Abstract
The purpose of this study is to investigate if audited financial statements add value for firms in the private debt market. Using an instrumental variable method, we find that firms with audited financial statements, on average, save 0.47 percentage points on the cost of debt compared to firms with unaudited financial statements. We also find that using the big, well-known auditing firms does not yield any additional cost of debt benefits. Lastly, we investigate if there are industries where alternative sources of information make auditing less valuable in reducing the cost of debt. Here, we find that auditing is less important in lowering cost in one industry, agriculture, where one lender has a 74% market share and a 100-year history of lending to firms within that industry. As such, it seems that lenders having high exposure to a certain industry might act as an alternative to auditing in reducing the information asymmetry between the firm and the lender.
Highlights
The long-run economic progress of a country is, to a large extent, determined by the level of investments creating a productive stock of capital
Our results show that the reduction in cost of debt (CoD) due to auditing is larger in all the other 14 industries compared to agriculture and that the effect is statistically significant at the 1% level for 6 industries and at the 10% level for 3 industries
We focus on agriculture as one of our two benchmark industries and so hypothesis 3b can be written as: H3b The magnitude of the effect of audits on cost of debt will vary across industries due to differences in the level of exposure to an industry by the lenders, with less impact of audited financial statements on cost of debt in industries where one lender has a large market share
Summary
The long-run economic progress of a country is, to a large extent, determined by the level of investments creating a productive stock of capital. Investments are, in most cases associated with risk; having access to highquality information regarding the well-being of firms trying to raise external capital for investment purposes can be of vital importance for financiers This creates an incentive for well-managed firms to provide high-quality information to financiers so that they can access capital at a lower cost than. The prior literature on audit issues of private firms is quite limited (Hope et al 2012), and research into auditing practices is largely understudied, especially for private firms (Vanstraelen and Schelleman 2017). Both the methods and the results from previous studies are mixed. Blackwell et al (1998), Huguet and Gandía (2014), Kausar et al (2016), Kim et al (2011), and Minnis (2011) found that audit decreases CoD, while Koren et al (2014) found the opposite. Allee and Yohn (2009) did not find any significant association between audits and CoD for private
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