Working Paper: Consequences of Low-Quality Audits for Engagement Partners: The Importance of Audit Firm Quality Control Systems

​Paper Authors: Daniel Aobdia and Reining Petacchi

Abstract: We investigate the consequences of low quality audits for engagement partners in the U.S. We employ a sample period during which the identity of the engagement partner on specific audits is not publicly known. Although we document largely insignificant evidence of partner turnover after deficient PCAOB inspections, we find that restatements result in partner changes for both restating and non-restating clients. More importantly, it is the audit firm, as opposed to the client, that drives this partner change decision. Because the identity of the partner on an audit is not publicly known, non-restating clients may not be fully aware of the restatements associated with their engagement partners. Audit firms with ineffective quality control systems on partner management take advantage of this opaque information environment and do not replace low quality partners. Even if they replace the partner, they do not supply a new partner with higher quality. Our results suggest that audit firms’ quality control systems on partner management and public disclosure of the engagement partner identity in the audit report act as substitutes in disciplining the auditing labor market. When audit firms’ quality control systems fail, disclosing the identity of the engagement partner can enhance transparency and market discipline.