Do the Big 4 and the Second-Tier Firms Provide Audits of Similar Quality?

Posted: 25 Sep 2009 Last revised: 20 Nov 2010

See all articles by Jeff P. Boone

Jeff P. Boone

University of Texas at San Antonio - Department of Accounting

Inder K. Khurana

University of Missouri at Columbia - Robert J. Trulaske, Sr. College of Business

K. K. Raman

The University of Texas at San Antonio

Date Written: September 24, 2009

Abstract

In this paper, we examine audit quality for Big 4 and Second-tier auditors during 2003-06. We utilize the auditor’s propensity to issue a going concern audit report for distressed clients as a measure of audit quality. In addition, since the purpose of an audit is to improve financial reporting quality, we utilize abnormal accruals as an observable proxy for audit quality. Further, we utilize the client- and year-specific ex ante equity risk premium as a proxy for audit quality as perceived by investors. We control for auditor self-selection bias using the matched-pairs sample approach discussed by Francis and Lennox (2008). We find weak evidence that the Big 4 have a higher propensity to issue going concern audit opinions for distressed companies. However, the level of performance-adjusted abnormal accruals for Big 4 and Second-tier audit firm clients appears to be similar. With respect to investor perceptions, we find the client-specific ex ante equity risk premium to be lower for Big 4 clients than for Second-tier audit firm clients. Overall, our findings suggest little difference in actual audit quality but a more pronounced difference in perceived audit quality. Collectively, the evidence we provide informs the current discourse on audit quality, auditor choice, and the viability of Second-tier auditors as an alternative to the Big 4.

Keywords: Audit quality, Going concern audit opinions, Earnings management, Cost of equity

Suggested Citation

Boone, Jeff P. and Khurana, Inder and Raman, K. K., Do the Big 4 and the Second-Tier Firms Provide Audits of Similar Quality? (September 24, 2009). Journal of Accounting and Public Policy, Vol. 29, No. 4, pp. 330-352, July-August 2010. Available at SSRN: https://ssrn.com/abstract=1478202

Jeff P. Boone

University of Texas at San Antonio - Department of Accounting ( email )

One UTSA Circle
San Antonio, TX 78249
United States

Inder Khurana

University of Missouri at Columbia - Robert J. Trulaske, Sr. College of Business ( email )

331 Cornell Hall
Columbia, MO 65211
United States
573-882-3474 (Phone)
573-882-2437 (Fax)

K. K. Raman (Contact Author)

The University of Texas at San Antonio ( email )

One UTSA Circle
San Antonio, TX 78249
United States
210-458-8749 (Phone)

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