The Impact of Auditors’ Experiences with their Clients on the Consistency and Bias in Earnings Reporting and Auditors’ Independence

Abstract

Using auditor tenure as a proxy for auditors’ experiences, this paper considers the relationship between auditors experiences with specific clients and financial reporting quality of the clients. We specifically study whether auditors’ experiences with specific clients increase the consistency in earnings reporting, decrease the downward bias in the reported earnings, and increase auditors’ independence. We use the standard deviation of both non-operating and abnormal non-operating accruals for a three year period centered on the current year to measure the consistency in earnings reporting; we use the average of both non-operating and abnormal non-operating accruals for a three year period centered on the current year to measure the relative bias in earnings; we use the change in both non-operating and abnormal non-operating accruals in the two years prior to a seasoned equity offering to measure earnings management. We find that auditors’ experiences are negatively associated with the standard deviation of both non-operating and abnormal non-operating accruals, positively associated with the average non-operating and abnormal non-operating accruals, and negatively associated with the change of non-operating and abnormal non-operating accruals prior to the seasoned equity offering. These results indicate that auditors’ experiences can reduce volatility and bias in earnings reporting, and improve auditors’ independence.

Keywords: auditor independence, auditor tenure, quality of earnings