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We examine how audit partners' geographic proximity to clients affects audit quality. We use hand-collected data to show that approximately half of audit partners are assigned to clients headquartered more than 100 km away from the partners' home locations. Few of these partners relocate after receiving their assignments and, as a result, more than one-third of clients are audited by partners who must commute long distances to visit the client in person. We explore this phenomenon by first modeling how distance affects partner-client matching. We find that partners' geographic proximity to a prospective client is an important matching criterion, but also that trade-offs are made when other partner characteristics such as industry specialization are more likely to be important. Next, consistent with our prediction, we show that audit quality is lower when partners reside farther from their clients. We corroborate our primary findings by showing that the association between partner distance and audit quality is mitigated when partners have access to direct flights to their clients' headquarters and when clients are geographically dispersed. Our paper should be informative for regulators, practicing auditors, and academics interested in how partner-client matching affects audit outcomes.

Literature to date reveals relatively little about the role of expertise in auditor selection beyond basic preferences for Big 4 and industry specialist auditors. We hypothesize that audit committees whose members have no Big 4 auditing experience are likely to struggle when interviewing prospective Big 4 partners, leading such committees to draw on superficial, heuristic cues in lieu of conducting more substantive evaluations. To test this prediction, we obtain independent ratings of the facial attractiveness of audit partners identified from Form AP filings recently mandated by the US PCAOB. Our primary finding is that audit committees with no Big 4–experienced members are more likely to favor partners whose photographs raters view to be highly attractive. We characterize attractiveness as a superficial attribute for auditor selection because we detect no relation between attractiveness and accruals- or restatement-based measures of financial reporting quality for audit committees with one or more Big 4–experienced members. We do find an inverse association between attractiveness and financial reporting quality for committees without this experience, likely reflecting the statistical implication of a selection bias. We conclude that auditing expertise mitigates the influence of superficial considerations in auditor selection enabling audit committees to fulfill their stewardship role more effectively.

We study the effects of analyst coverage on syndicated lending. We hypothesize that analyst research alleviates information asymmetries between lead arrangers and participant lenders within a syndicate, increasing the participants’ credit supply and reducing the required loan interest spread. Using exogenous shocks to firms’ analyst coverage, we find that firms pay higher loan interest spreads and participant lenders fund smaller fractions of the loans after firms experience a reduction in analyst coverage. Participants are more likely to be nonbank institutional investors and transact with familiar lead arrangers after the coverage shocks.

SUMMARY Recent research suggests that insiders of distressed firms, fearing legal jeopardy, pressure auditors not to issue going concern opinions (GCOs) for periods in which they undertake abnormally large sales of their shares. We propose and evaluate an alternative explanation that managers anticipate GCOs and time their trades to avoid insider sales in the GCO year (hereafter, the timing hypothesis). Consistent with the timing hypothesis, we find that insider sales increase two to four years prior to the issuance of a GCO and then decline in the year of GCO. Additional analysis suggests that insiders' anticipatory trading is enabled, at least in part, by early communication between auditors and their most important clients regarding the likelihood of a GCO. These early communications appear to reduce the likelihood of dismissal when auditors do eventually issue a GCO.

SYNOPSIS We examine the decision relevance of a commonly suggested adjustment to how state governments report governmental pension liabilities by recalculating such pension liabilities using the return on a portfolio of high-quality municipal bonds as the discount rate. Calculated as the difference between the state's expected rate of return and the municipal bond return, we find that the discount rate adjustment associates with lower credit ratings and higher interest costs. We also find that credit rating agencies are more likely to issue conflicting ratings when the calculation of the discount rate adjustment involves greater uncertainty. Overall, while financial statement users agree about the need for and the direction of a pension liability rate adjustment, there is less consensus about the proper magnitude of this adjustment, suggesting that current accounting treatment of pensions in the public sector leads to costly uncertainty among financial statement users.

We investigate whether non-GAAP reporting results in less conservative auditor materiality judgments, as measured by auditors’ determination of quantitative materiality thresholds. Using a sample of audit reports for Premium Listed companies on the London Stock Exchange for the 2013-2014 fiscal year, we find that more than 50 percent of auditors who rely on “profit-before-tax” as their materiality benchmark use non-GAAP profit before tax, which results in a less conservative audit (via a higher materiality threshold) 92 percent of the time. We find that auditors are significantly more likely to rely on a non-GAAP profit-before-tax materiality benchmark when management discloses non-GAAP profit before tax in their annual report. The GAAP items that auditors’ exclude from the materiality benchmark are highly persistent, suggesting that the exclusions are not typically one-time items as is often claimed. We also find that auditors are significantly more likely to rely on a non-GAAP materiality benchmark when doing so reduces the extent of required audit procedures performed on complex estimates. Finally, we find that auditor turnover is higher when the auditor’s materiality benchmark is smaller than non-GAAP earnings disclosed by management. In sum, our results suggest that managers’ non-GAAP reporting could indirectly affect investors by lowering the rigor of the financial statement audit.

Prior research provides mixed evidence on whether competition among auditors impairs or improves audit quality. An impediment to this stream of research is the inability to directly observe the audit engagement bidding process. In this study, we develop a measure of audit engagement bidding and examine its effect on audit quality and pricing. In particular, we apply a machine learning algorithm to non-incumbent (i.e., competitor) auditor views of public companies’ SEC filings to estimate the probability that competitors are bidding for an audit engagement. We validate our probability estimates using a proprietary sample where all instances of bidding are known. Contrary to concerns that competitive pressure may cause auditors to compromise their independence, we find that incumbent auditors perform higher quality audits during bidding years. This improvement in audit quality occurs regardless of whether the bidding ultimately results in an auditor change and persists for several years when the incumbent auditor wins reappointment. We also find that bidding is associated with modest audit fee concessions by incumbent auditors. However, the likelihood of a fee concession depends on the strength of the incumbent auditor’s position in the market.

Audit firms are organized as collections of geographically decentralized offices. Decentralization allows for increased proximity between offices and clients, improving the efficiency of auditors' interactions with client personnel. Yet decentralization also decreases the proximity between offices within each firm, potentially impeding auditors’ interactions with each other. We show that decreased proximity between offices reduces inter-office audit quality “spillovers” and that this effect is driven primarily by reduced monitoring and knowledge sharing. Our findings expand the “within office” view of audit production by demonstrating the importance of interactions between offices and the role of geographic proximity in facilitating them.

Although prior research has claimed that audit committees with more expertise secure better auditors and enjoy higher quality earnings, a deeper understanding of this premise compels consideration of the factors that less-expert audit committees consider when choosing auditors if indeed they are less sensitive to auditor quality. Drawing on newly mandated PCAOB Form AP disclosures of audit partners’ identities, we examine the premise that less-expert audit committees are more likely to be influenced by auditors’ superficial characteristics, which we proxy by obtaining independent ratings of audit partners’ physical appearances. We find that audit committees with fewer financial experts tend to engage more attractive audit partners and pay attractive audit partners a differential fee premium. These findings support the view that expertise helps audit committees by mitigating the influence of superficial characteristics in auditor selection and compensation decisions.

We use hand-collected data to show that approximately half of audit partners are assigned to clients headquartered more than 100 kilometers away from the partners’ home locations. Few of these partners relocate after receiving their assignments and, as a result, more than one-third of clients are audited by partners that must commute long distances to visit the client in person. We explore this phenomenon by first modeling how distance affects partner-client matching. We find that partners’ geographic proximity to a prospective client is an important matching criterion, but also that tradeoffs are made when other partner characteristics such as industry specialization are more likely to be important. Next, we show that audit quality is lower when partners reside farther from their clients. We corroborate our primary findings by showing that the association between partner distance and audit quality is mitigated when partners have access to direct flights to their clients’ headquarters and when clients are geographically dispersed. Our paper should be informative for regulators, practicing auditors, and academics interested in how partner-client matching affects audit outcomes.

As part of planning and performing financial statement audits, auditors must assess their clients’ risk. Assessed risk permeates the audit process, driving decisions regarding client retention, audit pricing, the extent of audit testing, and the nature of auditors’ written opinions. Although auditors aim to assess each client’s risk independently, prior research suggests that individuals draw on their idiosyncratic experiences and environments for benchmarks against which to contrast the case at hand. These “contrast effects” may skew auditors’ perceptions of risk, particularly if they rely on unrepresentative benchmark firms. I provide archival evidence consistent with this prediction. Using a large sample of public firms, I find that after controlling for clients’ actual risk, auditors more strictly constrain the use of discretionary accruals, are more likely to issue going concern opinions, and charge higher audit fees when clients appear riskier in the context of other clients audited by the same practice office. The reverse is true for clients that appear less risky in the context of other clients audited by the same practice office.

We find that non-Big 4 audit offices with greater awareness of SEC enforcement are more likely to issue first-time going-concern reports to distressed clients; where SEC “awareness” is measured using (i) audit office proximity to SEC regional offices, and (ii) proximity to specific SEC enforcement actions against auditors. We also show that these non-Big 4 audit offices issue more going-concern opinions to clients who do not subsequently fail, indicating a conservative bias that reduces the informativeness of audit reports. This conservative reporting bias is also associated with higher audit fees and higher auditor switching rates. These findings are important because non-Big 4 firms now audit 39 percent of SEC registrants and issue 88 percent of going-concern audit reports. For Big 4 offices, we find some evidence that awareness of SEC enforcement may improve reporting accuracy by reducing Type II errors (failing to issue a going-concern report to a company that fails), although the number of cases is small. This article is protected by copyright. All rights reserved.