Abnormal Audit Fees and Audit Quality: The Importance of Considering Managerial Incentives in Tests of Earnings Management

Posted: 13 Feb 2014

See all articles by John Daniel Eshleman

John Daniel Eshleman

Rutgers - Camden

Peng Guo

Louisiana State University, Baton Rouge

Date Written: July 18, 2013

Abstract

Are high audit fees a signal that the auditor exerted more effort or a signal that the auditor may be losing her independence? Prior literature offers conflicting evidence. In this paper, we re-examine the issue on a sample of clients who have both the incentive and the ability to use discretionary accruals to meet or beat the consensus earnings forecast. We find a negative relationship between the level of abnormal audit fees paid by the client and the likelihood of using discretionary accruals to meet or beat the consensus analyst forecast. The evidence is consistent with the notion that abnormal audit fees are indicative of greater effort on the engagement. In other words, the results suggest a positive relationship between abnormal audit fees and audit quality. We show that the conflicting evidence in prior research was caused by research designs which did not consider the incentives of the manager.

Keywords: Audit Quality, Audit Fees, Discretionary Accruals, Meet-or-Beat

JEL Classification: M42, M41

Suggested Citation

Eshleman, John Daniel and Guo, Peng, Abnormal Audit Fees and Audit Quality: The Importance of Considering Managerial Incentives in Tests of Earnings Management (July 18, 2013). Auditing: A Journal of Practice & Theory, Vol 33 (1): 117-138, 2013, Available at SSRN: https://ssrn.com/abstract=2394759

John Daniel Eshleman (Contact Author)

Rutgers - Camden ( email )

Camden, NJ 08102
United States

Peng Guo

Louisiana State University, Baton Rouge ( email )

Baton Rouge, LA 70803
United States

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