The Choice of Joint-Auditors and Earnings Quality: Evidence from French Listed Companies

Abstract

In France, every listed company is legally required to hire two auditors performing together the audit. Joint-auditing, initially instituted to allow a dual control, provides a unique and rich setting to study the consequences of the choice of auditors. It is generally assumed that audit market is segmented into at least two categories, large (Big 4) and small (non-Big 4) auditors, and that large audit firms are perceived to provide higher quality audits. Consistently to these assumptions, we hypothesize that financial reporting by companies audited by two Big 4 audit firms is of higher quality than companies audited by one Big 4 and one non-Big 4 or by two non-Big 4. Quality is operationalized using Basu's (1997) measure of conservatism, an important attribute of reporting quality.

We test our hypothesis on a sample of 177 French listed companies on 31 December 2003. We regress earnings on stock returns and type of auditors. The result provides evidence that, contrary to our hypothesis, the presence of two Big 4 is associated with lower reporting quality. This surprising result can be explained by the fact that the interaction between two Big 4 audit firms is likely to be less productive in terms of corporate governance than the interaction between a Big 4 and a non-Big 4. When two Big 4 audit firms, applying comparable methodologies and incurring comparable reputation risk, work together, they would be more likely to rely on each other and, consequently, would have fewer incentives to provide maximum effort.

Keywords: audit quality, earnings quality, conservatism, joint-auditing