Abstract

Keywords

۱٫ Introduction

۲٫ PCAOB registration, literature review, and hypothesis development

۳٫ Sample and research design

۴٫ Results

۵٫ Conclusion

Data availability

Declaration of Competing Interest

Acknowledgement

Appendix.

References

Abstract

Despite the importance of registration with the PCAOB, there is surprisingly little academic research on the registration process and its impact on audit outcomes (Abernathy et al., 2013). The PCAOB allows registration of audit firms from non-US countries. However, China and a few other countries do not allow the PCAOB to conduct inspections of audit firms. We take advantage of this setting to investigate whether PCAOB-registered audit firms improve audit quality in the absence of inspections and whether they charge an audit fee premium. Our findings indicate that audit quality increases following PCAOB registration and that clients pay higher audit fees for audits by PCAOB-registered firms.

۱٫ Introduction

Following the high-profile audit failures of Enron, WorldCom, Sunbeam, and other companies, the Sarbanes-Oxley Act of 2002 (SOX) created the Public Company Accounting Oversight Board (PCAOB) to oversee the auditing industry. Under SOX, audit firms, including non-U.S. firms that audit or play a substantial role in the audit of clients listed on U.S. stock exchanges, are subject to oversight by the PCAOB. Although PCAOB regulations require inspection of both U.S. and non-U.S. registered audit firms, legal constraints have prevented the PCAOB from inspecting registered audit firms in China. Interestingly, despite these restrictions on PCAOB inspections, some audit firms in China have nevertheless chosen to register with the PCAOB. We examine whether the audit quality of PCAOB-registered audit firms improves and whether the audit fees paid to the auditors increase following PCAOB registration.

Since its inception, the PCAOB and its activities have attracted considerable attention from academics. One widely debated question that has been studied is whether PCAOB inspections are effective at improving audit quality. Critics argue that although PCAOB inspectors may be more independent, PCAOB inspections may not improve audit quality because peer review inspectors may possess greater expertise.1 Academic research on the effects of PCAOB inspections generally finds that they have a positive impact on audit quality (e.g., Carcello et al., 2011, Defond and Lennox, 2017) and that PCAOB inspection reports provide signals about audit quality (e.g., Dee et al., 2011, Abbott et al., 2013, Gunny and Zhang, 2013). We add to research on the impact of the PCAOB by examining whether PCAOB registration is associated with increased audit quality in China, a country where inspections are not allowed. Given the weak institutional environment in China, client firms may attempt to communicate the reliability of their financial reports by hiring a credible auditor. Employing a PCAOB-registered auditor may be an approach that client firms take to signal the reliability of their financial statements. Further, if clients value audit firm association with the PCAOB, they may be willing to pay an audit fee premium.