COMPONENT AUDITORS AND LENDERS’ PERCEPTION OF AUDIT QUALITY

Posted: 13 Jan 2020 Last revised: 14 May 2020

See all articles by Gopal V. Krishnan

Gopal V. Krishnan

Bentley University

Juan Mao

University of Texas at San Antonio - Department of Accounting

Jing Zhang

university of Colorado Denver

Date Written: May 13, 2020

Abstract

While non-U.S. auditors audit a significant proportion of U.S.-based clients, until recently, lenders were largely unaware of the involvement of component auditors since the U.S.-based lead auditor was not required to disclose information about participating auditors. Using the disclosure under Form AP mandated by the PCAOB, we find that the increase in cost of debt ranges from 15 basis points to 22 basis points when component auditors are used relative to engagements that do not involve component auditors. We also find that cost of debt is greater when the component auditor has GAAP-related audit deficiencies and fewer CPAs, face PCAOB disciplinary orders or more frequent inspection, and when the lead auditor and the component auditors are not from the same Big 4 audit networks. These findings are consistent with the notion that lenders associate lower audit quality and higher information risk with certain attributes of component auditors. Further, the component auditor’s superior local knowledge mitigates cost of debt for firms with high foreign operations. We also conduct an event study and find an adverse bond market reaction around the first-time disclosure of Form AP.

Keywords: component auditor; Form AP; cost of debt; audit quality; earnings persistence

Suggested Citation

Krishnan, Gopal and Mao, Juan and Zhang, Jing, COMPONENT AUDITORS AND LENDERS’ PERCEPTION OF AUDIT QUALITY (May 13, 2020). Available at SSRN: https://ssrn.com/abstract=3508923 or http://dx.doi.org/10.2139/ssrn.3508923

Gopal Krishnan

Bentley University ( email )

175 Forest Street
Waltham, MA 02452
United States
781-891-2477 (Phone)

Juan Mao

University of Texas at San Antonio - Department of Accounting ( email )

One UTSA Circle
San Antonio, TX 78249
United States
210-458-8305 (Phone)

Jing Zhang (Contact Author)

university of Colorado Denver ( email )

1475 Lawrence St
Denver, CO
Denver, CO 80202
United States

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