Audit Pricing in Private Firms

Abstract

Prior research has examined audit pricing for publicly held firms and provided some evidence of a Big 8 premium in pricing. We investigate audit pricing among private firms for the first time, and we compare audit pricing for private and listed clients. The relatively great degree of dispersion in auditor choice (between Big 5 and non-Big 5 auditors) in our large sample of privately held audit clients allows us the opportunity to estimate the predicted auditor choice for each firm. We present evidence that when the auditor choice variable is separated into an expected and a surprise component, the expected component shows no evidence of a Big 5 premium while the surprise component bears such a premium in some cases. We suggest that when the choice variable is not separated into these components, the endogeneity of audit fees and audit attributes is likely to result in parameter identification and/or estimation bias problems, which prevents meaningful interpretation of variable coefficients. Based on the methodology applied, we conclude that the majority of Big 5 clients (large or small) do not pay a premium for their auditor choice, but only those clients making unexpected or surprising auditor choices. This evidence is inconsistent with the reputation and deep pockets arguments for the existence of a Big 5 premium.

JEL Classification: M49, L84