Opinion Shopping and Audit Committees

This paper tests whether companies engage in opinion shopping and examines the role of audit committees when auditors are dismissed (1996-98). There are three findings. First, US companies strategically dismiss when incumbent auditors are more likely to issue unfavorable audit opinions compared to newly appointed auditors. I estimate opinion shopping motivates 17% of auditor dismissals, and I find opinion shopping dismissals occur significantly later in the reporting period than other dismissals. Second, audit committees are more likely to disapprove of auditor dismissals that are motivated by opinion shopping. This is consistent with the argument that audit committees help maintain the integrity of the audit reporting process. Third, independent audit committee members are more likely to leave committees that disapprove of opinion shopping. This suggests either senior management dismiss audit committee members who oppose opinion shopping, or committee members resign because they do not wish to be associated with opinion shopping. * I owe thanks to Eric Falkenstein at Moody’s for providing data on corporate defaults. I am grateful for comments from Mike Adams, Gary Biddle, Kevin Chen, Jong Choi, Elisabeth Dedman, Jim Frederickson, Lee-Seok Hwang, Jen Ireland, Chul Park, Scott Whisenant, TJ Wong, and seminar participants at Chinese University of Hong Kong, City University (Hong Kong), Hong Kong Polytechnic University, and Hong Kong University of Science and Technology. The research is carried out under the auspices of the Institute of Chartered Accountants in Scotland and is funded by The Scottish Accountancy Research Trust and Hong Kong University of Science and Technology. I would also like to thank Angel Chu, Licardo Chan and Dammi Sze for their research assistance. Any remaining errors are my own. Tel: +852-23587571. E-mail: [email protected] Opinion Shopping and Audit Committees Abstract This paper tests whether companies engage in opinion shopping and examines the role of audit committees when auditors are dismissed (1996-98). There are three findings. First, US companies strategically dismiss when incumbent auditors are more likely to issue unfavorable audit opinions compared to newly appointed auditors. I estimate opinion shopping motivates 17% of auditor dismissals, and I find opinion shopping dismissals occur significantly later in the reporting period than other dismissals. Second, audit committees are more likely to disapprove of auditor dismissals that are motivated by opinion shopping. This is consistent with the argument that audit committees help maintain the integrity of the audit reporting process. Third, independent audit committee members are more likely to leave committees that disapprove of opinion shopping. This suggests either senior management dismiss audit committee members who oppose opinion shopping, or committee members resign because they do not wish to be associated with opinion shopping.This paper tests whether companies engage in opinion shopping and examines the role of audit committees when auditors are dismissed (1996-98). There are three findings. First, US companies strategically dismiss when incumbent auditors are more likely to issue unfavorable audit opinions compared to newly appointed auditors. I estimate opinion shopping motivates 17% of auditor dismissals, and I find opinion shopping dismissals occur significantly later in the reporting period than other dismissals. Second, audit committees are more likely to disapprove of auditor dismissals that are motivated by opinion shopping. This is consistent with the argument that audit committees help maintain the integrity of the audit reporting process. Third, independent audit committee members are more likely to leave committees that disapprove of opinion shopping. This suggests either senior management dismiss audit committee members who oppose opinion shopping, or committee members resign because they do not wish to be associated with opinion shopping. * I owe thanks to Eric Falkenstein at Moody’s for providing data on corporate defaults. I am grateful for comments from Mike Adams, Gary Biddle, Kevin Chen, Jong Choi, Elisabeth Dedman, Jim Frederickson, Lee-Seok Hwang, Jen Ireland, Chul Park, Scott Whisenant, TJ Wong, and seminar participants at Chinese University of Hong Kong, City University (Hong Kong), Hong Kong Polytechnic University, and Hong Kong University of Science and Technology. The research is carried out under the auspices of the Institute of Chartered Accountants in Scotland and is funded by The Scottish Accountancy Research Trust and Hong Kong University of Science and Technology. I would also like to thank Angel Chu, Licardo Chan and Dammi Sze for their research assistance. Any remaining errors are my own. Tel: +852-23587571. E-mail: [email protected]