The Role of Big 4 Auditors in the Global Primary Market: Does Audit Quality Matter Most When Investors Are Protected Least?

• In Event: Investor Protections

Abstract

This study examines the informational effect of audit quality on IPO underpricing in the global
primary market. Using a comprehensive sample of 14,029 IPOs from 37 countries over a period
of 1995 to 2014, we document that IPOs audited by Big 4 auditors are on average significantly
less underpriced than those audited by non-Big 4 auditors after controlling for other determinants
along with country-, industry- and year-fixed effects. When we distinguish cross-country variation
in legal institutions, we show that the Big-4 effect on IPO underpricing remains significant only
in countries with weak investor protection regimes. Our results are robust to the endogenous nature
of auditor choice and various model specifications. Taken together, our findings support the
argument that global reputation concerns drive Big 4 auditors to provide a higher level of audit
quality, and the differential audit quality matters most in the IPO markets where investors are
protected least. One implication of our findings is that hiring a reputable auditor may offer a viable
mechanism for entrepreneurs to privately compensate for institutional constraints, thereby
lowering the cost of going public.

Authors

• Charles Shi, National University of Singapore

• Inder K Khurana, University of Missouri-Columbia

• Chenkai Ni, Fudan University, China