Audit fee lowballing and price recovery - evidence from Finland

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School of Business | Master's thesis
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Degree programme
The goals of my study are twofold: first, to see whether lowballing exists in the Finnish audit market and second, if lowballing occurs, how long it takes for the audit fees to return to their “normal” level. Also, the implications of lowballing on auditor independence are assessed on a high level. In addition to the previous, my study also aims to provide information about the structure of the Finnish audit market: the market shares, winners and losers of recent audit tenders and the types of auditor switches. This study will contribute to the existing audit fee literature by assessing the topic of audit fee behaviour both during and after initial audits i.e. lowballing and price recovery. The study is quantitative by nature and relies on firm-specific financial statement that data was collected from the Orbis database as well as from the financial statements of the individ-ual companies. The scope of this study is limited to Finnish TE500-listed firm between 2009 and 2012. The final sample consists of 1640 firm-years, 90 auditor switches and 462 unique companies. The data is analysed using an unbalanced fixed-effects panel data regression through a model based initially on the work of Simunic (1980). My results were consistent with the main body of the prior literature. Audit fee lowballing does exist in Finland. On average, auditor switching lowers audit fees by approximately 11 % in the year of the switch. After controlling the model for heteroskedasticity and autocorrelation, lowballing was still observed, but price recovery was only reported to take one year. My find-ings also indicate that audit fee lowballing is a result of market competition and does not im-pair auditor independence. This study also provides information of the general composition of the Finnish audit market among large Finnish companies. As expected, the Big 4 firms dominate the audit market in Finnish TE500 companies. Reflecting the market shares, 79 % of the switches observed in the study occurred between two Big 4 firms. On average, companies switching auditors were smaller in terms of total assets and were charged lower audit fees as well. However, when adjusted for size, the audit fees paid by firms that switched auditors were relatively larger than those of their comparison group.
Thesis advisor
Niemi, Lasse
lowballing, audit fee recovery, audit pricing, auditor switching, Finnish audit market, auditor independence
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