Fair Value and Audit Fees

Abstract:     
This paper investigates the effect of fair value reporting and its attributes on audit fees. We use as our primary sample the European real estate industry around mandatory IFRS adoption (under which reporting of property fair values becomes compulsory), due to its unique operating and reporting characteristics. We document lower audit fees for firms reporting property assets at fair value relative to those employing depreciated cost ― a difference that appears driven (in part) by impairment tests that occur only under depreciated cost. We further find that audit fees are decreasing in firm’s exposure to fair value, and increasing both in the complexity of the fair value estimation and for recognition (versus only disclosure) of fair values. We corroborate our findings in two alternative settings: contrasting UK and US real estate firms; and using UK investment trusts. Overall, these results complement prior research documenting that fair values can reduce information asymmetries by suggesting they can also lead to lower monitoring costs. However, any reductions in audit fees will vary with salient characteristics of the fair value reporting, including the difficulty to measure and the treatment within the financial statements.

Number of Pages in PDF File: 44

Keywords: fair value, audit fees, audit pricing, real estate industry, IFRS

JEL Classification: M41, M42

working papers series