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The Joint Determination of Audit Fees, Non-Audit Fees, and Abnormal Accruals

  • Rick Antle
  • Elizabeth Gordon
  • Ganapathi Narayanamoorthy
  • Ling Zhou
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    Prior research has estimated piece-meal the determinants of audit fees, non-audit fees and abnormal accruals. Intuition, informal analysis, and a variety of theories suggest that audit fees, non-audit fees, and abnormal accruals are jointly determined. We address this endogeneity issue by modeling the confluence of audit fees, fees for non-audit services and abnormal accruals in a system of simultaneous equations. Our joint estimation provides a starting point to look simultaneously at several competing theories. Using audit and non-audit fee data from the UK for 1994-2000, we find evidence consistent with knowledge spillovers (or economies of scope) from auditing to non-audit services and from non-audit services to auditing. While knowledge spillovers from non-audit services to auditing have been found in prior research [e.g. see Simunic 1984], the presence of knowledge spillovers from auditing to non-audit services is a new result. Contrary to recent results in Ferguson et al. (2001) and Frankel et al. (2002), we do not find support for the assertion that fees for non-audit services increase abnormal accruals. In fact, contrary to the results in Ashbaugh et al. (2003) and Chung and Kallapur (2003), we find that non-audit fees decrease abnormal accruals, which we attribute to the productive effects of non-audit services. We also find evidence that audit fees increase abnormal accruals, consistent with behavioral theories of unconscious influence or bias in the auditor-client relation. The findings are robust to tests with US data.

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    File URL: http://icfpub.som.yale.edu/publications/2502
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    Paper provided by Yale School of Management in its series Yale School of Management Working Papers with number amz2502.

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    Date of creation: 07 Aug 2002
    Date of revision: 02 May 2006
    Handle: RePEc:ysm:somwrk:amz2502
    Contact details of provider: Web page: http://icf.som.yale.edu/
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    1. Scott Whisenant & Srinivasan Sankaraguruswamy & K. Raghunandan, 2003. "Evidence on the Joint Determination of Audit and Non-Audit Fees," Journal of Accounting Research, Wiley Blackwell, vol. 41(4), pages 721-744, 09.
    2. Burgstahler, David & Dichev, Ilia, 1997. "Earnings management to avoid earnings decreases and losses," Journal of Accounting and Economics, Elsevier, vol. 24(1), pages 99-126, December.
    3. DeAngelo, Linda Elizabeth, 1981. "Auditor size and audit quality," Journal of Accounting and Economics, Elsevier, vol. 3(3), pages 183-199, December.
    4. Johnson, Marilyn F. & Nelson, Karen K. & Frankel, Richard M., 2002. "The Relation Between Auditor's Fees for Non-audit Services and Earnings Quality," Research Papers 1696r, Stanford University, Graduate School of Business.
    5. Phillip McKnight & Cyril Tomkins, 1999. "Top Executive Pay in the United Kingdom: A Corporate Governance Dilemma," International Journal of the Economics of Business, Taylor & Francis Journals, vol. 6(2), pages 223-243.
    6. Leuz, Christian & Nanda, Dhananjay & Wysocki, Peter D., 2003. "Earnings management and investor protection: an international comparison," Journal of Financial Economics, Elsevier, vol. 69(3), pages 505-527, September.
    7. Guay, W. & Kothari, S.P. & Watts, R.L., 1996. "A Market-Based Evaluation of Discretionary-Accrual Models," Papers 96-01, Rochester, Business - Financial Research and Policy Studies.
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