[The relation between audit opinions and auditor switching has received considerable attention in recent years. Chow and Rice (1982) report a positive association between a firm's propensity to switch auditors and the receipt of a qualified opinion in the year prior to the switch. 1 However, firms that switch auditors do not seem to receive "improved" opinions in the year following the switch (Chow and Rice 1982; Smith 1986). Despite this evidence, the Securities and Exchange Commission (e.g., Release No. 33-6594 [1985] and Financial Reporting Release No. 34 [1989]) and the popular financial press (e.g., Power 1984) continue to express concerns about opinion shopping. This study focuses on the auditor's opinion formulation process for switching and non-switching clients in the year prior to the switch. In particular, it examines the possibility that auditor switches are triggered not by the receipt of qualified opinions, but by auditors' use of conservative judgments for some clients. While conservatism refers to a number of accounting and auditing issues, the overall conservatism of the auditor is assumed to be reflected in a tendency to issue qualified opinions. An ordered probit model of the qualification decision is estimated with different threshold values for prospective switchers and non-switchers measuring different judgments applied to the two groups of clients. The results support the hypothesis that threshold values for switchers are significantly lower (more conservative) than those for non-switchers. Further analysis of switching patterns suggests that when qualified opinions are based on conservative standards, the switching rate is higher than when average standards are applied. The observed conservatism could be the auditor's reaction to negative private information gathered during the audit that makes continued association with the client uneconomical or undesirable. However, the evidence indicating that opinions do not improve after switches suggests that opinion shopping is generally futile. This condition may exist because private information is obtained during the audit process, and a client usually will not be able to shop for a less conservative auditor with a prior commitment of a favorable treatment. Recent concerns about opinion shopping and its effect on auditor independence may therefore not be justified.]

[Litigation against auditors has increased dramatically in recent years. Auditors can offset litigation risk in a number of ways, including improved audit quality and planning, increases in audit fees and increases in the issuance of modified opinions. Auditors can also adjust their client portfolios by becoming more selective in their choice of new clients and by withdrawing from high-risk engagements. We test the hypothesis that litigation risk motivates auditor resignations by comparing resignation companies with two groups of client companies that dismissed their auditors: one matched with the resignation companies on industry and year, and the other matched on year alone. We find resignation companies differ from dismissal companies along dimensions that capture the probability of litigation: financial distress, variance of abnormal returns, auditor independence, tenure and a modified (particularly going-concern) opinion. We also construct a litigation proxy based on a prior litigation-prediction model and find that the proxy is positively associated with the probability that the auditor will resign rather than be dismissed from the engagement. Our analysis is consistent with concerns expressed by the accounting profession that litigation pressures lead to the withdrawal of audit services for a segment of the market.]

Suggests that auditor switching is triggered by conservative treatment rather than by the issuance of qualified opinion. Relation between audit opinions and auditors switching; Auditors' use of conservative judgement; Analysis of switching patterns; Empirical model testing auditor conservatism.

Accounting accruals are managers' subjective estimates of future outcomes and cannot, by definition, be objectively verified by auditors prior to occurrence. This causes audits of high‐accrual firms to pose more uncertainty than audits of low‐accrual firms because of potential estimation error and a greater chance that high‐accrual firms have undetected asset realization and/or going concern problems that are related to the high level of accruals. One way that auditors can compensate for this risk exposure is to lower their threshold for issuing modified audit reports, an action that will increase modified reports and, therefore, lessen the likelihood of failing to issue a modified report when appropriate. We call this auditor reporting conservatism and test if high‐accrual firms in the United States, are more likely to receive modified audit reports for asset realization uncertainties and going concern problems. Empirical results for a large sample of U.S. publicly listed companies support the hypothesis that auditors are more conservative, that is, more likely to issue both types of modified audit reports for high‐accrual firms. Further analyses show that income‐increasing accruals are somewhat more likely to result in reporting conservatism than income‐decreasing accruals, and that only the Big Six group of auditors show evidence of reporting conservatism. These findings add to our understanding of the audit report formation process and the potentially important role played by accounting accruals in that process.

Litigation against auditors has increased dramatically in recent years. Auditors can offset litigation risk in a number of ways, including improved audit quality and planning, increases in audit fees and increases in the issuance of modified opinions. Auditors can also adjust their client portfolios by becoming more selective in their choice of new clients and by withdrawing from high-risk engagements. We test the hypothesis that litigation risk motivates auditor resignations by comparing resignation companies with two groups of client companies that dismissed their auditors: one matched with the resignation companies on industry and year, and the other matched on year alone. We find resignation companies differ from dismissal companies along dimensions that capture the probability of litigation: financial distress, variance of abnormal returns, auditor independence, tenure and a modified (particularly going-concern) opinion. We also construct a litigation proxy based on a prior litigation-prediction model and find that the proxy is positively associated with the probability that the auditor will resign rather than be dismissed from the engagement. Our analysis is consistent with concerns expressed by the accounting profession that litigation pressures lead to the withdrawal of audit services for a segment of the market.

We examine whether auditor political connections are associated with the SEC's oversight of audit clients . Specifically, we test whether auditors' political action committee contributions are associated with three SEC oversight actions: comment letters, investigations, and Accounting and Auditing Enforcement Releases (AAERs). Consistent with higher political connections inducing heightened scrutiny from the SEC, we find that the clients of auditors with higher political connections are more likely to receive comment letters and face SEC investigations. However, conditional on SEC investigation, we find no association between auditor political connections and the issuance of AAERs. We consider heightened attention from investors and analysts toward audit clients as one possible mechanism leading to increased SEC scrutiny because auditor political connections could be perceived as a red flag. Using EDGAR downloads and the number of earnings forecast revisions, we document evidence consistent with the existence of this mechanism. These findings add to our understanding of how auditor political connections could influence SEC oversight over audit clients.

We investigate the impact of the Public Company Accounting Oversight Board's (PCAOB) first-time inspections of foreign accounting firms by examining abnormal accruals around the inspection year, and the value relevance of accounting numbers around the inspection report date, for their U.S. cross-listed clients. We document lower abnormal accruals in the post-inspection period, and greater value relevance of accounting numbers in the post-report period for clients of the inspected auditors, compared with non-cross-listed clients or clients of non-inspected auditors within the inspected countries. Comparisons of the PCAOB's joint inspections with PCAOB stand-alone inspections indicate that while both experience lower post-inspection abnormal accruals, the former benefit more than the latter. The value relevance measure, in contrast, shows greater increases for the PCAOB stand-alone inspections than for joint inspections. Comparing the inspection effects for auditors with and without deficiency reports, we find no systematic differences for accruals or for value relevance.

We present the first comprehensive descriptive evidence on the labor market and personal consequences for audit professionals in the United States who are named in SEC or PCAOB enforcement actions. Three key findings emerge. First, between 38% and 73% of culpable auditors depart from their firms within one year after the enforcement event. These departure rates are three to four times higher compared with a sample of non‐culpable auditors. Second, 83% of culpable auditors departing from Big 4 accounting firms exit the profession, compared with 58% of a departing non‐culpable comparison group. In contrast, about 77% of the culpable auditors leaving non–Big 4 accounting firms remain in public accounting, compared with 51% of a departing non‐culpable comparison group. Third, using novel data on personal real estate holdings, we find that culpable auditors do not appear to engage in markedly different transactions around enforcement compared with a comparison sample of non‐culpable individuals.