What's in a Name? Initial Evidence of U.S. Audit Partner Identification Using Difference-in-Differences Analyses

Abstract

We investigate changes in the quality and cost of audit services surrounding PCAOB Rule 3211, which requires disclosure of audit partner names in Form AP. To isolate changes due to Rule 3211 from other confounding factors, we use difference-in-differences analyses with separate control groups, including a group of companies that disclosed partner identities prior to Rule 3211. Our study also incorporates several measures from prior literature to proxy for various dimensions of audit quality. Evidence from the difference-in-differences analyses reveals that any immediate impact of Rule 3211 on audit quality or fees is limited to specific dimensions of audit quality, specific control groups, and/or specific company characteristics. We reach this conclusion after considering alternative research designs and evaluating confidence intervals for statistically insignificant coefficients. We caution that our findings only provide initial evidence and further research is necessary to evaluate other potential impacts of Rule 3211.

The PCAOB Revolving Door and Audit Quality.

“…We employ two proxies for the client's risk of misstatement, F-Score, and the presence of one or more internal control material weaknesses (ICMW). F-Score, as constructed by Dechow et al (2011) based on AAERs, is the probability of earnings management or misstatement (Dechow et al 2011, p. 18), and has been used as such in recent research (e.g., Cunningham et al 2019 As discussed above, we use F-Score and ICMWs to capture HIGHRISK. Note that we exclude restatements as dependent variables in this analysis as restatements are an ex post measure of the same dynamic for which F-Score proxies ex ante.…”

“…where the dependent variable ICMW_INC is "incorrect" ICMW (based on Ge et al 2017 andCunningham et al 2019), an indicator variable coded 1 if either (a) a "suspect" firm is not given an ICMW by the auditor or (b) a "non-suspect" firm is given an ICMW by the auditor, and 0 otherwise. We define suspect firms as those in the top decile of the predicted probability of maintaining ineffective internal controls based on model [2] in Ge et al (2017) as implemented by Cunningham et al (2019). We include the control variables that we listed above for the restatement model, except that we replace ICMW with RESTATE.…”

“…Lastly, we turn to the implications of the presence of ex-PCAOB personnel for the audit firms' ICFR audit quality using a subsample of SOX 404(b) clients (i.e., clients subject to an audit opinion on ICFR). Following Cunningham, Li, Stein, and Wright (2019), we proxy for the accuracy of the auditor's ICFR opinion by comparing the predicted likelihood of maintaining ineffective controls (Ge, Koester, and McVay 2017) to auditor-issued ICMWs. We find that the presence of former PCAOB employees at the audit firm is associated with improved accuracy of ICMW issuance.…”

Discussion of the Consequences of Providing Lower-Quality Audits at the Engagement Partner Level

“…The international debate about the usefulness of providing engagement partner disclosure is one of the main timely motivations for examining the audit clients' decision making to engage or retain an engagement partner after he or she has been involved in client restatements of previously issued financial statements. Audit partners' names in the United States have been publicly disclosed starting in 2017; and initial evidence is emerging (Cunningham, Li, Stein, and Wright 2019). Indeed, prior literature at the audit partner level mostly relies on archival research in non-U.S. settings, i.e., China, Australia, Taiwan, and Sweden, where engagement partners' disclosure has been made public for many years.…”

Initial Evidence of U.S. Audit Partner Identification in Form AP Shows Limited Impact on Audit Quality

“…Instead, registered accounting firms submit Form AP directly to the PCAOB within 35 days of the date that the auditor's report is first included in a document filed with the SEC (PCAOB 2015b). Given the contentious debate and the removal of ''the act of signing'' in the final ruling, Cunningham, Li, Stein, and Wright (2019;hereafter CLSW) examine whether the new Form AP disclosure had immediate effects on the quality of audit services in the U.S. 1 Such analysis enhances our understanding of this important regulatory rule and its impact on practice.…”