The Evolution of Audit Market Structure and the Emergence of the Big 4: Evidence from Australia

SUMMARY We examine whether Deloitte's spatial location in local audit markets affected the firm's adverse fallout—in terms of decreased ability to retain new clients and maintain audit fees—from the 2007 PCAOB censure. We motivate our inquiry by the notion that auditor-client alignment and auditor-closest-competitor distance can help differentiate the incumbent Big 4 auditor from other Big 4 auditors and thus provide market power, i.e., inhibit clients from shopping for another supplier because of the lack of a similar Big 4 provider in the local audit market. Consequently, it seems reasonable that the increase in switching risk and loss of fee growth suffered by Deloitte following the 2007 PCAOB censure will be lower in local markets where Deloitte was the market leader and its market share distance from its closest competitor was greater. Our findings suggest that the decline in Deloitte's audit fee growth rate following the 2007 PCAOB censure was concentrated in the pharmaceutical industry, although the client loss rate appears to have occurred more broadly (across all cities and industries). Collectively, our findings suggest that audit quality issues override auditor market power, i.e., differentiation does not provide Big 4 firms market power in the face of adverse regulatory action. JEL Classifications: G18; L51; M42; M49.

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An Analysis of Big 4 Pricing and Firm Size: The Differential Impact of Demand and Supply Shocks on Large and Small Clients

Journal of Accounting Auditing & Finance ◽

10.1177/0148558x17704555 ◽

2017 ◽

Vol 34 (2) ◽

pp. 204-230 ◽

Cited By ~ 2

Author(s):

Fatima Alali ◽

Randal Elder ◽

Jian Zhou

Keyword(s):

Small Firm ◽

Great Recession ◽

Small Firms ◽

Unique Contribution ◽

Demand And Supply ◽

The Great Recession ◽

Audit Market ◽

Sarbanes Oxley ◽

Big 4 ◽

Recession Period

We investigate Big 4 pricing over the period of 2000 to 2010. We classify the data into five periods: 2000-2001 as the pre-Sarbanes–Oxley Act (SOX) period, 2002-2003 as the SOX period, 2004-2006 as the Auditing Standard 2 (AS2) period, 2007 as the AS5 period, and 2008-2010 as the Great Recession period. The shocks to the audit market associated with these changes in auditing regulations and the economic environment have differential impacts on large clients and small clients. The percentage of small clients using Big 4 auditors dropped significantly over these shocks, whereas the percentage of large clients using Big 4 auditors experienced a large drop only from the SOX period to the AS2 period. We find that Big 4 pricing increased significantly from the pre-SOX period to the SOX period and continued to increase significantly in the AS2 period. Big 4 pricing experienced a significant decline in the AS5 period and declined insignificantly in the Great Recession period. Big 4 small firm pricing decreased significantly in the AS2 period compared with the SOX period and in the Great Recession period compared with the AS5 period. We find that the Big 4 pricing for small clients is contingent on the nature of competition. The Big 4 charged small firms higher prices in the SOX period, AS5 period, and Great Recession period when competition was lower. Our paper provides a unique contribution as a comprehensive analysis of Big 4 pricing and Big 4 small firm pricing.

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Audit Committee Accounting Expertise and the Mitigation of Strategic Auditor Behavior

The Accounting Review ◽

10.2308/tar-2018-0101 ◽

2020 ◽

Author(s):

James Hansen ◽

Ling Lei Lisic ◽

Timothy A. Seidel ◽

Michael S. Wilkins

Keyword(s):

Audit Committee ◽

Market Competition ◽

Legal Liability ◽

Audit Committees ◽

Credence Goods ◽

Professional Regulation ◽

Audit Market ◽

Big 4 ◽

Material Weaknesses ◽

Accounting Expertise

Our study is motivated by the theory of credence goods in the auditing setting. We propose that audit committee accounting expertise should reduce information asymmetries between the auditor and the client, thereby limiting auditors' ability to over-audit and under-audit. Consistent with this notion, our results indicate that when audit committees have accounting expertise, clients (1) pay lower fees when changes in standards decrease required audit effort; (2) pay a smaller fee premium in the presence of remediated material weaknesses; and (3) have a reduced likelihood of restatement when audit market competition is high. Our findings in the under-auditing setting generally are strongest among non-Big 4 engagements, consistent with non-Big 4 auditors being less sensitive to market-wide disciplining mechanisms such as reputation, legal liability, and professional regulation. We also provide evidence that the nature of audit committee members' accounting expertise differentially impacts the committee's ability to curtail over- and under-auditing.

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Audit Market Regulation and Earnings Characteristics: Cross-Country Evidence on the Role of the Audit Market Structure

SSRN Electronic Journal ◽

10.2139/ssrn.2434444 ◽

2014 ◽

Cited By ~ 1

Author(s):

Benjamin Hess ◽

Ulf Mohrmann ◽

Ulrike Stefani

Keyword(s):

Market Structure ◽

Market Regulation ◽

Audit Market ◽

Cross Country

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The Audit Market Dynamics in a Mandatory Joint Audit Setting: The French Experience

Journal of Accounting Auditing & Finance ◽

10.1177/0148558x16680716 ◽

2016 ◽

Vol 33 (4) ◽

pp. 463-484 ◽

Cited By ~ 5

Author(s):

Lamya Kermiche ◽

Charles Piot

Keyword(s):

Market Concentration ◽

Policy Makers ◽

Audit System ◽

Audit Market ◽

Big 4 ◽

Long Run ◽

French Experience ◽

Economic Support ◽

Different Types ◽

Potential Benefits

Policy makers in France have considered joint audits as a solution to mitigate the audit market concentration and the “systemic” risk associated with Big 4 auditors. We implement a Markovian analysis where audit clients chose between different types of combinations across Big 4 and smaller auditors. Our main findings support the view that the French joint audit system is effective in maintaining market openness and in mitigating the Big 4 domination in the long run. An investigation of the determinants driving changes in joint audit combinations suggests little economic support in favor of two Big 4 combinations, whereas changes in audit clients’ agency costs (e.g., higher ownership concentration) tend to explain the performance of mixed and two non-Big 4 combinations. Overall, this study supports the European Commission’s position on the potential benefits of joint audits in mitigating the market concentration; it also suggests that it might not be necessary to impose mixed joint audits to achieve that objective.

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Determinants and Market Consequences of Auditor Dismissals after Accounting Restatements

The Accounting Review ◽

10.2308/accr-50680 ◽

2013 ◽

Vol 89 (3) ◽

pp. 1051-1082 ◽

Cited By ~ 109

Author(s):

Karen M. Hennes ◽

Andrew J. Leone ◽

Brian P. Miller

Keyword(s):

Financial Reporting ◽

Market Reaction ◽

Data Availability ◽

Executive Turnover ◽

Corporate Boards ◽

External Auditors ◽

Audit Market ◽

Big 4 ◽

Financial Restatements ◽

Market Consequences

ABSTRACT This study examines the conditions under which financial restatements lead corporate boards to dismiss external auditors and how the market responds to those dismissal announcements. We find that auditors are more likely to be dismissed after more severe restatements but that the severity effect is primarily attributable to the dismissal of non-Big 4 auditors rather than Big 4 auditors. We also document that among corporations with Big 4 auditors, those that are larger and more complex operationally are less likely to dismiss their auditors. Combined, this evidence suggests that firms with higher switching costs and fewer replacement auditor choices are less likely to dismiss their auditors after a restatement, which is informative to the debates about the costs and benefits of mandatory auditor rotation and limited competition in the audit market. Additionally, we examine contemporaneous executive turnover and find evidence that boards view auditor dismissals as complementary rather than substitute responses to restatements. Finally, we investigate the market reaction to auditor dismissals after restatements. The market reaction to the dismissal is significantly more positive following more severe restatements (5.9 percent) relative to less severe restatements (0.6 percent) when the client engages a comparably sized auditor. This positive market reaction is consistent with firms restoring financial reporting credibility by replacing their auditors and highlights the important role that auditors play in the financial markets. Data Availability: Data are available from public sources indicated in the text.

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The impact of market inequality on audit price

Managerial Auditing Journal ◽

10.1108/maj-07-2018-1930 ◽

2019 ◽

Vol 34 (9) ◽

pp. 1149-1172

Author(s):

Kimberly Dunn ◽

Mark Kohlbeck ◽

Brian Mayhew

Keyword(s):

Market Structure ◽

Audit Fees ◽

Opposite Pattern ◽

Content Type ◽

Audit Market ◽

Industry Level ◽

The Usa ◽

National Industry ◽

The Impact ◽

The City

Purpose This paper aims to evaluate policymakers’ concerns about the lack of competition in highly concentrated markets for public company audits by examining the association between audit fees and the inequality of Big 4 market shares at both the USA national-industry and city-industry levels. Design/methodology/approach Using publicly available data, this paper uses regression analysis to examine publicly available data to test research hypotheses related to the association between audit market inequalities and audit fees at both the USA national-industry and city-industry levels. Findings The findings support a U-shaped association between national-industry inequality and audit fees. As inequality initially increases, fees decrease; however, as inequality becomes increasingly large fees increase. The city-industry level analysis shows the opposite pattern. The results are consistent with capacity constraints at the national-industry level that are less binding at the city-industry level. Research limitations/implications This study provides evidence that market inequality has a non-linear association with audit price and contributes to the limited findings in industrial organization research on the importance of market share inequality in highly concentrated markets. Originality/value This study provides new insights into the growing body of research on audit market structure by documenting that national-industry and city-industry analysis provides different insights into the market structure. In addition, the sample period for this study (2004-2017) addresses the General Accounting Office (GAO) concern about the lack of a stable audit market in the period it examined (GAO, 2008, p. 94) and finds evidence of market structure effects not present in the earlier GAO studies (GAO, 2003, 2008).

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Risk Shifts in the Market for Audits: An Examination of Changes in Risk for “Second Tier” Audit Firms

Auditing A Journal of Practice & Theory ◽

10.2308/aud.2009.28.2.93 ◽

2009 ◽

Vol 28 (2) ◽

pp. 93-118 ◽

Cited By ~ 71

Author(s):

Chris E. Hogan ◽

Roger D. Martin

Keyword(s):

Business Risk ◽

Switching Activity ◽

Publicly Traded ◽

Audit Market ◽

Sarbanes Oxley ◽

Big 4 ◽

Audit Firms ◽

Risk Characteristics ◽

Changes In Risk ◽

Second Tier

SUMMARY: The market for audit services has been affected in recent years by significant changes like the demise of Andersen and the implementation of the Sarbanes-Oxley Act of 2002. One impact of these market changes has been an increase in the frequency of auditor switches, and in particular, the frequency of clients switching from Big 4 auditors to smaller audit firms. We examine whether this switching activity has resulted in changes in the risk characteristics of publicly traded clients of Second Tier audit firms. This analysis is important as regulators are concerned about audit market concentration and would like to see the Second Tier audit firms expand their share of the publicly traded client market. Results indicate that Second Tier firms are accepting clients with potentially increased audit and client business risk characteristics relative to their existing client base, but they also appear to be “shedding” clients that have increased audit and client business risk characteristics relative to their existing client base. Some of the differences in risk characteristics for those departing clients are more pronounced in the period after 2000, when we expect the most significant changes in the audit market occurred. Second Tier auditors are increasingly exposed to more business risk as they accept larger clients coming from Big 4 predecessor auditors, which may increase their exposure to litigation.

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