Asset size management by small private firms in response to the mandatory audit requirement in Korea

Abstract

We investigate whether small private firms manage assets downward to avoid the mandatory audit required by the. Audit Requirement Law in Korea. The law requires that firms with assets larger than 6 billion won file audited financial statements regardless of the listing status. Since most private firms in Korea have concentrated ownership by individual owners who are also managers, the agency problem for these firms is small and, therefore, external audits are less likely to be beneficial, as the agency theory suggests. Consequently, small private firms may have little incentive to have external audits. Using both univariate and multivariate analyses, we find evidence that small private firms manage assets downward to avoid the regulation. Our finding is consistent with the predictions of agency theory that external audits are more beneficial when information asymmetry is large. © City University of Hong Kong.