The Impact of Ethical Leadership, the Internal Audit Function, and Moral Intensity on a Financial Reporting Decision

• Published in: Journal of business ethics 2012-09, Vol.109 (3), p.351-366
• Main Authors: Arel, Barbara, Beaudoin, Cathy A., Cianci, Anna M.
• Format: Article
• Language: English
• Subjects: Accountancy; Accountants; Accounting; Accounting ethics; Audit quality; Audits; Business; Business and Management; Business Ethics; Corporate governance; Decision making; Documentation; Education; Employees; Ethical behavior; Ethics; Executives; Financial management; Financial reporting; Internal auditing; Internal auditors; Internal audits; Leadership; Management; Managers; Moral judgment; Morality; Philosophy; Professional ethics; Professionals; Quality of Life Research; Studies; Work environment
• ISSN: 0167-4544; 1573-0697
• DOI: 10.1007/s10551-011-1133-1

Two elements of corporate governance—the strength of ethical executive leadership and the internal audit function (IAF hereafter)—provide guidance to accounting managers making decisions involving uncertainty. We examine the joint effect of these two factors, manipulated at two levels (strong, weak), in an experiment in which accounting professionals decide whether to book a questionable journal entry (i.e., a journal entry for which a reasonable business case can be made but there is no supporting documentation). We find that ethical leadership and the IAF interact to determine the likelihood that accountants book the entry. Specifically, accountants are less likely to book a questionable journal entry when there is a weak ethical leader and a strong IAF compared to all other conditions. In addition, we find that accountants question the appropriateness and ethicalness of the request to book an undocumented journal entry more in the weak ethical leader and strong IAF condition than in the other conditions. These results suggest that the IAF has a different impact on financial reporting decisions depending on the ethicalness of executive leadership and that a strong IAF may cause accountants to question the appropriateness and ethicalness of an undocumented journal entry when combined with weak ethical leadership. We also find that the interactive effect of ethical leadership and the IAF on an accountant's decision is fully mediated by his/her perception of the moral intensity of the issue. Thus, accountants, who perceive greater moral intensity associated with booking the entry, are less willing to do so.