Auditors are Known by the Companies They Keep
63 Pages Posted: 19 Feb 2019 Last revised: 15 Mar 2019
Date Written: March 8, 2019
We study the role of reputation in auditor-client matching. Using 1.2 million employment records from US broker-dealers, we find that broker-dealer clients of the same auditor have very similar financial adviser misconduct profiles. Our estimates indicate that variation in misconduct reputation is roughly half as important as variation in size in explaining matches and auditor preferences, not just client preferences, help explain these matching patterns. Moreover, auditors appear to screen clients based on misconduct unrelated to fraud risk or the financial reporting process. An auditor’s track record of accepting high misconduct clients predicts their new clients’ future misconduct. Additional results reveal that auditor-client reputation matching is widespread and generalizable to firms outside the investment industry. We conclude that heterogeneity in auditors’ reputation concerns relate to their client acceptance and continuance decisions, which in turn are an indicator of future client misconduct.
Keywords: auditing, audit market structure, broker-dealers, financial advisers, financial intermediation, assortative matching, financial misconduct, consumer finance, organizational culture
JEL Classification: M21, M41, M42, G24, G28, D14, D18
Suggested Citation: Suggested Citation