Auditing Section Research Summaries Space

A Database of Auditing Research - Building Bridges with Practice

This is a public Custom Hive  public

research summary

    The Effect of Corporate Governance on Auditor-Client...
    research summary posted November 10, 2014 by Jennifer M Mueller-Phillips, tagged 02.0 Client Acceptance and Continuance, 02.02 Client Risk Assessment, 13.0 Governance 
    The Effect of Corporate Governance on Auditor-Client Realignments
    Practical Implications:

    The results of this study are important for audit firms and regulators because it documents a potentially negative outcome of the realignment activity observed in the years surrounding implementation of SOX. Specifically, this realignment activity could have implications for the quality of financial statements if the corporate governance characteristics included in our index –specifically, board and audit committee independence, diligence and expertise are positively associated with financial reporting quality and Big N audit firms provide higher audit quality.  We also note that prior studies that consider these governance characteristics suggest that, on average, clients that exhibit higher scores on these characteristics are less likely to pose significant governance risk for the audit firm.


    For more information on this study, please contact Thomas Omer.


    Cassell C. A., G.A. Giroux, L.A. Myers and T.C. Omer. 2012. The effect of corporate governance on auditor-client realignments. Auditing: A Journal of Practice & Theory 31 (2): 167-188

    Corporate governance, auditor-client realignments, audit risk, financial risk, litigation risk, earnings manipulation risk, discretionary accruals, Sarbanes-Oxley Act of 2002
    Purpose of the Study:

    The purpose of this paper was to investigate the client characteristics associated with auditor-client realignments.  The Sarbanes-Oxley Act of 2002 resulted in a massive restructuring of the audit market and the transfer of large numbers of clients from Big N to Non-Big N audit firms.  The study examines the extent to which corporate governance affected the switch downward from Big N to Non-Big N audit firms and is motivated by the intense media and regulatory scrutiny of corporate governance-related issues during the years leading up to and surrounding the implementation of SOX.

    Design/Method/ Approach:

    Data for the study was collected from publicly available sources for the period 2000-2007 for Big N clients that switched to Non-Big N audit firms and a matched sample of Big N clients that did not switch audit firms.  In addition to including in the model three risk factors considered in decisions to accept or drop clients (litigation, financial and earnings manipulation risk) we construct an index of corporate governance to determine the extent to which corporate governance determined the extent clients changed audit firms before and after the passage and implementation of SOX.

    • Our results suggest that corporate governance is an important mechanism considered by Big N auditors when making decisions about their client portfolio.  Thus, client decisions are based in part on the perceived quality of the clients’ corporate governance with Big N audit firms accepting fewer clients with less desirable governance characteristics.
    • We find the corporate governance effect both pre and post SOX but the effect is somewhat attenuated post SOX but primarily because of the audit committee-related components of corporate governance.
    • We posit that the attenuating affect of the audit committee-related components of corporate governance occurs because SOX reduced the cross-sectional variability in the quality of audit committees.
    Client Acceptance and Continuance, Governance
    Client Risk Assessment