Prediction versus Inducement and the Informational Efficiency of Going Concern Opinions

Abstract

We examine two distinct channels through which going concern opinions can be associated with the likelihood of bankruptcy: auditors have better access to information about their clients' bankruptcy risk and going concern opinions directly induce bankruptcies. Using a bivariate probit model that addresses omitted variable bias arising from auditors' additional information, we find support for both the information and inducement channels. The direct inducement effect of receiving a going concern opinion is a 0.84 percentage point increase in the probability of bankruptcy for firms that do not have a going concern opinion in the prior year. Despite the inducement effect acting as a "self-fulfilling" prophecy, going concern opinions do not correctly predict more bankruptcies than a statistical model based solely on observable data. This result suggests that auditors do not efficiently use information when generating going concern opinions.