Auditor size and audit quality

https://doi.org/10.1016/0165-4101(81)90002-1Get rights and content

Abstract

Regulators and small audit firms allege that audit firm size does not affect audit quality and therefore should be irrelevant in the selection of an auditor. Contrary to this view, the current paper argues that audit quality is not independent of audit firm size, even when auditors initially possesses identical technological capabilities. In particular, when incumbent auditors earn client-specific quasi-rents, auditors with a greater number of clients have ‘more to lose’ by failing to report a discovered breach in a particular client's records. This collateral aspect increases the audit quality supplied by larger audit firms. The implications for some recent recommendations of the AICPA Special Committee on Small and Medium Sized Firms are developed.

References (35)

  • L. DeAngelo

    Auditor independence, ‘low balling’, and disclosure regulation

    Journal of Accounting and Economics

    (1981)
  • G.A. Akerlof

    The market for ‘lemons’: Quality uncertainty and the market mechanism

    Quarterly Journal of Economics

    (1970)
  • A. Alchian et al.

    Production, information costs, and economic organization

    American Economic Review

    (1972)
  • American Institute of Certified Public Accountants

    Report, conclusions, and recommendations of the Commission on Auditors' Responsibilities

    (1978)
  • American Institute of Certified Public Accountants

    Report of the Special Committee on Small and Medium Sized Firms

    (1980)
  • H. Arnett et al.

    CPA firm viability

    (1979)
  • S. Baiman

    Discussion of auditing: Incentives and truthful reporting

    Studies on Auditing — Selections from the Research Opportunities in Auditing Program

    (1979)
  • Y. Barzel

    Some fallacies in the interpretation of information costs

    Journal of Law and Economics

    (1977)
  • Y. Barzel

    Measurement cost and the organization of markets

    (1980)
  • G. Becker

    Human capital

    (1975)
  • J. Bedingfield et al.

    Auditor changes — An examination

    Journal of Accountancy

    (1974)
  • G. Benston

    Accountants' integrity and financial reporting

    Financial Executive

    (1975)
  • G. Benston

    The market for public accounting services: Demand, supply, and regulation

    Accounting Journal

    (1980)
  • S. Bolton et al.

    How independent are the independent auditors?

    Financial Analysts' Journal

    (1979)
  • J. Burton et al.

    A study of auditor changes

    Journal of Accountancy

    (1967)
  • C. Carpenter et al.

    Displacement of auditors when clients go public

    Journal of Accountancy

    (1971)
  • R. Coase

    The nature of the firm

    Economica

    (1937)
  • Cited by (2862)

    • Retail shareholder activism and investment efficiency

      2024, International Review of Financial Analysis
    • Do international tax treaties govern financial report quality?

      2024, Research in International Business and Finance
    • Does opinion shopping impair auditor independence? Evidence from tax avoidance

      2024, Journal of Contemporary Accounting and Economics
    • The mandatory audit partner rotation policy and cost of debt

      2024, Journal of Accounting and Public Policy
    View all citing articles on Scopus

    The author wishes to express her gratitude to Y. Barzel, H. DeAngelo, W.L. Felix, W. Kinney, B. Klien, E. Noreen, E.M. Rice, R. Watts, J. Zimmerman, and the referee, M.C. Jensen.

    View full text