The Existence and Effect of Competition in the Audit Market: Evidence from the Bidding Process
44 Pages Posted: 23 Feb 2018 Last revised: 27 Oct 2018
Date Written: October 26, 2018
Prior research provides mixed evidence on whether sufficient audit market competition exists and whether competition impairs or improves audit quality. A major impediment of the prior literature has been the inability of researchers to observe the competitive bidding process. In this study, we use non-incumbent (i.e., competitor) auditor views of public company SEC filings to measure the competitive bidding process. We first validate that our measure of bidding captures competition by documenting that competitor auditors’ views of companies’ SEC filings significantly increase during the three months prior to an auditor change announcement. We then investigate the determinants of competitive bidding and the effect of competitive bidding on audit quality and fees. Consistent with concerns that market concentration impedes competition, we document that less bidding occurs in industry-concentrated markets and when incumbent auditors are either industry market share leaders or have a longer tenure with the client. However, contrary to conclusions in the prior literature, we find no evidence that local market concentration is associated with competitive bidding. We also find that, inconsistent with concerns that competitive pressure causes auditors to placate managers, competitive bidding is associated with an improvement in audit quality by incumbent auditors, as measured by the likelihood to subsequently restate the financial statements. Finally, as expected, we find that competitive bidding is associated with a subsequent reduction in audit fees.
Keywords: auditor competition, audit market concentration, audit quality, audit fees
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