

Design/methodology –The authors use pooled ordinaryleast squares (OLS) regression which cluster at

the firm and year level to test the hypotheses. For sensitivity check, the authors also account for reverse

causality and cross-sectionaldependence by using the GMM and FGLS regression methods. Furthermore,the

authors built their theoretical arguments based on alignment hypothesis of the agencytheory and resource-

based view of the firm.

Findings –The findings suggest that higher FRQ and AQ are associatedwith higher IE. The results for

these particular estimates are robust when tested using alternative estimation techniques. Overall, the

outcomes of this study are in line with the arguments presented by the alignment hypothesisof the agency

theory andresource-based view of the firm.

Practical implications –This study is fruitfulfor policymakers’and investors. This study finds that the

audit done by the Big 4 also reduces the information gap and, thus, reduces the moral hazardand adverse

selectionproblems, thereby enhancing the IE.

Originality –The authors extend the debate on determinates of IE and highlight two monitoring

mechanisms: FRQ and AQ. The authorsfurther extend the literature on the economic consequences of AQ in

terms of IE, as proposed by Francis(2011). For the first time, this study investigatesthe impact of AQ on IE in

a setting whereminority shareholder risk of exploitationis high relative to other markets in Asia.

Keywords Emerging markets, Investment efficiency, Financial reporting quality, Audit quality

Paper type Research paper

1. Introduction

A fundamental question in the financefield is “What determines investment decisions at the

firm level?”Under perfect market assumption, an investment decision is a function of

JEL classification –G31, M42

IJAIM

27,4

600

Received31 August 2018

Revised10 December 2018

Accepted15 January 2019

InternationalJournal of

Accounting& Information

Management

Vol.27 No. 4, 2019

pp. 600-614

© Emerald Publishing Limited

1834-7649

DOI 10.1108/IJAIM-08-2018-0097

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