Changes in Big N Auditors’ Client Selection and Retention Strategies Over Time
56 Pages Posted: 27 Dec 2018 Last revised: 18 Jan 2019
Date Written: January 17, 2019
We examine changes over time in Big N auditors’ client selection and retention strategies, by client size and risk segments. We particularly focus on the period from the mid-1990s to the early 2000s, characterized by dot-com boom, dot-com bust, and numerous tumultuous events that led to the demise of Enron and Arthur Andersen, and the passage of the Sarbanes-Oxley Act of 2002 (SOX). Prior studies document a steady growth in Big N’s market share leading up to dot-com boom, and a decline after the SOX implementation. However, the literature has missed the volatile period in between the dot-com boom and SOX implementation, a period we focus on. We find that at the peak of dot-com boom and the years of dot-com bust, both before SOX, the Big N shed en masse the smallest and riskiest clients, reversing their prior growth strategy. Our results suggest that the initial impetus for the about-face in Big N’s client selection and retention strategies at the dawn of the 21st century came from changes in the market conditions, not supply and demand shocks imposed by the demise of Arthur Andersen and the implementation of SOX, as concluded in the prior literature. The post-SOX adjustments were mere extensions of pre-SOX trends. As a result, smaller auditors carved a distinct market positioning by almost exclusively servicing the segment of smallest and riskiest clients, a segment that was dominated by Big N during the dot-com boom years. Our findings also shed light on the debate about Big N’s association with audit quality—we find evidence that the effect is highly correlated with Big N’s client screening criteria. The Big N effect turned positive, from being insignificant, and displayed a dramatic increase after Big N started dropping the smallest and riskiest clients, beginning from the late 1990s.
Keywords: Competitive Structure, Public Companies, Oligopoly, Big N Audit Firms, Audit Risks, Audit quality, Dotcom Boom and Bust
JEL Classification: M4, M41, M49
Suggested Citation: Suggested Citation