The Demand for Audit in Private Firms: Recent Large-Sample Evidence from the UK

Abstract

Although theory suggests that companies would rationally select into audit even if it were not a legal requirement, many countries impose mandatory audits. This is arguably due to an audit having elements of a public good, which may result in not enough audits being purchased without regulatory intervention. The mandatory nature of public company audit has created problems for researchers wishing to investigate the demand for voluntary audit. Recent events in the UK, however, have provided such an environment. In the UK, private companies must publicly file financial statements and, until recently, they had also to be audited. However, this requirement has now been relaxed for many private companies. We are therefore able to examine the determinants of voluntary audit in a large sample of companies for which we have financial statement data. We analyse a sample of 6274 recently exempt companies, following them for three years post-exemption. We use agency theory and prior evidence to generate our hypotheses and examine them using a more comprehensive set of explanatory variables than has previously been available in the literature. Our results indicate that companies are more likely to purchase voluntary audits if they have greater agency costs, are riskier, wish to raise capital, purchase non-audit services from their auditor, and exhibited greater demand for audit assurance in the mandatory audit regime. We also document a trend away from audit over time. Overall, our results strongly support the idea that companies choose to be audited when it is in their interests to do so.

The timeliness of UK private company financial reporting: Regulatory and economic influences

“…UK firms are more likely to employ an external auditor when agency problems are more pronounced and when they are seeking outside finance (Collis et al 2004;Dedman et al 2014). Evidence from the US (Allee and Yohn, 2009), also demonstrates that small private firms who voluntarily appoint auditors are less likely to be denied loan capital and are charged a lower interest rate on debt compared with their unaudited counterparts (Blackwell et al, 1998;Minnis, 2011).…”

“…Moreover, Collis et al (2013) find that the timing with which UK private firms file their accounts is an important consideration for trade creditors. Accordingly, private firms have been found to voluntarily employ external auditors where agency costs are high and/or when they plan to raise outside finance (Collis et al, 2004;Dedman et al, 2014), with private firms appointing auditors facing fewer financing constraints and a lower cost of capital (e.g. Hope et al, 2011;Minnis, 2011).…”

Small is big! The role of ‘small’ audits for studying the audit market

“…However, we may expect more prominent agency costs associated to con icts between di erent owners. Overall, outcomes suggest that rms are more likely to undergo voluntary audits if they have greater agency costs (Carey, Simnett, & Tanewski, 2000;Collis, 2010;Dedman, Kausar, & Lennox, 2014). Furthermore, the level of shareholder-debtholder agency costs and contractual constraints imposed by creditors on the rm seem to be a key driver for the demand of Managers of SMEs may use an external audit as an internal control mechanism when organizational complexity increases -e.g.…”

“…A relatively small, but increasing number of studies have investigated these issues (e.g. Dedman, Kausar, & Lennox, 2014;Minnis & Shro , 2017).…”

Monitoring Mechanisms, Gender, and Information System Structure in Nigerian Non-Financial Listed Companies

“…There are studies on monitoring mechanisms (Dedman, Kausar, & Lennox, 2013;Gerakos, 2013;Dabor, & Ibadin, 2013), but none tests the impact of board gender on the three dimensions of monitoring mechanisms in one study. Also, only one literature tests the relationship between the information system structure and monitoring mechanisms (Mustapha & Che-Ahmad, 2009).…”