Acquirers' Abnormal Returns, Audit Firm Size, and the Small Auditor Clientele Effect

40 Pages Posted: 12 Jan 2004

See all articles by Henock Louis

Henock Louis

Pennsylvania State University - Smeal College of Business


I analyze the effect of auditor choice on acquirers' market values around merger announcements and the factors affecting the interaction between auditor size and the market reaction to the merger announcements. Surprisingly, I find that acquirers audited by the largest accounting firms significantly under-perform those audited by smaller firms at merger announcements. The results indicate that the clients of the major firms under-perform the clients of the smaller firms significantly more at merger announcements if the targets are privately-held companies. There is also some indication that the small audit firm effect is more pronounced as the likelihood that the auditors play a prominent advising role in the merger process increases. These effects are significantly stronger in cash acquisitions as opposed to stock swaps and are robust to controlling for the usual factors affecting the market reaction to merger announcements and potential self-selection biases. While the major auditing firms are usually assumed to offer better services than the smaller ones, the study suggests that small audit firms have a comparative advantage in serving their clientele. The study also has implications for the small audit firms' arguments for an exemption of their merger consulting activities from the provision of Section 201 of the Sarbanes-Oxley Act that prohibits auditing firms from providing clients "appraisals, valuations and fairness opinions."

Keywords: Auditing, merger, audit quality, auditor size, auditor clientele, private target, Sarbanes-Oxley

JEL Classification: G14, G34, G38, M41, M49

Suggested Citation

Louis, Henock, Acquirers' Abnormal Returns, Audit Firm Size, and the Small Auditor Clientele Effect. Available at SSRN: or

Henock Louis (Contact Author)

Pennsylvania State University - Smeal College of Business ( email )

University Park, PA 16802-3306
United States
814-865-4160 (Phone)
814-863-8393 (Fax)

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