Two essays on audit firm differentiation




Aguir, Wael

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This dissertation examines strategies undertaken by accounting firms to differentiate their auditing services. It consists of two essays. In the first essay, I investigate audit firm reputation as a differentiation strategy. In particular, I examine whether audit firm reputation has an effect on the perceived credibility of financial reports. I add to the debate on the topic by devising a new, direct measure for auditor reputation change. I then use this measure in empirical tests using a valuation model and a cost of capital test.

In the second essay, I examine industry specialization as a strategy some accounting firms undertake to differentiate their services. Specifically, I investigate whether audit firms market their industry expertise to client companies with high levels of accrual intensity.

The main findings of the dissertation are summarized as follows. In the first essay, I find modest confirmation that auditor reputation changes are positively associated with changes in earnings response coefficients. On the other hand, the cost of capital analysis provides a stronger insight into the question, as findings suggest that client firms with higher reputation change score overall enjoy lower cost of equity capital.

The results from the second essay provide evidence that client firms with high levels of accruals are less likely to be audited by industry specialist accounting firms. One possible explanation can be that these firms are regarded as riskier for auditors who prefer to avoid problems that might arise in the course of their audit and that might spoil their industry specialization differentiation strategy.

In sum, I find that some audit firms do undertake differentiation strategies to stand out in a competitive auditing market. I find that auditor reputation has a positive effect on the credibility of client firms' financial statements, and that it is associated with lower cost of capital. I also find that audit firms that specialize in particular industries try to avoid risky engagements that would undermine their differentiation strategies.


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Audit services differentiation, Auditing, Auditor Industry Specialization, Auditor reputation