Audit Firm Characteristics and Audit Firm Client Portfolio Decisions

Using audit firms’ transparency reports in Korea, the proposed research investigates whether and how audit firm characteristics influence audit firm client portfolio management decisions. More specifically, the study examines the following two research questions: (1) do audit firms’ financial performance, governance, and human resource quality affect risk avoidance behavior in audit firms’ portfolio management; and (2) if so, what are the types of risk that is affected? Effective risk control and management are essential to the success and sustainability of audit firms. A study of audit firm portfolio management decisions is also important to regulators and investors because audit firms’ effective quality control increases the confidence of investors in using financial statements. This proposed research examines how partner experience, audit firm profitability, and audit firm board size moderate the effect of different types of risk facing audit firms on client acceptance and retention decisions and makes the following contributions: First, it enhances our understanding of audit firm client portfolio decisions. Although prior research examines the risk profiles of client portfolios between large versus small audit firms, little is known for the effect of audit firm characteristics other than audit firm size on client portfolio decisions. The proposed research takes advantage of the availability of detailed data from the transparency reports of audit firms to provide new insight into audit firm client portfolio decisions. Second, the data of the study include privately held client firms as well as publicly traded firms and enable us to analyze audit firm portfolio management in a more comprehensive manner. The results of the study will be useful in helping regulators, audit committee members, and investors better understand audit firms’ risk control and monitoring.