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Auditing
Research
AQ Proxies
Output-based proxies
Auditor communication
E.g. GC modified audit opinion, which is client's
ability to continue as a going concern.
Limitation: issued to financially distressed firms, lose
generalizability; excessive conservatism.
Output-based proxies
Perception-based measures
E.g. ERC, Cost of Capital, Stock Market Reaction
Limitation: endogeneity
Input-based proxies
AQ Models
Problems:
Some control variables are correlated with I and R.
Omitted correlated variables
Client Competency
Corporate governance Strength
Specific Governance Mechanisms: IAF
Critique
Rely on input measures of AQ
Endogeneity
Competency
Expertise
Auditor Incentives
Regulation
Engagement Risk:
Reputation
Litigation
(Self-fulfilling prophecy?)
Material misstatements
Big N fewer restatements (weak evidence)
Auditor communication
Disentangle incentive effects from competency
FRQ
Lower DAC, timely management forecast, lower
forecast error, greater conservatism(?)
Perceptions of AQ
Larger ERC, higher analyst forecast accuracy
Auditor changes; IPO
Audit fees
Fee premium: higher AQ, monopoly pricing or risk
premium (which one?)
Auditor Competency
Competency
Incentive
Industry specialization (Big N auditors)
Motivation: increase fees and market share,
economies of scale
Greater knowledge of industry
Higher reputational capital, higher incentive
Measurement: industry market share
Approaches: audit quality proxies; market reaction
to auditor switches; fee premia
Self-selection problem
Distance between competitors
Geographic proximity
Auditor office size
Greater in-house expertise
Audit process
Materiality level; audit adjustments; audit partner
compensation
Critique
Future research