The Audit Retention Decision in the Face of Deregulation: Evidence from Large Private Canadian Corporations

Abstract

We examine the demand for audited financial statements in the context of deregulation. In 1994 a change in Canadian legislation eliminated a mandatory requirement for certain private companies to file audited financial statements. The objective of this research was to determine the importance of factors that might influence whether the audit is discontinued. Information was obtained from the Cancorp Plus database and through a survey of companies affected by the change in legislation. It was found that a large majority of the companies retained their audit. The strongest predictors of whether the audit would be retained were the prior existence of a lending agreement requiring audited financial statements and the level of audit fees. The likelihood of retention was positively related to the magnitude of fees, perhaps reflecting the perceived benefits of the audit. The existence of a lending agreement was found to be influenced by the ownership level of the entity's officers and directors. This study underlines the importance of audited financial statements to lenders.

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

“…The most important reason for keeping the audit was that it was a requirement of lenders; the primary reason for discontinuance was reported as cost savings. Senkow et al (2001) use 201 observations from the same data set to conduct multivariate analysis of the audit retention decision. Although their measures of company size and leverage are not significantly associated with voluntary audit, they report a positive relationship between audit retention and the presence of a lender agreement requiring audit.…”

“…Simunic (1984) argues that joint production of NAS and audit generates efficiency gains in the form of cost savings and knowledge externalities, as undertaking one task informs the other. For example, the quality of tax or management advisory services is probably higher, when the advisory company has performed the audit (Senkow et al, 2001). Moreover, prior studies report a significant association between audit and non-audit fees (e.g.…”

“…Previous researchers in the area, struggling to identify suitable experimental settings, have been forced to innovate with respect to their samples, for example, using historical data from the preSecurities and Exchange Commission period for US companies (Chow, 1982), or not-for-profit organisations (Hay and Davis, 2004). Scant archival data from the financial statements has also imposed limits on the number of explanatory variables included in the analysis, or forced researchers into conducting surveys (Carey et al, 2000;Senkow et al, 2001;Seow, 2001;Rennie et al, 2003;Collis et al, 2004). The sample sizes in these prior studies are therefore somewhat limited.…”

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

“…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. to compensate for the hierarchical loss of control over employees when a company increases in size (Abdel-Khalik, 1993;Senkow et al, 2001;Seow, 2001). SMEs may also demand voluntary audits expecting to get from auditors skills and resources not available within them.…”

Three essays on the effects of foreign direct investment on the host-country companies: An analysis in the private setting

“…Additionally, auditing fosters accounting accuracy since audited accounts are approximately half as likely as unaudited accounts to contain errors (Clatworthy & Peel, 2013). Consequently, it is not surprising that lenders often require private companies to undergo audits (Collis, 2012;Collis, Jarvis, & Skerratt, 2004;Dedman, Kausar, & Lennox, 2014;Senkow, Rennie, Rennie, & Wong, 2001), and are less likely to deny credit to companies with audited financial statements (Allee & Yohn, 2009;Hope et al, 2011). This implies that external audits make financial information more useful for pricing debt (Minnis, 2011), and audited companies are perceived as less risky, which should result into lower interest rates (Lennox & Pittman, 2011).…”