CEO Inside Debt and Audit Fees

Abstract

We examine the impact of CEO inside debt on audit fees. Prior research finds that managerial ownership of debt (such as defined‐benefit pensions and other deferred compensation) reduces debtholders' demand for accounting conservatism. One consequence of using less conservative accounting is an increased likelihood of GAAP violation, which in turn increases audit effort and audit fees. Thus the level of CEO inside debt may be positively associated with audit fees. However, to the extent that inside debt mitigates stockholder‐debtholder conflicts, it is also possible that inside debt leads to decreased audit risk and lower audit fees. We find significant positive relations between inside debt and audit fees, suggesting that auditors consider inside debt as a factor that requires additional audit effort.