Individual Auditor Turnover Decision, Litigation Risk, and Audit Quality

To date, little attention has been given to the employment preferences of certified public accountants (CPAs). In contrast, there are many studies of CPA firms that investigate issues such as independence, fees, and audit quality. Very recently, however, there is a recognition that it is the individual partners in charge of specific audits that should be a focus of study (Gul et al. 2011). The proposed study intends to look at individual auditor preferences as regards who they wish to work for. In particular, we will investigate auditors’ work-place choices from the view point of litigation risk. The data are from China where an auditor’s exposure to risk varies a lot. Prior evidence is sparse. Dalton et al. (1997) is a relevant study although the data they use are from an experimental study that relies on surveys in the U.S.Some CPA firms are organized as Partnerships and others are organized as Limited Liability Companies (LLCs). The partners in Partnerships face greater risk than the partners in LLCs. If the Partnership CPA firm is sued, the partners face joint and several liability and their personal assets are at risk even if the partner is not involved in the audit from which the litigation arises. In contrast, a partner in a LLC that is sued has her/his liability capped at the level of the share capital they have contributed (unless they were personally responsible for the problematic audit). We plan to investigate if the increased cost of litigation inherent in a Partnership plays a part in an auditor’s decision to change employment to a LLC.Another way to examine the issue is to examine a CPA’s employment decision when their current CPA firm is subject to bad publicity. Bad publicity includes being sanctioned by the regulators and lawsuits brought against the CPA firm.1 Partners in Partnership CPA firms that are sanctioned or receive bad publicity from other sources may decide to leave the CPA firm. Here, the partners may perceive that the sanction or bad publicity will increase the future risk of the Partnership CPA firm.We plan to develop a model that helps explain CPA partner turnover. In particular, we aim toempirically investigate the impacts of increased/decreased litigation risk exposures on an individual auditor’s turnover decision, andexamine if such turnover decisions are affected by an individual auditor’s characteristics (e.g., gender, age, education, political connection, tenure, etc.). We will alsoexamine what happens to audit quality after a partner changes employment.The findings of this study will be important for researchers, accounting practitioners, and regulators and will enable them to better understand the impacts of litigation risk exposures on individual auditors’ turnover decisions and post-switch audit quality. The research findings will also contribute to our understanding of the impact of auditors’ legal liability exposures.