Investigating the influence of rank-and-file employees’ equity incentives on audit pricing: evidence from stock options

Khaled Abdulsalam

Managerial Auditing Journal, 2025, vol. 40, issue 7, 1028-1059

Abstract: PurposeThis study aims to investigate whether equity incentives granted to rank-and-file employees influence audit pricing in US firms. While prior research has primarily focused on executive compensation, this study explores how broad-based stock options compensation impacts auditors’ risk assessments and engagement outcomes, particularly through the lens of agency theory and behavioral risk theory.Design/methodology/approachUsing a sample of 19,588 firm-year observations from 2004 to 2020, the study uses multivariate regression models, path analysis, entropy balancing and two-stage least squares to examine the relationship between rank-and-file employees’ stock options and audit outcomes.FindingsThis study documents a significant positive association between rank-and-file employees’ stock options and audit fees, suggesting that auditors view these incentives as indicators of elevated audit risk. This association is more pronounced among smaller firms, where governance and oversight mechanisms tend to be weaker. A path analysis shows that the relationship is mediated by a higher likelihood of material internal control weaknesses. Additionally, this study finds that rank-and-file equity incentives are associated with longer audit report lags, consistent with increased audit effort by auditors.Practical implicationsThe findings of this study suggest that audit standards should be broadened to include the evaluation of compensation and financial arrangements not only for executives but also for rank-and-file employees.Originality/valueBy extending the audit pricing literature beyond executive incentives, this paper highlights how broader compensation structures shape audit risk perceptions and engagement outcomes. It further uncovers a mechanism through which rank-and-file stock options influence audit fees, offering new insight into how employee compensation incentives affect audit outcomes.

Keywords: Equity compensation; Stock options; Rank-and-file employees; Audit risk; Audit fees (search for similar items in EconPapers)
Date: 2025
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Persistent link: https://EconPapers.repec.org/RePEc:eme:majpps:maj-11-2024-4580

DOI: 10.1108/MAJ-11-2024-4580

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