Narrative Disclosures, Firm Life Cycle, and Audit Fees
21 Pages Posted: 23 May 2020
Date Written: November 2019
This study examines the relationship between narrative disclosure properties in terms of readability, optimism, and ambiguity of annual reports and audit fees, and how the relationship changes across firms' various life‐cycle stages. Using 54,883 observations for the years from 2000 to 2016, we find that these textual disclosure properties have positive audit pricing consequences. We suggest that narrative disclosure properties play an important role in estimating audit risk, and thus in audit fees. We further posit that the audit fee consequences of these disclosure characteristics vary across different phases of a client firm's corporate life cycle. Though we observe that with a decrease in readability and an increase in optimism and ambiguity of disclosure language that audit fees increase in the introduction phase, a firm's entry to the growth phase moderates the influence of these narrative disclosure features on audit fees. However, the impact of these lexical features on audit fees increases as client firms switch (1) from the growth phase to the maturity phase and (2) from the maturity phase to the decline phase. Based on these findings, we argue that, when examining the audit fee implication for management's disclosure strategies, researchers should treat client firms as dynamic evolving entities.
Keywords: audit fees, firm life cycle, qualitative disclosure
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