Do Managers Successfully Shop for Compliant Auditors? Evidence from Accounting Estimates

Do Managers Successfully Shop for Compliant Auditors? Evidence from Accounting Estimates

Mark DeFond, Jieying Zhang, Yuping Zhao

Series number :

Serial Number: 
432/2018

Date posted :

January 09 2019

Last revised :

December 13 2018
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Keywords

  • opinion shopping • 
  • opportunistic changes in accounting estimates • 
  • auditor switches • 
  • Earnings management • 
  • financial reporting quality

Existing research on opinion shopping focuses primarily on managers’ attempts to switch auditors in order to avoid the receipt of an unfavorable audit opinion. We extend this literature by examining whether managers successfully shop for auditors who will allow questionable accounting practices, as evidenced by opportunistic changes in accounting estimates following auditor switches.

Using manually collected data from SEC filings, we find an increase in the frequency and magnitude of discretionary income-increasing changes in accounting estimates (DICE) following auditor switches. We further find that companies reporting DICE following an auditor switch are more likely to subsequently restate earnings downward, receive fewer going-concern opinions, experience lower abnormal stock returns in the years following the switch, and tend to switch auditors during the fourth quarter or following a disagreement with the predecessor auditor. These findings provide ex-post evidence that managers successfully shop for more lenient auditors. We also find that managers’ switch decisions maximize the ex-ante likelihood of reporting income-increasing changes in estimates, and that companies are more likely to switch to auditors whose clients have a greater likelihood of reporting income-increasing changes in estimates. Taken together, we provide both ex-ante and ex-post evidence that auditor-switch companies shop for compliant auditors that will allow the use of opportunistic accounting that meets management’s reporting objectives.

Authors

Real name: 
Research Member
University of Southern California
Real name:
Jieying Zhang
Real name:
Yuping Zhao