An economic analysis of competitive bidding for public sector audit engagements

Abstract

This study presents and tests an equilibrium pricing model for a public sector audit engagement. The bidding model's predictive accuracy was evaluated by comparing its predictions to the actual bids for a public sector audit engagement and to the predictions of an OLS regression model. The results are that predicted bids exhibited considerable variability and that associated prediction errors were sensitive to the underlying cost parameters. While the bidding model provided reasonably accurate predictions for the entire group of firms, it systematically overestimated the winning (lowest) bid. Possible explanations for this result are advanced and empirical implications are discussed.