This study examines the relation between audit personnel salaries and officelevel audit quality. We measure audit personnel salaries at the associate, senior, and manager ranks for Big 4 audit offices from 2004 to 2013, using unique individualauditor-level data obtained from the U.S. Department of Labor. We find that offices that pay lower salaries have a higher percentage of clients that experience restatements. In related analyses, we also find lower levels of audit quality when audit employees are paid less, relative to other lines of service in accounting firms. Finally, we document positive and significant associations between salary and fees, suggesting that audit offices pass some of the cost of higher labor onto their clients. Overall, our findings provide important initial evidence on the role of audit salary and its relation to audit quality and audit fees.

Introduction

In recent years, the auditing profession has undergone significant changes, and the work required to perform public company financial statement audits has increased substantially. Despite increased expectations, workloads, and complexity (Laux and Leuz 2009; Persellin et al. 2015; Hanson 2013), anecdotal evidence suggests auditors’ real starting salaries have remained relatively unchanged and have underperformed alternative career options (e.g., consulting, tax, and corporate accounting). Given that audit personnel (e.g. associates, seniors, and managers) play a critical role in the audit process, it is important to understand how the profession can incentivize and attract high quality auditors (DeFond and Zhang 2014). Even though compensation is likely to be an important incentive, our understanding of whether salaries influence audit quality is limited to a few studies on audit partner compensation (e.g., Carcello et al. 2000; Knechel et al. 2013) and anecdotal evidence. Using a unique data set of audit personnel salaries, we seek to better understand how the salaries of audit professionals relate to audit office quality and how this relationship varies with the attractiveness of alternative career options within accounting firms. Ex ante, the relation between audit personnel salary and audit quality is not clear. On the one hand, efficiency wage theories imply that higher wages should improve audit personnel productivity by motivating greater effort from audit personnel and/or by attracting higher quality personnel, because providing an above market-clearing wage makes it more costly for employees to switch to alternative lower-paying jobs (Akerlof 1984; Yellen 1984; Akerlof and Yellen 1986; Shapiro and Stiglitz 1984; Levine 1993).1 Thus, if higher salaries help attract or retain higher quality audit personnel, we expect audit personnel salaries to be positively related to audit quality. This finding would also be consistent with regulatory claims that stagnant salaries in the audit profession are reducing worker quality in the audit industry, as accounting majors avoid becoming auditors and instead become tax accountants or consultants.2 On the other hand, neoclassical views of the firm suggest that employees are homogenous and substitutable inputs into the production process, allowing little to no role for individuals to influence outcomes of the firm (Weintraub 2002; Bertrand and Schoar 2003; Bamber et al. 2010; Dyreng et al. 2010).