Reichelt Article Examines Auditor Quality, Auditor Tenure and Legal Regime
May 26, 2016
BATON ROUGE – Countries with stronger investor protection experience a delayed decline in audit quality over the tenure of their auditor. This is the conclusion of a recent study by Associate Accounting Professor Ken Reichelt, co-authored with C.S. Agnes Cheng of Hong Kong Polytechnic University, and two graduates of the LSU Department of Accounting’s PhD program – Joseph A. Johnston and Lily Z. Brooks.
The article is titled “Estimates of Optimal Audit Firm Tenure Across Different Legal
Regimes” and will appear in The Journal of Accounting, Auditing & Finance.
“The Journal of Accounting, Auditing & Finance is a high-quality, peer-reviewed journal in our field,” Reichelt said. “I am grateful for the support of the editor and am particularly thankful for the creativity, hard work, and perseverance of my co-authors.”
Prior studies have found that audit quality initially increases with the tenure of the audit firm; however, in later years, audit quality declines as economic bonding increases with the client. The study characterizes the relationship of audit quality and audit firm tenure as a concave function, following prior studies, and finds that the eventual decline in audit quality is more delayed in countries with stronger investor protection.
The authors developed a model that predicts the optimal time to change auditor firms (the reference point) is between the highest and the lowest points of audit quality on, holding switching costs constant. Empirical analysis of 22 countries (1996 to 2009) shows that the reference point is approximately 24 years for countries with high investor protection and 14 years for countries with low investor protection.
Surprisingly, the data show that very few clients ever reach the reference point, bringing in to question the necessity of mandated efforts by regulators to require periodic audit firm rotation as a means to improve audit quality and investor protection. The study should be of interest to regulators around the world who have mandatory audit firm rotation on their agenda.
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