Auditor Information Spillovers and Company Operating Performance: Evidence from Targeted Auditor Switches

Abstract

In this study, I examine whether companies realize operational benefits from making "targeted auditor switches" (i.e., engaging a new auditor recently dismissed by a competitor company). While prior work provides evidence consistent with companies perceiving that auditor information spillovers are costly, there is sparse extant evidence as to whether auditors actually do transfer operational information across companies. I find that companies that switch to a competitor's former auditor realize significant subsequent improvements in operating performance and that the association between targeted auditor switches and improvements in operating performance varies predictably with several across-and within-market factors. In addition, I document systematic movement in local audit markets consistent with a recognition of the value of auditors' operational knowledge. Finally, I find that companies that make targeted switches pay a significant audit fee premium to the incoming auditor and that this premium does not appear to be attributable to these companies hiring higher-quality auditors. Collectively, my findings suggest that operational information can be transferred across companies via external auditors and that companies' concerns over sharing an auditor with a competitor are based on real information spillover costs.