Incorporation, Audit Fees and Audit Quality
Posted: 1 Jun 1998
Abstract
Previous theories have argued that incorporation tends to reduce both audit quality and audit fees (Dye, 1994, 1995). In contrast, this paper shows that the theoretical effects of incorporation depend on three factors. If most clients are financially healthy (and pose little risk of litigation), or if there is little difference between incorporated and unincorporated wealth (for example if reputation is important), incorporation has little effect on either audit pricing or quality. If marginal costs fall slowly (quickly) as quality falls, incorporation has a small (large) negative effect on fees but a large (small) negative effect on quality. In contrast to the conventional wisdom, but consistent with the model of this paper, the empirical evidence indicates that incorporation does not lead to a significant fall in audit fees.
JEL Classification: M49, K22
Suggested Citation: Suggested Citation