Audit Firm Industry Specialization and the Value Relevance of Fair Value Hierarchy Information

• In Event: Breakfast and Research Forum
  In Roundtable Session: Table 8: Audit Quality Considerations

Abstract

ASC 820 requires that financial statements disclose the inputs used to measure the fair value of assets, and these disclosures recognize that some fair values are more complicated and subjective than others. We assess whether the value relevance of assets valued using various valuation inputs differs depending on the level of valuation inputs used, and whether industry specialist auditors may be associated with higher value relevance for difficult-to-audit assets. Using a sample of 520 closed-end mutual funds, we find that level 3 assets (i.e., the most subjectively-valued assets) have higher value relevance when a fund has an industry specialist auditor. The incremental effect of industry specialization is 18.3 cents for each dollar of level 3 assets (or an average of approximately $791,000 for the average fund). Industry specialist auditors do not affect the value relevance of assets valued using level 1 or level 2 valuation criteria. Overall, our results indicate industry specialist auditors add incremental credibility to financial statements primarily with more subjective and difficult-to-audit assets.

Authors

• Charles P Cullinan, Bryant University

• Xiaochuan Zheng, Bryant University