Did the 2007 PCAOB Disciplinary Order against Deloitte Impose Actual Costs on the Firm or Improve Its Audit Quality?

Abstract

We examine whether the December 2007 PCAOB disciplinary order against Deloitte affected Deloitte's switching risk, audit fees, and audit quality relative to the other Big 4 firms over a three-year period following the censure. Our findings suggest that the PCAOB censure was associated with a decrease in Deloitte's ability to retain clients and attract new clients, and a decrease in Deloitte's audit fee growth rates. However, methodologies used in extant archival studies yield little or no evidence to suggest that Deloitte's audit quality was different from that of the other Big 4 firms during a three-year window either before or after the censure. Overall, our results suggest that the PCAOB censure imposed actual costs on Deloitte. Data Availability: All data are publicly available.

The Monitoring Effectiveness of Co‐opted Audit Committees

“…Thus, by using data from Audit Analytics, we exclude restatements due to changes in accounting principles, GAAP-to-GAAP changes, or changes in estimates. Following Hennes et al (2008) and Boone et al (2014), we exclude misstatements due to clerical errors, although our core evidence is robust to their inclusion.…”

Economic consequences of public oversight of the auditing profession

“…More generally, we add to the literature on independent inspections of audit firms at a time when public oversight systems are being discussed, established, and refined across the world. While prior studies have either looked at client-level fees prior to inspections (Gunny et al 2007), at fees at a single audit firm level (Boone et al 2015) or at fees for Big 4 audit firms (Acito et al 2017), this study contributes to the literature by showing that the established US inspection system changes small audit firms' behavior. While recent studies mainly relating to annually inspected audit firms report a number of positive economic effects of PCAOB inspections, we conclude that for the small audit firm market, the effects are not unequivocal positive.…”

“…But it still remains an empirical question whether clients would accept this approach in a highly competitive market. Boone et al (2015) find that the public disclosure of QCDs for Deloitte caused reputation damage and a decrease in Deloitte's audit fee growth rates. We argue this could also apply to small audit firms with QCDs.…”

“…As a result, it may be difficult for audit firms to pass on increased costs to their clients. For example, prior research shows that an audit firm experiences economic losses, including lower fees, after incurring damage to their reputation (Davis and Simon 1992;Boone et al 2015). Instead of choosing to increase the audit effort and pay higher audit fees, audit committees of the clients may still be focused on negotiating for the lowest fee and make full use of the reputation damage caused by a deficient report, especially in the small audit firm market.…”

“…There is an emerging literature investigating the impact of public oversight including on financial reporting quality (Carcello et al 2011;Gipper et al 2015;Gunny and Zhang 2013;Carson, Simnett, Thürheimer and Vanstraelen 2017) and auditor reporting behavior (DeFond and Lennox 2017;Gramling et al 2011;. Furthermore, studies show that the publication of the PCAOB inspection results, especially the disclosure of quality control deficiencies, can negatively impact an audit firm's reputation, leading to lower audit fees and fewer clients (Boone, Khurana and Raman 2015;Vanstraelen and Zou 2017).…”