Auditor Tenure and Audit Reporting Failures

Abstract

Recently, the SEC has called for research regarding the relationship between audit tenure and audit failures. In this study, we address this issue by examining prior audit reports for a sample of companies entering into bankruptcy during the period 1996-1998. We use a multivariate analysis to test for the association between the type of audit opinion issued on the financial statements immediately prior to bankruptcy and the length of auditor tenure.

Our results indicate that there were significantly more audit reporting failures in the earlier years of the auditor/client relationship than when auditors served these clients for longer tenures. The results do not support the arguments of those who propose mandatory auditor rotation and suggest that, contrary to the concerns expressed by the SEC, there is an inverse relationship between auditor tenure and audit reporting failures.

JEL Classification: M49, K22