Public Equity and Audit Pricing in the United States

Abstract

To what degree are audit fees for U.S. firms with publicly traded equity higher than fees for otherwise similar firms with private equity? The answer is potentially important for evaluating regulatory regime design efficiency and for understanding audit demand and production economics. For U.S. firms with publicly traded debt, we hold constant the regulatory regime, including mandated issuer reporting and auditor responsibilities. We vary equity ownership and thus public securities market contextual factors, including any related public firm audit fees from increased audit effort to reduce audit litigation risk and/or pure litigation risk premium (litigation channel effects). In cross‐section, we find that audit fees for public equity firms are 20–22% higher than fees for otherwise similar private equity firms. Time‐series comparisons for firms that change ownership status yield larger percentage fee increases (decreases) for those going public (private). Results are consistent with litigation channel effects giving rise to substantial incremental audit fees for U.S. firms with public equity ownership.

Financial versus operating liability leverage and audit fees

“…Based on the foregoing arguments, most audit-fee studies predict a positive association between leverage and audit fees. Researchers use different measures of leverage as control variables in the audit fee model to capture auditors' exposure to the litigation risk (Badertscher, Jorgensen, Katz, & Kinney, 2014;De George, Ferguson, & Spear, 2013;Francis, Reichelt, & Wang, 2005;Kim et al, 2012), financial distress (Huang, Raghunandan, Huang, & Chiou, 2015), and client's financial risk (Bills, Jeter, & Stein, 2015).…”

The JOBS Act and the Costs of Going Public

“…Third, the ability to delay compliance with SOX 404(b) and the Dodd‐Frank Act requirements could provide cost savings to issuers. We estimate the potential cost savings from noncompliance with SOX 404(b) using an approach similar to Badertscher et al []. While our estimate of these savings is not large enough to offset the average increase in the dollar amount of money left on the table, the savings still offer issuers some monetary relief relative to the pre‐Act regulatory regime.…”

Auditor Reporting and Regulatory Sanctions in the Broker‐Dealer Industry: From Self‐Regulation to PCAOB Oversight

“…As noted by prior research (e.g., Johnstone and Bedard ), public clients are a source of auditor business risk due to greater exposure to regulatory scrutiny as well as potential litigation and reputation losses. Similarly, Badertscher et al () study U.S. companies with public debt and find substantially higher audit fees for companies that are also publicly owned, consistent with greater engagement effort and/or risk pricing. Studies of variation in financial reporting quality between public and private entities also provide relevant information on this issue.…”

“…Third, the BD context provides a rare opportunity to compare audit quality between U.S. public and private entities in a for-profit setting under common standards, as rules for auditor reporting of control and compliance problems applied to all BDs regardless of ownership status. Thus, this study responds to repeated calls for further research on auditing in privately owned enterprises, which play a substantial role in the United States and other world economies (e.g., Vanstraelen and Schelleman 2017;Badertscher et al 2014;Francis et al 2011).…”