Do audit efforts increase the future equity value of client firm?

Sang Ho Lee, Seung Uk Choi and Ji Yeon Ryu

Managerial Auditing Journal, 2021, vol. 36, issue 1, 132-166

Abstract: Purpose - The purpose of this study is to examine the association between additional audit efforts and clients’ future equity value. The study hypothesizes that auditors’ additional audit efforts directly increase clients’ stock return performance. Additionally, this study expects that the additional audit effort lowers the likelihood of audit failure and improves accounting information quality, thereby indirectly increasing clients’ future equity return performance. Design/methodology/approach - The regression and portfolio return tests are conducted using observations from 2003 to 2016. This study uses the abnormal audit hours as a proxy for additional audit effort using mandatorily disclosed audit hour data from Korean listed firms. The study also conducts mediation analyses to examine the causal intermediate steps that link audit effort to client equity return performance. Findings - The paper documents a significant and positive association between abnormal audit hours and clients’ subsequent years’ stock return performance and Tobin’s Q. This finding is accentuated for clients audited by Big N auditors or with greater demand for superior audit service. This finding is robust after controlling for various proxies of accounting quality. The portfolio return tests also find evidence that investors cannot fully perceive the value of audit efforts. A battery of additional tests does not alter the main findings. Practical implications - The results provide implications for investors and policymakers by emphasizing the importance of audit efforts in value-creation. Moreover, this study’s findings suggest that auditors’ assurance, insurance and information roles are all the important drivers of this value-creation. Originality/value - This study highlights a prominent feature of audit effort that enhances the value of auditees.

Keywords: Market anomaly; Audit effort; Abnormal audit hour; Equity value; Hedge portfolio returns; G14; M42 (search for similar items in EconPapers)
Date: 2021
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Persistent link: https://EconPapers.repec.org/RePEc:eme:majpps:maj-11-2019-2473

DOI: 10.1108/MAJ-11-2019-2473

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