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Blind Spots: PCAOB Inspection Access and Auditor Reporting Conservatism

Sat, January 19, 3:45 to 5:15pm, TBA

Abstract

The Sarbanes-Oxley Act of 2002 (SOX) created and mandated the Public Company Accounting Oversight Board (PCAOB) to inspect all foreign and domestic auditors of SEC registrants. Despite this mandate, certain governments prohibit PCAOB inspection of local auditors citing sovereign control. This unique setting provides an opportunity to observe cross-sectional variation in the reach of the inspection program and isolate the impact of the inspection program. An analysis of this nature cannot be done using US data alone as all US auditors of SEC registrants are subject to the inspection program and the inspection program went into effect with other provisions of SOX. To provide insight on the impact of the inspection program on audit quality, this study investigates the association between PCAOB inspection access (akin to the threat of inspection) and auditor reporting. Using a sample of foreign private issuers I find that after controlling for common economic determinants, auditors subject to inspection access are more likely to report going concern opinions and material weaknesses in internal control over financial reporting. I find no difference in these propensities in the pre-PCAOB regulatory period across auditors in countries that ultimately grant or do not grant inspection access to the PCAOB. This study provides evidence on the impact of the PCAOB inspection program on auditor reporting incentives in a setting where cross-sectional variation in the reach of PCAOB inspection access is observed. This study also contributes to literature on foreign companies listing in the US as PCAOB inspection access is complementary to SEC enforcement.

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