Essays on Audit Pricing

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School of Business | Doctoral thesis (article-based) | Defence date: 2003-04-25
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[116] s.
Acta Universitatis oeconomicae Helsingiensis. A, 212
The objective of this dissertation is to contribute to the audit pricing literature through three interrelated essays. The purpose of the first essay is to test whether an audit fee bears a premium for the auditor's client-specific business risk. Using unique proprietary audit fee and hour data from four large audit firms with international reputation, the essay documents, first in the literature, the existence of risk premiums in actual audit fees after direct control for audit effort through actual audit hours. More specifically, the findings suggest that when an auditor's client-specific business risk is higher than average, or the client is a listed company, the fee contains a risk premium. In addition, new clients were found to pay higher fees after controlling for audit work. However, no evidence supporting the existence of risk premiums due to the client's financial distress could be found. On the contrary, the results provide some evidence suggesting that the loss-making clients pay lower fees than their better performing counterparts. The second essay examines the link between the ownership type of an audit client firm and its audit fee. Literature on the separation of ownership and control suggests, in essence, that the ownership type has an impact on the demand for assurance that accounting numbers are presented fairly (i.e. for audit quality), and the nature of the information and reporting systems of a firm, thereby being reflected in the scope of the audit. Building on this literature, two hypotheses are tested according to which audit effort and fees are 1) lower for the companies owned by their management and 2) higher for the subsidiaries of foreign companies than for other firms. Data that enables the classification of ownership type, taking into account both direct and indirect ownership were combined with the proprietary audit hour and fee data from four audit firms. The findings of the essay support the hypothesised negative association between managerial ownership and audit effort and fees. In addition, the subsidiaries of foreign companies were found to pay higher fees than other companies in the sample. However, further examination revealed that the significance of this positive association was driven by audits of one audit firm. The third essay examines the relationship between auditor characteristics that are assumed to relate to auditor quality and auditors’ remuneration among small audit firms. Previous research links auditor independence, a key element of audit quality, to auditor size, and consequently suggests a positive association between audit quality and auditor size. Using a sample of hourly billing rates of over one hundred small Finnish audit firms, the essay documents a positive association between audit pricing and auditor size. It seems that, in addition to auditor size, technical capability increases auditor remuneration; auditor characteristics such as the level of education, the working experience and the certification type are found to be positively associated with hourly fee rates. In sum, the results suggest that product differentiation also takes place among small audit firms.
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Riistama, Veijo, docent
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