The relation between audit fee cuts during the global financial crisis and earnings quality and audit quality

Abstract

The Global Financial Crisis (GFC) presents a unique opportunity to study how auditors respond to an exogenous shock to the clients’ operating environment. Also, due to the GFC, auditors were under pressure from clients to cut audit fees during the crisis. Regulators were concerned that lower audit fees could result in lower audit effort, and more importantly, impair audit quality. We conduct a comprehensive analysis of multiple attributes of client firms’ earnings quality and audit quality. Collectively, our findings indicate that there is no significant difference in earnings quality between client firms that received a fee cut during the GFC and control firms consisting of firms that did not receive a fee cut and firms that received a fee cut before the GFC. Further, there is no significant difference in the likelihood of a going concern opinion or a financial restatement, our proxies for audit quality, between client firms that received a fee cut during the GFC and control firms. Our findings contribute to understanding the role of auditors during the GFC.