Auditor Quality and Debt Covenants

48 Pages Posted: 23 Jul 2015 Last revised: 28 Aug 2015

See all articles by Ashok Robin

Ashok Robin

Rochester Institute of Technology (RIT) - E. Philip Saunders College of Business

Qiang Wu

Rensselaer Polytechnic Institute (RPI) - Lally School of Management

Hao Zhang

Rochester Institute of Technology (RIT) - Saunders College of Business

Date Written: July 21, 2015

Abstract

This study examines the impact of auditor quality on debt covenants. We conjecture that high-quality auditors have two related effects on debt covenants: (i) they encourage fewer and less restrictive covenants by providing assurance to lenders at contract inception and, consequently, (ii) they ensure a lower probability of eventual covenant violations. Consistent with the conjectures, we find that auditor quality is negatively associated with the intensity and tightness of covenants when debt contracts are initiated. Additionally, we find that auditor quality is negatively associated with the likelihood of covenant violations. In an ancillary test, we provide evidence that high-quality auditors mitigate the detrimental effect of covenant violations on the cost of borrowing. Together, these findings highlight the important role of auditors in debt contracting.

Keywords: Debt covenants; Auditor quality; Covenant violations

JEL Classification: G32; M42

Suggested Citation

Robin, Ashok and Wu, Qiang and Zhang, Hao, Auditor Quality and Debt Covenants (July 21, 2015). Contemporary Accounting Research, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2634273 or http://dx.doi.org/10.2139/ssrn.2634273

Ashok Robin

Rochester Institute of Technology (RIT) - E. Philip Saunders College of Business ( email )

105 Lomb Memorial Dr.
Rochester, NY 14623
United States

Qiang Wu (Contact Author)

Rensselaer Polytechnic Institute (RPI) - Lally School of Management ( email )

110 8th St
Troy, NY 12180
United States
518-276-3338 (Phone)
518-276-8661 (Fax)

Hao Zhang

Rochester Institute of Technology (RIT) - Saunders College of Business ( email )

105 Lomb Memorial Dr.
Rochester, NY 14623
United States

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