Institutional features and audit pricing of excess cash holdings: Do auditor liabilities beyond financial statement assurance matter?

Abstract

AbstractOur study explores the association between audit fees and clients’ excess cash to clarify how institutional features shape auditor assessment on agency problems. Prior studies suggest that this association is positive because agency problems from excess cash amplify auditor business risk, which induces auditors to charge higher fees as compensation. However, we find that this association is negative for Chinese listed companies. We further find that this negative association is attributable to the institutional features of China, where auditor liabilities do not extend beyond financial statement assurance. While prior literature argues that auditors incorporate clients’ agency problems into risk assessment, our results suggest that this incorporation does not naturally extend to cover agency problems from managerial misuses that are per se not audit failures. Whether auditors view agency problems from excess cash as a risk factor depends on the institutional features about the scope of their liabilities. Our study highlights the importance of institutional features in shaping auditor decisions.