We examine how audit partners' geographic proximity to clients affects audit quality. We use hand‐collected data to show that approximately half of audit partners are assigned to clients headquartered more than 100 km away from the partners' home locations. Few of these partners relocate after receiving their assignments and, as a result, more than one‐third of clients are audited by partners who must commute long distances to visit the client in person. We explore this phenomenon by first modeling how distance affects partner‐client matching. We find that partners' geographic proximity to a prospective client is an important matching criterion, but also that trade‐offs are made when other partner characteristics such as industry specialization are more likely to be important. Next, consistent with our prediction, we show that audit quality is lower when partners reside farther from their clients. We corroborate our primary findings by showing that the association between partner distance and audit quality is mitigated when partners have access to direct flights to their clients' headquarters and when clients are geographically dispersed. Our paper should be informative for regulators, practicing auditors, and academics interested in how partner‐client matching affects audit outcomes.

The development of both brand name reputation and industry specialization by Big 8 auditors is argued to be costly and therefore to increase audit fees. For a sample of 1484 Australian publicly listed companies we estimate audit fee premia for Big 8 auditors. On average, industry specialist Big 8 auditors earn a 34% premium over nonspecialist Big 8 auditors, and the Big 8 brand name premium over non-Big 8 auditors averages around 30%. These results support that industry expertise is a dimension of the demand for higher quality Big 8 audits and a basis for within Big 8 product differentiation.

We investigate if the existence of low-quality audits in an auditor office indicates the presence of a “contagion effect” on the quality of other (concurrent) audits conducted by the office. A low-quality audit is defined as the presence of one or more clients with overstated earnings that were subsequently corrected by a downward restatement. We document that the quality of audited earnings (abnormal accruals) is lower for clients in these office-years (when the misreporting occurred) compared to a control sample of office-years with no restatements. This effect lasts for up to five subsequent years, indicating that audit firms do not immediately rectify the problems that caused contagion. We also find that an office-year with client misreporting is likely to have subsequent (new) client restatements over the next five fiscal years. Overall, the evidence suggests that certain auditor offices have systematic audit-quality problems and that these problems persist over time. Data Availability: All data are publicly available.

Larger offices of Big 4 auditors are predicted to have higher quality audits for SEC registrants due to greater in-house experience in administering such audits. We test this prediction by examining a sample of 6,568 U.S. firm-year observations for the period 2003–2005 and audited by 285 unique Big 4 offices. Results are consistent with larger offices providing higher quality audits. Specifically, larger offices are more likely to issue going-concern audit reports, and clients in larger offices evidence less aggressive earnings management behavior. These findings are robust to extensive controls for client risk factors and to controls for other auditor characteristics. While the evidence suggests audit quality is higher on average in larger Big 4 offices, we make no claims that audit quality is unacceptably low in smaller offices.

The Commission on Auditors' Responsibilities expressed concern for the adverse effect of audit fee price cutting on auditor independence. In the present study, tests were conducted to determine both the presence and magnitude of audit fee price cutting on 1984 audit fees for a sample of 214 firms having changed auditors over the period 1979–1984. A control sample of 226 firms not changing auditors over the same period was used in order to estimate price cutting. Results indicated a significant fee reduction in the initial engagement year that averaged 24 percent of normal fee levels for ongoing engagements, an average fee reduction of 15 percent for each of the next two years, but by the fourth year of the new auditor the fee had increased to normal levels for continuing engagements. The Commission's concern for price cutting's effect on auditor Independence is then reconsidered in the context of recent work on the psychology of sunk costs.

Simunic [1980] and Palmrose [1986, Appendix A] report contradictory findings about a Big Eight auditor price premium In the "small" auditee segment of the U.S. audit market for publicly-traded companies. The study reported here finds that a Big Eight price premium exists and that the premium exists with respect to both second-tier national firms and local/regional firms. The existence of a price premium Implies Big Eight product differentiation, at least in the "small" auditee market segment. A separate test is made of initial audit engagements. Tests indicate that initial engagements are priced significantly lower than continuing engagements, which supports recent reports of price-cutting behavior. However, no inference is made about the effect of price-cutting on audit quality.

Our study reports evidence on the dynamic effects of client switches on auditor reputations and fee premia. Offices of large accounting firms that lose (gain) major industry clients experience a reputation shock leading to more same‐industry client losses (gains) over the next two years. There is also a shift in audit fees charged to other same‐industry clients when a major client loss (gain) results in an audit office losing (gaining) city‐level industry leadership. A major client loss or gain also creates a short‐term capacity shock to an audit office's ability to supply high‐quality audits. However, there is no evidence of reputation spillovers to other‐industry clients in the audit office, or to clients in other offices of the accounting firm.

Prior research predicts that firms reliant on external financing are more likely to undertake a higher level of disclosure, and a higher disclosure level should, in turn, lead to a lower cost of external financing. This paper tests these predictions outside the United States where alternative legal and financial systems could mitigate the effectiveness of such disclosures and, comprehensively, examines both disclosure incentives and disclosure consequences on cost of capital for a common set of firms. Using a sample from 34 countries, we find that firms in industries with greater external financing needs have higher voluntary disclosure levels, and that an expanded disclosure policy for these firms leads to a lower cost of both debt and equity capital. Crosscountry differences in legal and financial systems affect observed disclosure levels in predicted ways. However, a surprising result in the study is that voluntary disclosure incentives appear to operate independently of country-level factors, which suggests the effectiveness of voluntary disclosure in gaining access to lower cost external financing around the world.

This study examines the role of auditor industry expertise in the pricing of Big 5 audits in Australia. We test if the audit market prices an auditor's firm-wide industry expertise, or alternatively if the audit market only prices office-level expertise in those specific cities where the auditor is the industry leader. We document that there is an average premium of 24 percent associated with industry expertise when the auditor is both the city-specific industry leader and one of the top two firms nationally in the industry. However, the top two firms nationally do not earn a premium in cities where they are not city leaders. We further document that national leadership rankings are, in fact, driven by the specific offices where accounting firms are city leaders. Thus, the overall evidence supports that the market perception and pricing of industry expertise in Australia is primarily based on office-level industry leadership in city-specific audit markets.

We investigate whether firms' tax planning affects the accuracy of analysts' forecasts. Tax planning can exacerbate the complexity of firms' operations through strategic choices to exploit tax laws. Because of its effect on firms' operations, tax planning can influence analysts' efforts to understand and forecast earnings. Specifically, if the additional complexity arising from tax planning makes firm attributes less representative of expected earnings, analysts may issue less accurate forecasts. Using auditor‐provided tax services (APTS) as a measure of tax planning, we find that, as firms spend more on tax planning, the accuracy of analysts' forecasts of both earnings per share and tax expense declines. We also document that firms with higher levels of APTS have greater year‐to‐year volatility in, and lower persistence of, effective tax rates and earnings. Our results suggest that increased firm complexity, due to greater tax planning, makes earnings and tax expense more difficult to forecast and that analysts do not properly adjust for these effects. Thus, when deciding to engage in tax planning, firms appear to make trade‐offs between potential tax savings and negative effects on earnings properties and analysts' forecasts.