Audit Firm Reputational Consequences of Alleged Non-Accounting Misconduct by Clients: How Bargaining Power Temporarily Shifts Around Securities Litigation

AUDITING: A Journal of Practice & Theory, DOI: 10.2308/ajpt-52405, Forthcoming

Posted: 25 May 2016 Last revised: 8 Apr 2020

See all articles by Dain C. Donelson

Dain C. Donelson

University of Iowa

Matthew Ege

Texas A&M University - Department of Accounting

Justin Leiby

University of Illinois at Urbana-Champaign

Date Written: February 22, 2019

Abstract

This study examines how auditor-client bargaining power changes when misconduct unrelated to accounting, which we proxy for using non-accounting securities fraud lawsuits, is revealed at another client of the auditor. This type of misconduct can cause perceived reputational damage for the auditor that temporarily increases client bargaining power. In the year after suit filing, fees are lower for clients in the same city-industry office as the sued client, but are unchanged for clients of other auditors in the same city-industry, suggesting the effect is not due to economic distress. This effect is stronger (1) when suits are severe, likely because the negative information is more salient, and (2) when client bargaining power is stronger. Overall, these results provide evidence that reputation is important for U.S. audit firms. Further, the results also support the notion that reputation is susceptible to temporary damage from events beyond auditors’ control.

Keywords: Securities Litigation, Reputation, Audit Fees, Audit Pricing

JEL Classification: K22, M42, M49

Suggested Citation

Donelson, Dain C. and Ege, Matthew and Leiby, Justin, Audit Firm Reputational Consequences of Alleged Non-Accounting Misconduct by Clients: How Bargaining Power Temporarily Shifts Around Securities Litigation (February 22, 2019). AUDITING: A Journal of Practice & Theory, DOI: 10.2308/ajpt-52405, Forthcoming, Available at SSRN: https://ssrn.com/abstract=2783523 or http://dx.doi.org/10.2139/ssrn.2783523

Dain C. Donelson

University of Iowa ( email )

108 Pappajohn Business Building
Iowa City, 52242-1000
United States

Matthew Ege (Contact Author)

Texas A&M University - Department of Accounting ( email )

430 Wehner
College Station, TX 77843-4353
United States

Justin Leiby

University of Illinois at Urbana-Champaign ( email )

1206 S 6th St
Champaign, IL 61822
United States
2173007825 (Phone)

Here is the Coronavirus
related research on SSRN

Paper statistics

Abstract Views
1,732
PlumX Metrics