In Event: Continental Breakfast - Research and Education Forum
In Roundtable Session: Table 7: Effects of Audit Quality
The primary benefit of requiring the auditor to assess and report on a firm's going concern assumption is that market participants receive advanced warning of an impending firm failure and are able to value securities accordingly. However, prior literature demonstrates that the auditor frequently reports overly-conservatively due to an imbalance of reporting error costs. In order to assess the efficacy of current auditor reporting requirements, we estimate the trading damages spared due to correctly-issued going concern modified audit reports. We also estimate the trading damages incurred due to overly-conservative auditor reporting. Using even a conservative estimate of damages incurred, we estimate that trading damages incurred outweigh trading damages spared by a ratio of 3.4 to 1. Our results provide critical context for the evaluation of auditor reporting error rates and support legislative and regulatory changes that would decrease reporting conservatism.