Does Market Value Auditor’s Industry Expertise? Evidence from Restatements Setting

• In Event: Auditing 1

Abstract

This study investigates whether an auditor’s reputation as an industry specialist adds value to its clients in the capital market. More specifically, we examine whether the auditor’s industry-specific reputation is damaged in the case of restatement. We find that the auditor’s reputation as a city-level industry specialist is damaged in the event of an audit failure and such an effect is more pronounced when there are frauds involved in the restatements. We also find that the auditor’s reputation as a national-level industry specialist is damaged only when (i) the restatement involves fraud, (ii) the restating firm experiences large share price declines, or (iii) the restating firm is large. In sum, investors discount auditor’s city level industry reputation when they observe a restatement whereas the national level industry reputation gets discounted only when the restatement is severe. The results are important as they demonstrate that auditors’ industry expertise is an important factor considered by investors in valuation. In addition, our results highlight differences in industry leadership at the national and city levels.

Authors

• Amy E. Ji, Saint Joseph's University

• Hang Pei, George Washington University

• Krishna R Kumar, George Washington University