Audit-Firm Profitability: Determinants and Implications for Audit Outcomes
Peer reviewed, Journal article
MetadataShow full item record
- Scientific articles 
Original versionEuropean Accounting Review. 2023, . 10.1080/09638180.2023.2169735
We use a novel dataset that links audit-firm and client-firm financial statement information from the U.K.’s largest audit firms to examine drivers of audit-firm profitability and its implications for audit outcomes. We first explore the determinants of audit-firm profitability and conclude that Big-4 and non-Big-4 audit firms have fundamentally different profitability structures. Big-4 firms have higher profit margins than non-Big-4 firms. Furthermore, Big-4 profitability increases with client size and complexity, while non-Big-4 profitability is higher for smaller, private-firm clients. Next, we examine the relation between audit-firm profitability and audit outcomes. Using a battery of alternative outcome measures, we find that more profitable audit firms deliver higher audit quality. In supplemental analyses we show that the positive relation between audit-firm profitability and audit outcomes is generally stronger for more influential and illiquid clients (i.e. when auditors are exposed to more litigation risk). Our inferences are robust to several endogeneity controls, such as using an instrumental variables approach, controlling for client-firm and audit-firm fixed effects, employing lead-lag and changes specifications, and assessing bias from correlated omitted variables. Our study contributes to the literature by being the first to provide insights into audit-firm profitability and examine in detail its implications for audit quality.
PublisherTaylor & Francis
JournalEuropean Accounting Review
CopyrightTaylor & Francis
Except where otherwise noted, this item's license is described as Navngivelse-Ikkekommersiell 4.0 Internasjonal
Showing items related by title, author, creator and subject.
Cahan, Steven F.; Che, Limei; Knechel, W. Robert; Svanstrøm, Tobias (Peer reviewed; Journal article, 2022)We examine how the extent and distribution of industry knowledge within an audit team affectaudit outcomes. While prior research examining the role of auditors’industry knowledge focusesmainly on auditfirms, audit offices, ...
Cahan, Steven F.; Che, Limei; Knechel, W. Robert; Svanstrøm, Tobias (Peer reviewed; Journal article, 2022)We examine how the extent and distribution of industry knowledge within an audit team affect audit outcomes. While prior research examining the role of auditors' industry knowledge focuses mainly on audit firms, audit ...
Audit office size, audit quality and audit pricing: evidence from small- and medium-sized enterprises Sundgren, Stefan; Svanström, Tobias (Journal article; Peer reviewed, 2013)Using Swedish data we investigate how audit quality and audit pricing vary with audit firm and office size. In contrast to prior studies, we use disciplinary sanctions issued against auditors not meeting the quality ...