Financial Distress, Investment Opportunity, and the Contagion Effect of Low Audit Quality: Evidence from China

Xingqiang Du () and Shaojuan Lai ()
Additional contact information
Xingqiang Du: Xiamen University
Shaojuan Lai: Xiamen National Accounting Institute

Journal of Business Ethics, 2018, vol. 147, issue 3, No 6, 565-593

Abstract: Abstract Using the presence of at least one client with net-income-increasing misstatement as a signal of low audit quality for an audit firm, this study examines the existence of the contagion effect of low audit quality and further investigates whether financial distress and investment opportunity as two firm-specific financial characteristics moderate the contagion effect of low audit quality. Using a sample of 7887 firm-year observations from the Chinese stock market over the period of 2007–2012, our study documents strong and consistent evidence to show that (1) other clients audited by low-quality audit firms have significantly higher discretionary accruals (the existence of the contagion effect); (2) financial distress reinforces the contagion effect of low audit quality; (3) investment opportunity strengthens the contagion effect of low audit quality; (4) the contagion effect of low audit quality persists over subsequent years for clients, and both financial distress and investment opportunity reinforce the contagion effect of misstatement to future misstatement. Above results are robust to a variety of sensitivity tests and are still valid after using the change model to control for the potential endogeneity. This study extends the previous literature on the contagion effect of low audit quality (misstatement) across audit firms.

Keywords: Contagion effect; Misstatement; Audit quality; Financial distress; Investment opportunity (search for similar items in EconPapers)
Date: 2018
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (10)

Downloads: (external link)
http://link.springer.com/10.1007/s10551-015-2986-5 Abstract (text/html)
Access to full text is restricted to subscribers.

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:kap:jbuset:v:147:y:2018:i:3:d:10.1007_s10551-015-2986-5

Ordering information: This journal article can be ordered from
http://www.springer. ... cs/journal/10551/PS2

DOI: 10.1007/s10551-015-2986-5

Access Statistics for this article

Journal of Business Ethics is currently edited by Michelle Greenwood and R. Edward Freeman

More articles in Journal of Business Ethics from Springer
Bibliographic data for series maintained by Sonal Shukla () and Springer Nature Abstracting and Indexing ().