Quality of Financial Statements: Are Litigation Risk and Audit Quality the Determining Factors?

The purpose of this research is to examine the effect of litigation risk on the quality of financial statements as moderated by audit quality. The study focuses on financial statement quality by determining litigation risk. Using descriptive statistics and inferential method with a quantitative approach, this study using 55 manufacturing company's data which listed the Indonesia Stock Exchange. The results showed that litigation risk does not affect the quality of financial statements, audit quality has a significant effect on the quality of financial statements, and litigation risk to the quality of financial statements that are moderated by audit quality is declared not weakening. The results of this study contribute to stake-holders in analyzing the quality of corporate financial statements measuring by litigation risk.


Introduction
Currently, the fourth industrial revolution has led to the ease of use of information technology that makes transactions easier for an entity or organization to make transactions, both payments, and others. This causes business complexity to be higher, which allows companies to experience high risks of lawsuits due to failures in the company's business processes or the delivery of inappropriate information. Based on the findings of cases globally 2018, it was found that most cases of fraud occurred in misuse of assets (89%) which caused a median loss of USD 114,000. Second, corruption (38%) with a median loss of USD 250,000, and third is financial statement fraud (10%) with the largest loss, namely at a median of USD 800,000 (The Association of Certified Fraud Examiners (ACFE) (2018) although it has the smallest percentage of cases than other frauds but results in the largest loss. So that the possibility of fraud in financial reports results in poor quality financial reports.
Information in financial reports in the form of a description of the company's activities is used as useful information for management to measure the achievements that have been produced by the company. The information used by management is quality information that has characteristics that are understandable, relevant, reliable, and comparable (Ikatan Akuntan Indonesia, 2009). High-quality financial reports can mitigate the problem of information asymmetry, thereby increasing the efficiency and effectiveness of resource allocation and utilization economics (Healy & Palepu, 2001).
Misaligned information can cause several risks including litigation risk. Litigation risk is the risk of lawsuits from interested parties who feel aggrieved by financial statement information that is inconsistent with company conditions or default. Litigation risk can arise as a result of management holding negative information and bad company news that will harm creditors and investors. The higher the risk of litigation, the lower the quality of the financial statements, which is indicated by the higher the value of discretionary accruals (Shinta & Shonhadji, 2017).
Other than that, the information doesn't tune that obtained between management and parties external can be overcome by doing quality audit process. A quality audit is an audit that has characteristics, namely human resources who are competent in their fields, have a lot of experience, and conduct training. One indicator that is trusted by the public regarding the audit quality of a Public Accounting Firm (KAP) is the reputation or big name of the KAP in the community. One of the first initiators of using the KAP measure as the main proxy in measuring audit quality is (DeAngelo, 1981). De Angelo's research has successfully revealed a positive relationship between audit quality and KAP size. Large public accounting firms have good audit procedures without the direct influence of market concentration (Sofia & Apandi, 2018). This research is supported by later research, such as (Lennox, 1999).
The higher the quality of the audit, the higher the quality of financial reports because audit quality will improve the credibility of financial reports, in other words, audit quality is part of the financial reporting quality component (DeFond & Zhang, 2014). From this statement, the researchers concluded that the existence of good audit quality will weaken and minimize the high risk of litigation on the quality of financial statements.
Previous research on the risk of litigation on the quality of financial reports has been done a lot, but research related to audit quality as a moderating variable is used as a renewal by researchers. Based on this background, the purpose of this research is to examine the effect of litigation risk on the quality of financial statements as moderated by audit quality was conducted at manufacturing companies listed on the Indonesia Stock Exchange 2017-2018.

Agency theory
Agency theory is one of the problems of separating ownership from the management of economic resources is a problem of agency relations (principal-agency problem) caused by information asymmetry because the principal does not have access to all information and cannot ascertain whether management actions are entirely in the best interest of the entity (Jensen & Meckling, 1976). Agency problems arise because of a conflict of interest between shareholders, bondholders, and managers because the maximum utility does not meet between them. Managers (agents) as company managers know more about the company's internal information and prospects in the future than the owners (principals).
For companies in the form of Limited Liability Companies (PT), especially for companies that have been registered in the capital market, there is often a separation between company managers and company owners. Also, for a company that is a limited liability company, the owner's responsibility is limited to the paid-up capital. This means that if the company goes bankrupt, the own capital (equity) that has been deposited by the company owners is likely to be lost, but the owner's wealth will not be included to cover these losses. For this contractual relationship to run smoothly, the owner will delegate decisionmaking authority to the agent and this relationship also needs to be regulated in a contract that usually uses the accounting numbers stated in the financial statements as the basis. In a good governance mechanism, an independent external audit of the entity is a "check and balance" function to mitigate information asymmetry (Jensen & Meckling, 1976;Daniri & Simatupang, 2009;Miettinen, 2008) and increase the transparency of financial statements.
Based on the basic assumption of human nature, managers as humans will act opportunistically, namely prioritizing their interests. Managers are obliged to present the disclosure of accounting information to the principal through financial reports. These financial reports are useful for internal and external users, especially because this group is in the most uncertain condition of information. So that financial reports are used as the main tool required to provide quality information.

Financial report quality
Financial reports are information relating to the financial position, performance, and changes in the financial position of a company which is useful for the majority of report users in making economic decisions (Ikatan Akuntan Indonesia, 2009). The financial statements also show what management has done or is accountable for based on the resources entrusted to it. To provide maximum use, management is not only required to produce financial reports but must be able to present high-quality financial reports.
The characteristics of the quality of financial statements as stated in the Statement of Financial Accounting Standards No. 1, among others: 1). It can be understood, namely that the information contained in the financial statements is easy for users to understand. 2). Relevant, namely information to meet user needs in the decision-making process. 3). Reliability, namely information has quality if it is free from misleading notions, material errors, and can be relied on by its users as a sincere or honest representation (faithful representation). 4). Can be compared, that is, users must be able to compare the company's financial statements between periods to identify trends (trends) in financial position and performance (Ikatan Akuntan Indonesia, 2009). High-quality reports can prevent the company from experiencing a condition where the investment made is lower than expected by the company and the quality of good financial reports can also serve as a tool to determine future investments (Sari & Suaryana, 2014).

The effect of litigation risk on the quality of financial statements
Litigation risk is the risk of lawsuits from interested parties who feel aggrieved by financial statement information that is inconsistent with company conditions or default. The results of (Shinta & Shonhadji, 2017) research show that there is an influence between litigation risk on the quality of financial statements, or in other words, evidence shows that the higher the litigation risk, the lower the quality of the financial statements, which is indicated by the higher the value of discretionary accruals. Research results by (Chung et al., 2013) The low value of litigation indicates that the company's activities have referred to existing standards so that the resulting report shows a reasonable condition of the company and can improve the efficiency of capital allocation. In contrast to Sari and Suaryana (2014) research, it is concluded that litigation risk has a significant positive effect on earnings management as measured by discretionary accruals. Based on this description, in this study the following hypothesis can be formulated: H1: Litigation risk hurts the quality of financial statements

The effect of audit quality on the quality of financial statements
Audit quality is very important because high audit quality will produce reliable financial reports as a basis for decision-making (DeAngelo, 1981). Opinion (DeFond and Zhang, 2014) that audit quality affects the quality of financial reports. Some of these studies support the results of research conducted by Defond & Zhang (2014), among others, (Palmer, 2008;Indriastuti, 2012;Nurjannah & Pratomo, 2014;Setyaningrum et al., 2013;Djanegara, 2017) states that audit quality has a positive effect on the quality of financial statements. This finding is the better the follow-up to improve the weaknesses in the accounting and reporting system, the better the quality of financial reporting will be. Among the independent variables, the greatest influence on the quality of financial reporting is shown by the X1 variable, the level of completion, or the follow-up of improvements to weaknesses in accounting and reporting controls. Several researchers state that audit quality has a positive effect on the quality of financial statements. Audit quality in this study is measured using the size of the Public Accounting Firm which is the reputation or big name of the Public Accounting Firm in society. One of the first initiators of using the Public Accounting Firm measure as the main proxy in measuring audit quality is (DeAngelo, 1981). 1 if the company is audited by the big four accounting firm, 0 if non-big four. Based on the results of previous research, the following hypothesis is produced: H2: Audit quality has a positive effect on the quality of financial reports.

The role of audit quality on litigation risk on the quality of financial statements
Research on litigation risk on the quality of financial reports is inconclusive. Several studies have stated that the risk of litigation can lead to high discretionary accruals and while other studies have stated that the quality of corporate financial reports is low (Chung et al., 2013;Shinta & Shonhadji, 2017) the higher the litigation risk, the lower the quality of the financial statements. Audit quality can affect the quality of financial statements (DeAngelo, 1981). So that the higher the quality of the audit carried out, 1 st ICEMAC 2020 105 the higher the quality of the financial statements produced. Big auditors have better auditing quality than non-big auditors (Lennox, 1999).
Based on the conclusions of these various studies, the researchers produced the following hypothesis: H3: Audit quality as a moderating variable can weaken the effect of litigation risk on the quality of financial reports

Material and Methods
Research Model This study uses a quantitative model using the measurement model. The regression model in this study consists of three models. To answer the first hypothesis, the regression model used is as follows: QFS = β_ο + β_1 LR + e While answering the second hypothesis, the regression model used is as follows: QFS = β_ο + β_1 AQ + e The third research model is used to answer the three hypotheses that the regression model is as follows: QFS = β_ο + β_1 LR + β_ (2)

Population, sample, and data analysis techniques
The object of this research is manufacturing companies listed on the Indonesia Stock Exchange in 2017-2018. The sample in this study amounted to 55 companies from a total population of 147 companies. The data collection technique in this study used a purposive sampling method. According to (Sekaran & Bougie, 2016) purposive sampling method sampling, in this case, is limited to certain types of people who can provide the desired information, whether certain types of people can provide the desired information or because they are the only ones who have it, or fulfill several criteria determined by the researcher, sometimes it is necessary to obtain information from specific target groups. The type of data used in this research is quantitative data. Sources of data in this study used secondary data obtained from the Indonesia Stock Exchange website, namely www.idx.co.id, and added with various information from the websites of each company.

Operational definition and variable measurement Quality of financial statements as dependent variable
The quality of financial statements is measured using Discretionary Accrual using the Modified Jones Model because this model is considered better than other models. The steps in calculating the amount of discretionary accrual are as follows: The value of discretionary accruals (DACC) is inversely proportional to the quality of financial reports. So, the higher the DACC value, the worse the quality of the company's financial reporting is.

Litigation risk as an independent variable
Litigation risk can arise as a result of management withholding negative information and bad company news that will harm creditors and investors. Litigation risk is measured using a comparison between company returns and market returns. The steps are as follows:

Audit quality as a moderating variable
One indicator that is trusted by the public regarding the audit quality of a Public Accounting Firm is the reputation or big name of the Public Accounting Firm in the community. One of the first initiators of using the Public Accounting Firm measure as the main proxy in measuring audit quality is (DeAngelo, 1981) if the company is audited by the big four accounting firm, 0 if non-big four.

Data analysis method
The data analysis method used in this study uses descriptive statistical analysis and inferential statistical tests using q-views, by fulfilling the classical assumption test to produce a linear unbiased estimator with minimum variance (Best Linear Unegro Estimator = BLUE). The tests that must be done are 1) Normality test using the Jarque-Bera test, 2) Heteroscedasticity using the Godfrey pagan brush test, 3) Multicollinearity by calculating the Tolerance and Variant Inflation Factor (VIF) values.
After performing the classical assumption test, then doing the regression analysis test for the panel data. Furthermore, the t-test hypothesis testing shows how far the influence of one independent variable individually on the dependent variable is. The test was carried out using a significance level of 0.05 (α = 5%), if t count <t table; therefore Ho is accepted and Ha is rejected, and if t> t table; then Ho was rejected and Ha was accepted (Ghozali, 2016) Furthermore, in the f statistical test, the significance level is set at 5% or 0.05 (α = 0.05), meaning that it is likely that the result of concluding has a profitability of 95% or an error tolerance of 5%. If f count <f table; therefore, Ho is accepted and Ha is rejected, and if f count> f table; then Ho was rejected and Ha was accepted.

Results
Descriptive statistical analysis is used to describe each variable used in the study through descriptive statistical calculations so that the mean, variant, maximum, minimum, and standard deviation values can be seen and explain or describe each of the variables involved in this study. The following are the results of descriptive statistics for each variable: 108 Based on the results of descriptive statistical tests, it is known that there are four research variables, namely: QFS, LR, AQ, CURR with a total sample size of 55 companies. The dependent variable in this study is the Quality of Financial Statements measured using the discretionary accrual model modified jones. The average (mean) value of all sample companies is -2.57. This proves that, on average, companies in the sample perform discretionary accruals, which indicate earnings management. The lowest value (minimum) -30.59 shows that the company's actions in managing earnings by reducing earnings, while the highest value (maximum) of earnings management is 32.24 which indicates that there is earnings management from the actual difference in accrual estimates that should be obtained.
The independent variable in this study is litigation risk which is measured using a comparison between company returns and market returns. It has a maximum value of corporate litigation risk of 12.02, a minimum value of -0.99, and a standard deviation of 2.00. The average value (mean) is -0.33 with a median of -0.09 which indicates that it tends to be high because it is far below the maximum value. These results illustrate that the risk of litigation in a financial report is still high. When a company has a high litigation risk, management will tend to hide or try to cover it up from interested parties if it has a high level of litigation risk.
Audit quality is a moderating variable that is measured using a dummy variable on the Public Accounting Firm size as the main proxy for measuring audit quality. 1 if the company is audited by the big four accounting firm, 0 if the non-big four is stated to have a maximum value of corporate litigation risk of 1.00, a minimum value of 0, and a standard deviation of 0.50. The average value (mean) is 0.42 or 42% with a median of 0 which indicates that companies that use the services of auditors from the nonbig four Public Accounting Firm tend to be more likely than companies that use the services of auditors from the big four Public Accounting Firm.

Litigation risk against the quality of financial statements
The results of testing hypothesis 1 through the Hausman test show that the best use in testing hypothesis 1 is the random effect method. From the results of tests that have been carried out using the e-views application, it is stated that the risk of litigation on the quality of financial reports does not affect. This can be seen from the probability value of 0.5901 which is greater than 0.05 and the regression coefficient value of -0.249519 is less 1 st ICEMAC 2020 109 than 0, it can be concluded that hypothesis 1 is rejected, that is, the risk of litigation does not have on the quality of financial statements. These results are different from previous research by (Shinta & Shonhadji, 2017) which states that the risk of litigation on the quality of financial reports affects because the higher the litigation risk, the lower the quality of financial reports, which is indicated by the higher the value of discretionary accruals. According to Sari and Suaryana, (2014) concluded that litigation risk has a significant positive effect on earnings management as measured by discretionary accruals. The test of audit quality on the quality of financial statements is stated to have a significant effect, this is evidenced by the profitability value of audit quality on the quality of financial statements of 0.00 below 0.05 with a regression coefficient value of 1.72 greater than 0, it can be concluded that hypothesis 2 is accepted. Audit quality has a significant effect on the quality of financial statements that the better the quality of the audit as measured by the size of the Public Accounting Firm, the better the quality of a company's financial statements. These results are by the results of previous researchers, namely (DeFond & Zhang, 2014) that audit quality affects the quality of financial reports. (Djanegara, 2017) states that audit quality has a positive effect on the quality of financial statements. This finding is the better the follow-up to improve the weaknesses in the accounting and reporting system, the better the quality of financial reporting will be. The test results regarding litigation risk on the quality of financial statements which are moderated by audit quality are not stated to be weakening. This is evidenced by the profitability value of 0.2098 greater than 0.05 with a coefficient value of 0.67 greater than 0, it can be concluded that hypothesis 3 is rejected because litigation risk does not affect the quality of financial reports, so even the moderated variables cannot weaken or strengthen the effect of litigation risk on the quality of financial statements. These results are not by the hypotheses of researchers who link audit quality research to the quality of financial statements (DeAngelo, 1981;Lennox, 1999) with the risk of litigation on the quality of financial reports (Chung et al., 2013;Shinta & Shonhadji, 2017).

Conclusion
Based on the results of testing the first hypothesis. The results of this study state that litigation risk does not affect the quality of financial reports because the profitability value exceeds the provisions. The higher the level of litigation risk experienced, it is not one of the reasons for the decline in the quality of the company's financial statements. The results of testing the second hypothesis, state that audit quality has a significant effect on the quality of financial statements that the better the audit quality as measured by the size of the Public Accounting Firm, the better the quality of a company's financial statements. The results of testing the third hypothesis stated that the risk of litigation on the quality of the financial statements which was moderated by the quality of the audit did not weaken, the profitability value exceeds the provisions because litigation risk does not affect the quality of financial reports, so even the moderated variables cannot weaken or strengthen the effect of litigation risk on the quality of financial statements. Although the resulting audit quality is good, it cannot weaken the effect of litigation risk on the quality of financial reports.

Limitations
This study has limitations in using samples from manufacturing companies in Indonesia only so that the results of the research cannot be used in general for other industries in Indonesia.

Suggestion
Based on the results and limitations of the research, the suggestions that can be given in further research are (1) Further research should use a sample other than manufacturing companies and be expanded to all sectors of the companies on the IDX (Indonesia Stock Exchange) so that the results of the study can describe the situation. in Indonesia.
(2) Further research is recommended to add other independent variables or consider other factors that are thought to affect the quality of financial statements.
(3) The variable of litigation risk uses the stock beta measurement tool. (4) Using other moderating variables so that it can support the influence of the independent variable on the dependent variable.
Thanks to the master of accounting science at the Indonesian Education University for encouraging research collaboration between students and lecturers.