Under risk-based auditing, more (fewer) audit resources are allocated to accounts that are more (less) likely to be misstated. However, if auditors do not anticipate the strategic risk that arises when client managers anticipate auditors' risk-based resource allocations, undetected misstatements among ostensibly low-risk accounts could be more common than traditional risk assessment procedures suggest. Using a laboratory experiment, I find that participants assuming the auditor role in a stylized audit game do not naturally attune to strategic risks, but instead focus resources toward accounts with high non-strategic risk and away from ostensibly low-risk accounts. Manager-participants exploit these allocations by overriding the low-risk accounts more often than accounts with high non-strategic risk. However, auditor-participants who are asked to predict managers' expectations of, and responses to, audit resource allocations, devote additional resources to the low-risk accounts. These results are robust to the level of available audit resources.

We examine whether the effect of mandatory auditor rotation on audit quality depends on the mental frame auditors adopt in evaluating management representations. In practice, auditors can alternately frame their assessments of management representations in terms of their potential dishonesty (what we term skepticism) or potential honesty. Using psychology theory and a laboratory experiment, we predict and find that mandatory rotation improves audit quality when an auditor takes an honesty frame, but that this effect reverses when an auditor takes a skeptical frame. Thus, the benefit of using a skeptical frame occurs when auditors do not rotate, but requiring rotation can reduce audit effort for auditors using a skeptical frame. An implication of our study is that focusing auditors on a skeptical assessment frame rather than mandating auditor rotation may be a less costly way to reduce low-effort audits and aggressive reporting.