Auditor Resignation and Risk Factors

32 Pages Posted: 17 Mar 2015

See all articles by Al (Aloke) Ghosh

Al (Aloke) Ghosh

City University of New York (CUNY) - Baruch College

Charles Tang

Pace University - Lubin School of Business

Date Written: March 16, 2015

Abstract

Although auditor litigation risk is considered as a leading explanation for auditor resignations, audit risk, and business risk might also trigger resignations. Auditor litigation risk is defined as the risk of the auditor being involved in a lawsuit, audit risk is defined as the risk that the auditor expresses an inappropriate audit opinion when the financial statements are materially misstated, and, finally, business risk is defined as the risk associated with the client's survival and profitability. Because the three risk factors are not mutually exclusive, we examine their relevance and incremental importance using measures from the pre- and post-resignation periods. Using summary indices from the pre-resignation period, we find that all the three ex-ante risk indices are incrementally important for resignations, especially when the predecessor auditor is a Big 4 firm. Because the ex-ante risk factors are prone to measurement errors and are less likely to capture auditor’s proprietary information about the client, we analyze data from the post-resignation period when the auditor’s proprietary information is likely to become publicly known. We find that within a three-year period following an auditor’s resignation, clients are more likely to: (1) be involved in class-action lawsuits (ex-post litigation risk), (2) have internal control problems (ex-post audit risk), and (3) to be delisted from a national stock exchange (ex-post business risk). Our research demonstrates that auditors consider all three risk factors, and not just litigation risk, in resignation decisions.

Keywords: auditor resignations; litigation risk; audit risk; business risk

Suggested Citation

Ghosh, Al (Aloke) and Tang, Charles Ya B., Auditor Resignation and Risk Factors (March 16, 2015). Accounting Horizons, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2579150

Al (Aloke) Ghosh (Contact Author)

City University of New York (CUNY) - Baruch College ( email )

One Bernard Baruch Way
P.O. Box B12-225
New York, NY 10010
United States
646-312-3184 (Phone)
646-312-3161 (Fax)

Charles Ya B. Tang

Pace University - Lubin School of Business ( email )

1 Pace Plaza
New York, NY 10038-1502
United States

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