Client-Based Measure of the Audit Office Reputation and Its Association with Audit Fees, Earnings Quality, and Client’s Market Value
Posted: 1 Apr 2014
Date Written: March 31, 2014
Following the findings from marketing and management literature on corporate reputation, we develop a new proxy to measure the audit office reputation and examine the impact of this measure on audit fees and audit quality. We argue that the presence of reputable clients and their tenure with the audit office is an unbiased and strong testimony for audit office reputation. Following this argument, we use the proximity of clients to the S&P 500 Index and Fortune’s List of Most Admired Companies, weighted by the tenure of the audit office-client relationship, to estimate our client-based audit office reputation measure (CBAR). For a sample of 3,233 audit firm clients we find that our measure of audit office reputation is positively associated with audit fees and audit quality (proxied by absolute discretionary accruals, meet-or-beat-earnings expectations, and restatements). We also show that the earnings of clients from audit offices with higher CBAR are valued higher, suggesting that the market perceives the reputation of such offices to be higher and the earnings of their clients to be more credible. This research is important since CBAR is a new and readily available measure of audit office quality that provides incremental explanatory power for audit fees and audit quality beyond previously available measures.
Keywords: Audit office reputation, client reputation, audit fees, audit quality, market value
JEL Classification: M41
Suggested Citation: Suggested Citation