Auditor Selection and Investment Risk

• In Event: Auditing 1

Abstract

Using a sample of U.S. publicly listed companies for the 2004-2014 period, we investigate the relation between the riskiness of firms’ investment policies and firms’ appointment of external auditors. We hypothesize that firms with riskier investment policies are more likely to choose a higher quality auditor to reduce information asymmetry and increase the credibility of financial reports. With two measures of auditor types (i.e., Big 4 and industry specialized auditors) and three measures of firms’ investment risk (including research and development (R&D) expenditure, standard deviation of monthly stock returns and diversification), we find that firms with riskier investment policies choose higher quality auditors. Specifically, firms with a higher ratio of R&D expenditure over sales and a higher standard deviation of monthly stock returns are more likely to select industry specialist auditors. We, however, find that more diversified firms are more likely to appoint a Big 4 auditor and/or an industry specialist auditor. Our paper expands prior research on auditor selection and firms’ investment policies by examining the impact of firms’ investment policies on the firms’ decision to select an external auditor.

Authors

• Benjamin Hoffman, Kent State University

• Trung Huy Pham, Kent State University - Kent

• Mai Dao, University of Toledo