Public Oversight and Audit Quality: Evidence from Public Oversight of Audit Firms in the Netherlands

Abstract:     
Using public and proprietary data of the Dutch public oversight body, we study the trade-off suggested by DeFond (2010) of expertise for independence associated with the shift from a peer review system to independent public oversight of audit firms. Specifically, we investigate the association between the audit firms’ inspection and peer review outcomes, and the audit clients’ accruals quality. Our results show that companies audited by an audit firm with a positive inspection outcome have lower abnormal accruals than companies audited by an audit firm with a negative inspection outcome. We find no significant association between the peer review outcomes for audit firms with public interest entities and the audit clients’ abnormal accruals. Furthermore, we find that the types of weaknesses identified by the public oversight body that are most able to discriminate audit quality are related to the design of the audit firm’s quality control system and independence. Overall, our study contributes to the emerging literature on the effectiveness of oversight of audit firms, and is one of the first that relates to a non-US setting.

working papers series