Do Individual Auditors Affect Audit Quality? Evidence from Archival Data

It is important to understand the determinants of audit quality. Early studies use the dichotomy between Big N and non-Big N audit firms, and examine the difference in audit quality between the two types. More recent studies examine how audit quality differs among local offices of Big N firms and how audit firms’ industry expertise affects audit quality. The heterogeneity in individual auditor attributes and their possible impacts on audit quality have been largely ignored.A number of recent studies find that individual economic agents matter to a wide range of policies and decisions of business organizations such as investment and financing policies and financial reporting practices. This suggests that unobservable managerial characteristics, along with observable characteristics, explain the cross-sectional variation in firm policies to a large extent.The proposed project intends to bridge these two streams of the literature. Specifically, we borrow concepts and methodologies from the literature on the importance of individual managers on firm policies, and apply them to examining the significance of individual auditors in determining audit quality. An important contribution of our study is that we evaluate the effects of not only observable but also unobservable auditor characteristics on audit quality. We focus on audit quality because it is likely to heavily involve personal judgment about audit complexity and risk. We use multiple measures for audit quality: the tendency to issue modified opinions, the magnitude of accruals and non-operating income, and the likelihood of audit failure.We first investigate the importance of auditor fixed effects. We include auditor dummies along with economic determinants of audit quality in the regressions, and test the extent to which auditor dummies contribute to the overall explanatory power of the regressions. The magnitude and significance levels of the coefficients on auditor dummies in these regressions measure the importance of both observable and unobservable auditor attributes in explaining audit quality. We then link the coefficients on auditor dummies with observable auditor characteristics (such as age, gender, education, and the year of obtaining a CPA license), and test the extent to which those characteristics explain auditor fixed effects.Previous studies find that audit firm size, practice office size, and audit firm industry expertise explain the cross-sectional variation in audit quality. Our work contributes to the literature by examining the importance of individual auditors in determining audit quality, and would thus be of interest to academics, practitioners, and policy-makers.