Critical audit matters and stock price crash risk

Xiaoqiang Zhi,Zuming Kang

doi:10.1186/s11782-021-00102-z

Abstract

Using manually collected data on the number and category of critical audit matters (CAMs) in the period 2016–2017, we investigate the hitherto unexplored questions of whether CAMs affect firm-specific crash risk, how CAMs influence crash risk in the Chinese capital market, and recognize CAMs that contain incremental information. Our findings are as follows: (1) Crash risk decreases after implementing the new audit standard requiring the disclosure of CAMs; (2) CAMs release negative information and change the capital market information environment; (3) only corporate-idiosyncratic CAMs contain incremental information; (4) crash risk is mitigated only by CAMs disclosed by companies with a high shareholding of institutional investors. The main conclusion of our study is a positive assessment of the new audit standard and of CAMs in terms of protecting the interests of investors and strengthening the stability of the capital market to provide a new perspective for supervising the implementation of the new audit standard.

Highlights

Traditional audit reports contain insufficient information and result in a large information gap between users’ needs and what is available in the reports
The results show that critical audit matters (CAMs) work only when there is a high proportion of institutional investors, which implies that the incremental information in CAMs is more likely to be utilized by institutional investors for it to affect stock prices
This study discusses the impact of CAMs on firm-specific crash risk, with the following main conclusions

Summary

Introduction

Traditional audit reports contain insufficient information and result in a large information gap between users’ needs and what is available in the reports. This study utilizes the treatment and control groups arising naturally from the relevant policy on and regulation of CAMs. in the Chinese capital market environment of great volatility, the important question is: Can CAMs reduce stock price crash risk by alleviating the agency problem and changing the market information environment? Following the mechanism test and further research, we explore whether different types of audit report users have different impacts on the effect of CAMs on crash risk Due to their professional capability, institutional investors may suffer less from limited attention than individual investors, making it necessary to differentiate between individual and institutional investors in handling the information contained in CAMs. The results show that CAMs work only when there is a high proportion of institutional investors, which implies that the incremental information in CAMs is more likely to be utilized by institutional investors for it to affect stock prices. We believe these implications to be of significant value for future research

Literature review and hypothesis development

Findings

Conclusion