Do Big 4 Auditors Enhance Audit Quality? An Analysis of Client Selection and Audit Adjustments

47 Pages Posted: 11 May 2020

See all articles by Songsheng Chen

Songsheng Chen

Beijing Institute of Technology

Gopal V. Krishnan

Bentley University

Wenying Li

Shanghai Lixin University of Accounting and Finance

Yinqi Zhang

American University

Date Written: April 14, 2020

Abstract

Recent research challenges the notion that the Big 4 auditors provide a higher quality audit relative to non-Big 4 and suggests that the Big N effect could be due to self-selection. We contribute to this debate by controlling for pre-audit earnings quality, an important omitted variable in prior research. Using proprietary data from the Chinese Institute of CPAs, we first replicate prior studies by documenting lower earnings management and restatement likelihood for clients of Big 4 than those of non-Big 4. However, we find that pre-audit earnings quality is higher for the Big 4 clients. After controlling for pre-audit earnings quality, we do not find a significant difference between the Big 4 and non-Big 4 clients in earnings management and restatement frequencies. We also find that the Big 4 auditors are less likely to make income-decreasing audit adjustments than non-Big 4 auditors and audit adjustments proposed by non-Big 4 auditors enhance earnings quality, while results are mixed for the Big 4 auditors. Collectively, the findings cast doubt that the Big 4 provide better audit quality in China and indicate that besides client size, clients’ pre-audit earnings quality is a significant driver of the Big N effect.

Keywords: Big 4 auditors; pre-audit earnings quality; audit quality; audit adjustments

JEL Classification: M41; M42

Suggested Citation

Chen, Songsheng and Krishnan, Gopal and Li, Wenying and Zhang, Yinqi, Do Big 4 Auditors Enhance Audit Quality? An Analysis of Client Selection and Audit Adjustments (April 14, 2020). Available at SSRN: https://ssrn.com/abstract=3577732 or http://dx.doi.org/10.2139/ssrn.3577732

Songsheng Chen

Beijing Institute of Technology ( email )

5 South Zhongguancun street
Center for Energy and Environmental Policy Researc
Beijing, Haidian District 100081
China

Gopal Krishnan (Contact Author)

Bentley University ( email )

175 Forest Street
Waltham, MA 02452
United States
781-891-2477 (Phone)

Wenying Li

Shanghai Lixin University of Accounting and Finance ( email )

Shanghai, Shanghi 201209
China

Yinqi Zhang

American University ( email )

4400 Massachusetts Ave NW
Washington, DC 20016
United States

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