The Impact of Guanxi on
the Ethical Decision-Making
Process of Auditors –
An Exploratory Study on
Chinese CPAs in Hong Kong1
ABSTRACT. Using professional accountants as
respondents in Hong Kong, this study strives to
develop a model to depict the effect of ethical rea-
soning on the relationships between guanxi and
auditors; behaviour in an audit conflict situation. The
results of the study found that (1) there is a signifi-
cant relationship between an auditor’s ethical judge-
ment and one’s moral cognitive development; (2)
there is a relationship between an auditor’s ethical
judgement and the existence of guanxi; and (3) the
impact of guanxi on an auditor’s judgement is
depending on the level of ethical reasoning.
Introduction
Professional ethics is more than just instrumental
to the maintenance of a moral, ethical and honest
image among the public. This is basically the
only way which professional bodies can ensure
the empowered trust from the society can be
upheld. The maintenance of high professional
ethical standards relies on an understanding of the
moral reasoning process. This reasoning process
forms part of the entire moral consciousness of
an individual’s belief system and from which
decision is made when an individual is facing
difficult dilemmas. In this research, this moral
reasoning process of professional accountants is
investigated by utilising the theory of ethical
Alan Au is the Strand Leader in Marketing at the Open
University of Hong Kong.
Danny Wong is the Vice President (Academic) of the Open
University of Hong Kong.
Journal of Business Ethics 28: 87–93, 2000.
© 2000 Kluwer Academic Publishers. Printed in the Netherlands.
Alan K. M. Au
Danny S. N. Wong
development. In addition, the influence of
guanxi is included as the individual differences
variable and is hypothesised to have an interac-
tion with the ethical reasoning process; hence,
influencing individual behaviour in an ethical
dilemma.
Ethical reasoning research in the
accounting profession
A wide range of ethical decision making models
can be found in the literature (Dubinsky and
Loken, 1989; Ferrell and Gresham, 1985; Ferrell
et al., 1989; Hunt and Vitell, 1986; Jones, 1991;
and Trevino, 1986.) One common feature of
these models is the incorporation of the cogni-
tive moral development process into their theo-
retical frameworks. As represented by the works
of Jones (1991) and Ferrel et al. (1989), these
models suggest that the ethical decision-making
is a four-stage process: awareness, cognition, eval-
uation and intention. Based on these models, it
is argued that differences in ethical behaviours
are affected by the kind of moral thinkings
advanced through the first three stages of the
moral development process.
In addition, a volume of prior research has
also covered the underlying ethical reasoning
processes of professional accountants in practice.
In general, findings of these studies suggested that
(1) professional accountants have not reached
their potential for higher levels of ethical rea-
soning (Armstrong, 1987, 1993; Lampe and Finn,
88 Alan K. M. Au and Danny S. N. Wong
1992; Ponemon, 1990, 1992a; Shaub, 1989,
1994); and (2) ethical reasoning could be a major
determinant of professional judgement (Arnold
and Ponemon, 1991; Peonmon, 1990, 1992a,
1992b; Ponemon and Gabhart, 1990; and Tsui,
1996) as well as unethical behaviour (Ponemon,
1992b).
However, some authors (Pratt, 1980; Gul,
1984; Tsui, 1996) have argued that simply by
considering the cognitive development impact on
the ethical reasoning process may be inadequate
since ethical decision-making behaviour cannot
be just predicted by an understanding of the
cognitive process and other “. . . individual and
situational variables [can] interact with the
cognitive components to determine how an
individual is likely to behave in response to an
ethical dilemma” (Trevino, 1986, p. 602). Hence,
the focus of this research is to investigate the
impact of guanxi, as an individual variable, on
auditors’ professional judgement.
What is guanxi?
Guanxi is closely related to the Confucian doc-
trines which stress the ties of kinship and close
personal relationships. In business terms, guanxi
or personal connection can be seen as the man-
ifestation of group orientation through which
interpersonal associations can replace formal
organisational structure (Boisot, 1986; Coleman,
1993; Putnam, 1993; Walder, 1986). The impor-
tance of guanxi over formal business relationships
can be illustrated through the conclusion of
business contracts in Chinese communities. In
Chinese business communities, business contracts
may be specified in legal terms but the imple-
mentation of them can be based on trust. This
is supported by a study conducted by Kao (1996)
which indicated that guanxi is the pre-requisite
for the conclusion of a contract in Taiwan. In
addition, many studies (Alston 1989; Hall and
Xu, 1990; Leung and Yeung, 1995; Nee, 1992,
1989; Putnam, 1993; Redding, 1990; Xin and
Pearce, 1996; Yang, 1994) also stressed the
importance of guanxi in the Chinese business
environment. If the Chinese uses guanxi as a
substitute for formal structural support, the
influence of guanxi on the ethical reasoning
process will be a very interesting topic to study.
Since no serious research has looked into the
influence of guanxi in the ethical decision-
making process, this study is designed to fill in
this research gap. As an exploratory study, the
scope of this study is limited to only investigate
the impact of guanxi on the moral decision
making process of Chinese professional accoun-
tants in Hong Kong when they are confronted
with an ethical dilemma.
Statement of hypothesis
The most important question this study strives
to answer is the effect of ethical reasoning on
the relationships between guanxi and auditors’
behaviour in an audit conflict situation. This
study hypotheses that auditor’s behaviour in an
audit conflict situation will be influenced by the
existence of guanxi in the Chinese culture. In
addition, this relationship between guanxi and
auditors’ behaviour is also hypothesised to be
depending on the level of cognitive moral devel-
opment of the auditors. Besides, since the rela-
tionship between cognitive moral development
and the behaviour of an auditor has been sup-
ported by previous research, as manifested in the
earlier section, this study also provides further
evidence to the validity of this relationship. The
model is depicted in Figure 1 below.
Hence, based on this model, the following
three hypotheses are tested:
Figure 1. The effect of ethical reasoning and guanxi
on ethical judgement.
 Ethical Decision-Making Process of Auditors
H1: There is no significant relationship
between an auditor’s ethical judgement
and one’s moral cognitive development.
H2: There is no significant relationship
between an auditor’s ethical judgement
and the existence of guanxi.
H3: The impact of guanxi on an auditor’s
judgement is depending on the level of
ethical reasoning.
Research methods
Subjects in this research are professional accoun-
tants in public practice in Hong Kong. The
sample size is 70. Since the subjects are required
to make decisions on an auditor-client conflict
situation, only experienced auditors are invited
to participate in this research. After consultation
with 3 partners of one of the Big Six professional
accountancy firms in Hong Kong, it is established
that auditors with 3 years of audit experience
may be required to face auditor-client conflict
situations. Hence, the selection criterion in term
of audit experience is set at 3 years or more.
Convenience sampling method is adopted to
select the sample for this survey. The use of non-
probabilistic method in this research is because
of the difficulties involve in selecting the subjects
by random sampling. The main difficulty is arisen
from the time required to complete the ques-
tionnaire. It is estimated that the entire research
instrument required subjects to spend approxi-
mately 40 minutes to finish the exercise.
Research instruments
A questionnaire is developed to collect the
required information for this study. The ques-
tionnaire is divided into four parts. The first part
is the introduction in which instructions to fill
out the questionnaires together with illustrations
are provided to the respondents.
The second part is related to the measurement
of the level of the cognitive moral development
of the subjects. The Defining Issues Test (DIT)
developed by Rest (1979, 1986) is adopted to
provide such a measurement.
89
The third part of the questionnaire is designed
to capture the respondent’s response on an ethical
dilemma involving guanxi and the professional
integrity of an auditor. This part of the ques-
tionnaire is developed to identify and examine
the role of guanxi in the decision-making process
of auditors. The auditor’s response to the audit
conflict situation is assessed through a scenario.
The purpose of the scenario is to investigate the
ability of the respondents to resist the temptation
to help a good friend when it requires a viola-
tion of the profession’s code of conducts. In
particular, the respondents are presented with a
moral dilemma relating to their professional
integrity in maintaining client confidentiality and
their personal responsibility to a close friend. In
this case, the auditor’s close and long-time friend
who has help the auditor and the auditor’s family
tremendously for many years asks the auditor for
a professional advice on a major investment on
a company which the auditor has just completed
a statutory audit. This close friend has the
majority of his personal wealth invested in this
company and does not have a healthy financial
position. In addition, the auditor also knows
that the company is, in fact, in deep financial
troubles.
The fourth part of the questionnaire is devised
to capture the respondent’s response on an
auditor-client conflict situation. The author’s
response to the audit conflict situation is, again,
assessed through a scenario. The purpose of the
scenario is to investigate the ability of the respon-
dents to resist pressure from the client in these
conflicts situations. In this case, the respondents
are presented with a moral dilemma relating to
their professional integrity in maintaining client
confidentiality and their social responsibility as a
citizen. In this case, the auditor overheard a con-
versation between the senior management of
a construction equipment company that their
equipment, though complied with the govern-
ment’s safety standards, has a defect in it.
However, no hard evidence is detected during
the normal course of audit. This auditor is also
auditing another company which has concluded
a substantial contract with this construction
equipment company. The auditor is faced with
a dilemma in whether such information obtained
90 Alan K. M. Au and Danny S. N. Wong
from the first client should be disclosed to the
second client.
In both scenarios, the respondents are required
to role play as the auditor of the company
described in the case and are asked to explicate
their perceptions on a range of issues which
they could have faced in discharging their daily
responsibilities as auditors. Their perception is
measured along a eight point semantic scale.
Research procedures
After conducting the procedure for checking the
internal consistency of the DIT instrument, 12
questionnaires are discarded; thereby leaving only
58 usable questionnaires. Multiple regression is
used to analyse the data. Because of the need
to investigate the two-way interaction effects
between the ethical reasoning and guanxi vari-
ables, a multiplicative model is adopted. The fol-
lowing multiple regression equation is employed
to analyse the data:
Y = α + β 1X 1 + β 2X 2 + β 3X 1X 2 (1)
Where Y = auditors’ judgement in ethical
dilemma
X1 = ethical reasoning
X2 = effects of guanxi
X1X2 = interaction term (ethical rea-
soning X effect of guanxi)
The interaction variable in the regression
equation is created to determine the cross-
product effect occurring between the indepen-
dent variables on the dependent variable.
However, in order to ascertain the nature and
direction of the interaction, the partial derivative
of the multiple regression equation is obtained,
with the following equation depicting the rela-
tionship:
∂Y/∂X2 = β2 + β3X1 (2)
In solving this partial derivative equation, the
ethical reasoning variable is treated as the mod-
erator in the relationships between guanxi and
the auditors’ ethical judgement. In addition, the
point of inflection is calculated to determine at
which point in the scale of ethical reasoning, as
measured by the P score in the DIT, does a
change occurs between the guanxi variable and
the ethical judgement of auditors. The point of
reflection is obtained by solving Equation 2.
Findings and discussions
The results of the multiple regression analysis are
shown in Table I below.
The results, as depicted in Table I, suggest that
the equation is significant and all the coefficients
are significant at the 1% level. Hence, the results
indicate that the three hypotheses tested in this
study can be rejected at the 1% level.
In this respect, the results seem to have sug-
gested that there is a significant relationship
between an auditor’s ethical judgement and one’s
moral cognitive development. The sign of the
regression is negative. A further investigation into
the design of the questionnaire reveals that this
direction is correct since a higher score in the
scenario investigating the auditor’s ethical judge-
ment implies that the auditor is making a less
ethical decision. On the other hand, a higher P
score suggests in higher level of cognitive moral
development. Hence, a negative relationship
insinuates that the higher the level of cognitive
moral development of the respondent, the more
ethical decision one will made when confronting
with an ethical dilemma.
Regarding the second hypothesis, the results
of the regression analysis also find that the
hypothesis can be rejected (p = 0.000). Hence,
the results suggest that there is a relationship
TABLE I
Results of the regression analysis
Variable Beta Sig. t-value
X1 (ethical reasoning) –0.7870 0.000
X2 (effects of guanxi) –3.7050 0.000
X1X2 (ethical reasoning
× effects of guanxi) –0.0577 0.001
R2 0.400
Multiple R 0.630
Sig. F-value 0.000
 Ethical Decision-Making Process of Auditors
between an auditor’s ethical judgement and the
existence of guanxi. Again, the sign of the coef-
ficient is negative. A further detailed analysis into
the responses indicated that the negative direc-
tion only implies the existence of a one-way
relationship between guanxi and auditors’ judge-
ment. As mentioned earlier, a higher score on
the auditors’ judgement means a less profession-
ally accepted (that is, ethical) judgement. In the
guanxi scenario, a higher score implies the exis-
tence of a guanxi effect on the respondents in
making a less ethical decision. A negative rela-
tionship in this case suggests that even respon-
dents who have behaved in a professionally
ethical manner (that is, those with a lower score)
will act in a professionally less acceptable behav-
iour under the influence of guanxi. After inves-
tigating the responses provided by the auditors,
it reveals that this negative relationship only exists
in this direction and not the other way round as
there is not a single case which shows a low score
on the guanxi scenario and a high score on the
other scenario. Hence, it can be concluded that
auditors’ professional judgement could be affect
by the existence of guanxi.
In order to test the third hypothesis, the inter-
action effects between guanxi and the level of
cognitive moral development on an auditor’s
judgement is investigated. Again, the regression
results confirmed that the hypothesis can be
rejected (p = 0.001). Hence, it can be concluded
that the impact of guanxi on an auditor’s judge-
ment is depending on the level of ethical rea-
soning. Since a significant interaction between
guanxi and ethical reasoning on auditors’ pro-
fessional judgement is found, the partial deriva-
tive equation, as exhibited in Equation 2, is
studied. The point of reflection calculated from
Equation 2 is 64.21. After conducting the regres-
sion analysis, Equation 2 can be written as:
∂Y/∂X2 = –0.37 + 0.0577X1 (3)
Therefore, the point of reflection calculated is
64.21 which means that at lower levels of ethical
reasoning, the relationship between guanxi and
the auditors’ professional behaviour is negative.
In other words, guanxi can affect the professional
judgement of an auditor under lower level of
ethical reasoning. However, this relationship
91
begins to change when the level of ethical rea-
soning, as measured by the P score of the DIT,
surpasses 64.21. At a higher level of ethical rea-
soning, the relationship between guanxi and the
auditors’ professional behaviour is positive, which
implies that the impact of guanxi on auditors’
professional behaviour may be minimal.
Conclusion
The findings of this research support the three
hypotheses of this study. The results confirm that
(1) there is a relationship between ethical judge-
ments and level of moral reasoning for auditors;
(2) there is a relationship between an auditor’s
ethical judgement and the existence of guanxi;
and (3) the impact of guanxi on an auditor’s
judgement is depending on the level of ethical
reasoning.
These findings have important implications for
the accounting profession as a whole. Since both
the existence of guanxi and the level of ethical
reasoning can influence an auditor’s professional
judgement, it is important that the profession
needs to investigate effective ethical interventions
for accountants with relatively low level of cog-
nitive moral development.
One possible area for future research is to
study the effects of an effective self-regulatory
system in the accounting profession through the
incorporation of the Code of Conduct to restrain
the behaviour of professional accountants with a
lower level of ethical reasoning.
Finally, just a note of caution that since
random sampling is not employed in the data col-
lection process, generalising of the results to
other subjects as well as other environments may
not be appropriate.
Note
1
The research is funded by the President’s Advisory
Committee on Research and Development.
92 Alan K. M. Au and Danny S. N. Wong
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School of Business and Administration,
The Open University of Hong Kong,
Homantin, Kowloon,
Hong Kong