Do (Audit Firm and Key Audit Partner) Rotations Affect Value Relevance? Empirical Evidence from the Italian Context

Alessandro Mechelli,Riccardo Cimini

doi:10.5539/ibr.v10n1p143

Abstract

This research aims to investigate whether and to what extent investors place more weight on accounting amounts disclosed in annual reports issued by entities that experienced a rotation of the audit firm or of the key audit partner. Analysing a sample of 97 non-financial entities listed in the Milan stock exchange over the period 2006-2014, the paper provides evidence that rotations positively affect the value relevance of accounting amounts. In addition, the paper shows how the audit firm rotation and the key partner rotation act only in part as substitutes, as the former is more capable than the latter of positively affecting the value relevance of earnings and book value. These results provide a theoretical contribution to the literature and have significant implications for standard setters. The rotations, even though could determine a loss of client-specific knowledge, nonetheless improve the value relevance of accounting amounts. New rules that require the key partner rotation have a positive effect as long as they do not consider such rotation as an alternative to the rotation of the audit firm being the partner rotation less capable to affect the value relevance of accounting amounts than the key audit firm rotation.

Highlights

The objective of this research is to verify whether the rotations of audit firm and of the key audit partner positively affect the value relevance of earnings and book value disclosed in annual reports of non-financial listed entities
To the best of our knowledge, no papers have investigated whether the key audit partner rotations affect value relevance or to what extent it is interchangeable with audit firm rotation
This specification allows for measuring the value relevance of earnings and book value reported in annual reports of entities that have not experienced any rotation; in addition, it provides a measure of the divergences in value relevance of accounting amounts disclosed by entities that experienced the rotation of the audit firm or of the key audit partner

Summary

Introduction

The objective of this research is to verify whether the rotations of audit firm and of the key audit partner positively affect the value relevance of earnings and book value disclosed in annual reports of non-financial listed entities. The paper studies whether and to what extent the audit firm and the key partner rotations are interchangeable in terms of the ability to affect the weight investors place on earnings and book value. A limited number of studies deepen the contribution that such information provides to the weight that investors place on accounting amounts. To the best of our knowledge, no papers have investigated whether the key audit partner rotations affect value relevance or to what extent it is interchangeable with audit firm rotation

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