The Effect of Audit Report Failures on Audit Partner Reputation

Abstract

This study examines whether audit partners suffer a reputation penalty following a going-concern opinion (GCO) reporting failure, either a Type I or a Type II error. A Type I error occurs when a partner issues a GCO to a client that does not go bankrupt in the next year, while a Type II error occurs when a partner fails to issue a GCO to a client that goes bankrupt in the following year. Using a sample of Taiwanese public companies in the period 1998–2016, we observe that the audit partners who have committed a GCO Type II error are more likely to lose other clients not involved in the GCO failure. More importantly, the audit partners suffer a decrease in the market share. In contrast, we do not observe a GCO Type I error triggers other clients to dismiss the partner or the loss of the partner’s market share. Overall, audit partners who committed a GCO Type II error suffer a reputation penalty by losing clients.

Keywords: Audit report failure, Type I error, Type II error, reputation penalty, going-concern opinion

JEL Classification: M42