Audit quality attributes, client size and cost of equity capital
AbstractPurpose – The purpose of this paper is to investigate the impact of certain audit quality attributes, namely auditor size, auditor industry specialization and auditor tenure on a client firm's cost of equity capital. Design/methodology/approach – The paper uses empirical data to construct a measure of ex ante cost of equity capital for each firm and year using analyst forecasts. Independent audit quality measures used are auditor size, auditor industry specialization and auditor tenure. Firm cost of equity capital is regressed against the three independent variables and appropriate control variables. Findings – The paper finds that auditor size (auditor is a member of the BigX), auditor industry specialization and auditor tenure are negatively associated with the client firm's cost of equity capital. However, the paper finds that this effect is limited only to small client firms, potentially reflecting the poor information environment associated with such firms. Practical implications – The study highlights the importance of audit quality attributes in determining the firm's cost of capital. It also highlights ways in which firms (especially small firms) can reduce the cost of equity capital by improving their information environment through the judicious selection of auditors. Originality/value – This is believed to be the first paper to examine whether the effects of three audit quality attributes (auditor size, auditor industry specialization and auditor tenure) on a firm's cost of capital are dependent on the client's size. The paper empirically shows that such effects are more pronounced for smaller clients.
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Bibliographic InfoArticle provided by Emerald Group Publishing in its journal Review of Accounting and Finance.
Volume (Year): 9 (2010)
Issue (Month): 4 (November)
Pages: 363 - 381
Contact details of provider:
Web page: http://www.emeraldinsight.com
Postal: Emerald Group Publishing, Howard House, Wagon Lane, Bingley, BD16 1WA, UK
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Merton, Robert C, 1987.
" A Simple Model of Capital Market Equilibrium with Incomplete Information,"
Journal of Finance,
American Finance Association, vol. 42(3), pages 483-510, July.
- Merton, Robert C., 1987. "A simple model of capital market equilibrium with incomplete information," Working papers 1869-87., Massachusetts Institute of Technology (MIT), Sloan School of Management.
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