Local Audit Firm Pricing Responses to Entry of the Big Four Accounting Firms into China

Abstract

The historical development and size of China’s audit market provides an opportunity to investigate important questions regarding the functioning of the market for audit services that are difficult, if not impossible, to test in other globally established markets. The purpose of this study is to examine the effect of the market entry of the Big Four accounting firms into China on audit fees charged by its local accounting firms. Audit market research has little to offer on local firm pricing responses to the entry of Big Four accounting firms in any market, mainly because in western countries such as Canada, England, and the United States, the Big Four accounting firms are the oldest firms operating in the market. In this paper we rely primarily on the incumbent pricing literature (Simon 2005; Geroski 1995) to assist us in developing our specific hypotheses and empirical tests. This paper examines whether local incumbent accounting firms cut prices in response to the Big Four entry. Using data from annual reports and audit reports for China’s listed companies from the years 1994 to 2008, this study shows that local incumbent firms cut prices post entry. This study also finds that, it were small- and medium-sized local audit firms that cut prices, and it were accounting firms located in regions with highly developed market and competition that cut prices, in response to entry.

Keywords: audit market, market entry, audit pricing, institutional environment, Big Four accounting firms

JEL Classification: M4