The impact of hedge fund activism on audit pricing

Chen, Huimin (Amy), Bill B. Francis, Shen, Yinjie (Victor) and Qiang Wu

The British Accounting Review, 2024, vol. 56, issue 2

Abstract: The extant literature focuses on the economic effect of significant changes that activist hedge funds enact, but shows mixed findings about the effect on the information environment. We investigate the informational effect on the third party — namely, the auditor — and argue that the potential significant changes in target firms heighten the complexity and uncertainty of the information environment, potentially increasing the workload or risk for auditors. We find that auditors react to hedge fund intervention by increasing audit fees. This relationship holds in a battery of identification tests that address endogeneity, including difference-in-differences analysis with propensity score matching, coarsened exact matching, entropy balancing, and a placebo test. Further analysis supports our conjecture that information complexity and uncertainty increase in target firms, leading to higher audit fees. Moreover, auditors increase their effort after intervention but do not seem to incur greater audit risk. This finding suggests that the information risk arising from the potential post-intervention changes is within auditors’ threshold of risk tolerance, consistent with the corporate governance effect of hedge fund activism.

Keywords: Hedge fund activism; Auditors; Audit fees; Financial reporting complexity; Information uncertainty (search for similar items in EconPapers)
JEL-codes: G23 G34 M42 (search for similar items in EconPapers)
Date: 2024
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:bracre:v:56:y:2024:i:2:s089083892300121x

DOI: 10.1016/j.bar.2023.101264

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