The Determinants of Audit Fees - Evidence from the Voluntary Sector

Abstract

Given the growing demand for accountability in the public sector, there is a need to begin to investigate audit pricing issues in markets within this sector. This study makes three principal contributions. First, it develops and estimates, for the first time, a model of audit fee determinants relevant to the charity sector. The model is based on 210 of the top 500 UK charities with average incoming resources of £27 million. As in previous private sector company studies, size, organisational complexity and audit firm location are the major determinants. A positive association between audit fees and fees for non-audit services is also observed. Charity sector factors of empirical significance include the fundamental nature of the charity (i.e., predominantly grant-making or fund-raising), the importance of trading as a source of charity income and the charity's activity. Separate models are developed for grant-making and fund-raising charities, the results reflecting the relative complexity of the audit of fund-raising charities.Second, the lower auditor concentration in the charity sector market, compared to the private sector market, permits a more powerful test of whether large firms and/or auditor expertise are rewarded with a fee premium. The results show that Big 6 audit firms receive higher audit fees (18.5%, on average) than non-Big 6 firms for audits of fund-raising charities. There is also evidence that non-Big 6 audit firms with expertise in the sector are rewarded with a fee premium over other non-Big 6 firms, again in the more complex audit environment of fund-raising charities.Finally, the study demonstrates that the charity audit fee rate is significantly lower than that of private sector companies; in fact it is approximately half. Further research that discriminates between alternative explanations of this differential is called for. A change in the reporting of charity audit fees is proposed to reflect any element of 'charitable giving' by the audit firm.

Large Sample Evidence of the Determinants of Nonprofit Monitoring Costs: A Resource Dependence Framework

“…Vermeer et al (2009a), for example, find in a sample of 125 large U.S. nonprofit organizations that factors studied in the for-profit and governmental settingssize, complexity, and risk are associated with audit fees. Beattie et al (2001) report similar findings among a sample of 210 large U.K. charities. The nature of nonprofit organizations, however, also requires consideration of unique factors that may be associated with audit fees.…”

“…To test the hypotheses above, we estimate regression models that build upon nonprofit (Vermeer et al 2009a;Beattie et al 2001;Pearson et al 1998) and for-profit audit fee literature (e.g., Simunic 1980;Francis and Wang 2005), as well as Pearson et al (1998), who examine monitoring costs more broadly. We include both external and internal resource variables, as well as control variables.…”

“…Fundamentally, resource dependence theory posits that increased dependence on external (internal) resources results in additional (lower) monitoring costs (Pfeffer and Salancik 2003;Miller-Millesen 2003;Ulrich and Barney 1984), which is generally consistent with agency theory (Gaver and Im 2014). 4 The few extant nonprofit audit fee studies have been limited to smaller samples consisting almost entirely of large nonprofit organizations (Vermeer, Raghunandan, and Forgione 2009a;Beattie, Goodacre, Pratt, and Stevenson 2001). We use accounting fees reported on Form 990 5 as a proxy for monitoring costs, inclusive of audit fees (Tate 2007;Pearson, Brooks, and Neidermeyer 1998) 2 We define monitoring costs as accounting fees as reported in Form 990, which include audit fees and other fees paid to external accountants.…”

“…First, this large sample allows us to test models of audit and accounting fees across a wider cross-section of nonprofits than previous studies' samples (Vermeer et al 2009a;Beattie et al 2001). Because our sample is limited to nonprofit organizations that are subject to state-specific requirements for having an audit and audit fees comprise the majority of accounting fees, the resulting model may therefore provide practical benefit to nonprofit stakeholders seeking to benchmark nonprofit audit fees.…”

“…For comprehensive discussions of nonprofit revenue portfolio strategy, see Kearns (2007), Froelich (1999), and Chang and Tuckman (1994). 22 While Vermeer et al (2009a) report no statistical association between contributions and audit fees, Pearson et al (1998) report a negative association, and Beattie et al (2001) report a positive association. 23 We tested our models for multicollinearity.…”