Audit Contract Types and Audit Quality

• In Event: Compensation Contracts, Audit Fees, and Audit Committees

Abstract

This study evaluates whether and how the type of an audit contract influences audit quality. While there is broad, but inconsistent, evidence that the amount and composition of fees paid to audit firms for audit and non-audit services influence audit quality, there is limited evidence whether the type of auditor remuneration scheme has an impact on audit quality. Thus, this paper specifically investigates which type of audit contract ― either a fixed-fee or cost-reimbursement contract ― results in a higher level of audit quality. Since the disclosure of details of the audit contract is neither mandated by regulation nor commonly published on a voluntary basis, we approximate the type of audit contract using a self-constructed empirical measure based on the volatility of audit fees. Relying on a German sample of firms that continuously apply IFRS we provide evidence that a fixed-fee audit contract is associated with higher audit quality.

Authors

• Klaus Henselmann, University Erlangen-Nuernberg

• Michael W. Stich, Friedrich-Alexander-University of Erlangen-Nuremberg

• Nadine Winkler, FAU Erlangen-Nuremberg