An Analysis of Restatements Due to Errors and Auditor Changes by Fortune 500 Companies

Events leading to the breakup of Arthur Anderson and Co. included the failure of Enron and other evidence of financial reporting irregularities. Many of these irregularities involved restatement of financial statements due to error. During the last several years, numerous articles in the accounting literature and accounting press have chronicled such restatements and the often associated change in auditor. This paper analyzes restatements due to error and auditor changes made by Fortune 500 companies during 2001 and 2002 in order to assess whether restatements due to error lowered or raised income and whether companies with income-decreasing errors showed a greater propensity for changing auditors. The data in this study were taken from 8-K reports filed by Fortune 500 Companies in 2001 and 2002 and from a search of the Securities and Exchange Commission\u27s EDGAR database using the word restate and its derivatives. We searched for and analyzed restatements that were due to error. The income statement effects of these restatements were classified as income-decreasing or as non income-decreasing. We identified and confirmed two hypotheses related lo restatements. First, restatemenls generally lowered rather than raised income. Second. companies reporting restatements that materially reduced income were more likely to change auditors than companies with non income-decreasing errors. More importantly. this study extended prior research by showing that the magnitude, not simply the direction, of a restatement was important in explaining when a change in auditor was likely lo occur