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Determinants and Market Consequences of Auditor Dismissals after Accounting Restatements

The Accounting Review, Forthcoming

Posted: 7 Jan 2011 Last revised: 2 Sep 2015

Karen M. Hennes

University of Oklahoma - School of Accounting

Andrew J. Leone

University of Miami

Brian P. Miller

Indiana University - Kelley School of Business - Department of Accounting

Date Written: November 13, 2013

Abstract

This study examines the conditions under which financial restatements lead corporate boards to dismiss external auditors and how the market responds to those dismissal announcements. We find that auditors are more likely to be dismissed after more severe restatements but that the severity effect is primarily attributable to the dismissal of non-Big 4 auditors rather than Big 4 auditors. We also document that among corporations with Big 4 auditors, those that are larger and more complex operationally are less likely to dismiss their auditors. Combined, this evidence suggests that firms with higher switching costs and fewer replacement auditor choices are less likely to dismiss their auditors after a restatement, which is informative to the debates about the costs and benefits of mandatory auditor rotation and limited competition in the audit market. Additionally, we examine contemporaneous executive turnover and find evidence that boards view auditor dismissals as complementary rather than substitute responses to restatements. Finally, we investigate the market reaction to auditor dismissals after restatements. The market reaction to the dismissal is significantly more positive following more severe restatements (5.9%) relative to less severe restatements (0.6%) when the client engages a comparably sized auditor. This positive market reaction is consistent with firms restoring financial reporting credibility by replacing their auditors and highlights the important role that auditors play in the financial markets.

Keywords: Corporate Governance, Restatements, Auditing, Dismissals

JEL Classification: G30, M41, M51

Suggested Citation

Hennes, Karen M. and Leone, Andrew J. and Miller, Brian P., Determinants and Market Consequences of Auditor Dismissals after Accounting Restatements (November 13, 2013). The Accounting Review, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1735675 or http://dx.doi.org/10.2139/ssrn.1735675

Karen M. Hennes

University of Oklahoma - School of Accounting ( email )

Norman, OK 73019-4004
United States

Andrew J. Leone (Contact Author)

University of Miami ( email )

School of Business
Coral Gables, FL 33146
United States
305-284-3101 (Phone)

HOME PAGE: http://sbaleone.bus.miami.edu

Brian P. Miller

Indiana University - Kelley School of Business - Department of Accounting ( email )

1309 E. 10th Street
Bloomington, IN 47405
United States
812-855-2606 (Phone)

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