Are There Adverse Consequences of Mandatory Auditor Rotation? Evidence from the Italian Experience

39 Pages Posted: 14 Dec 2013 Last revised: 19 Mar 2017

See all articles by Mara Cameran

Mara Cameran

Bocconi University - Department of Accounting

Jere R. Francis

Maastricht University

Antonio Marra

Bocconi University - Department of Accounting

Angela Kate Pettinicchio

Bocconi University - Department of Accounting

Multiple version iconThere are 2 versions of this paper

Date Written: December 12, 2013

Abstract

Mandatory auditor rotation was recently proposed for the European Union and is also under consideration in the United States. There has been little research into either the benefits or costs of rotation in a true mandatory setting that could inform intelligent policy making. Our paper helps fill this gap by examining Italy where mandatory rotation of auditors has been required since 1975. We find that outgoing auditors do not shirk on effort (or quality), but final year fees are 7 percent higher than normal which may indicate opportunistic pricing. The fees of incoming auditors are discounted by 16 percent even though they have abnormally higher engagement hours in the first year (17 percent), which is suggestive of low balling. However, subsequent fees are abnormally higher and exceed the initial fee discount. Thus the costs of mandatory rotation are nontrivial. Higher costs could be acceptable if rotation improves audit quality, but we find evidence of the opposite. Namely, the quality of audited earnings is lower in the first three years following rotation, relative to later years of auditor tenure. Since rotation is costly and earnings quality improves with longer auditor tenure, the evidence from Italy does not support the case for mandatory rotation.

Keywords: auditor rotation, audit fees, earnings quality, audit market regulation

JEL Classification: K22, L51, L80, M40

Suggested Citation

Cameran, Mara and Francis, Jere R. and Marra, Antonio and Pettinicchio, Angela Kate, Are There Adverse Consequences of Mandatory Auditor Rotation? Evidence from the Italian Experience (December 12, 2013). Auditing: A Journal of Practice & Theory, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2367060 or http://dx.doi.org/10.2139/ssrn.2367060

Mara Cameran (Contact Author)

Bocconi University - Department of Accounting ( email )

Via Roentgen 1
Milan, 20136
Italy

Jere R. Francis

Maastricht University ( email )

P.O. Box 616
Maastricht, 6200 MD
Netherlands

Antonio Marra

Bocconi University - Department of Accounting ( email )

Via Roentgen 1
Milan, 20136
Italy

Angela Kate Pettinicchio

Bocconi University - Department of Accounting ( email )

Via Roentgen 1
Milan, 20136
Italy

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