PCAOB Inspections and the Differential Audit Quality Effect for Big 4 and Non–Big 4 US Auditors*

Abstract

ABSTRACTIn this study, we investigate whether the increase in regulatory scrutiny epitomized by the initial PCAOB inspection impacted audit quality differentially for Big 4 and non–Big 4 auditors to better understand the consequences of PCAOB inspections for different audit firm types. Because of competing views on the effect of PCAOB inspections, the relation between PCAOB inspections and the audit quality differential between Big 4 and other auditors is an empirical issue. Empirically, we take the endogenous choice of auditor as a given and utilize a difference‐in‐differences specification that takes into account the staggered timing of the initial PCAOB inspection for different‐sized auditors in the United States. Our results suggest that the initial PCAOB inspection improved audit quality more for Big 4 auditors than for other annually inspected or triennially inspected non–Big 4 auditors. We also examine annually and triennially inspected non–Big 4 auditors separately, and find that the pre‐post Big 4/non–Big 4 differential audit quality effect is more pronounced for the triennially inspected non–Big 4 firms. In the larger context of the highly concentrated US audit market, our findings that PCAOB inspections accentuate the Big 4/non–Big 4 audit quality differential are of potential interest to public company audit clients contemplating an auditor change, investors interested in learning about the consequences of PCAOB inspections, regulators concerned about the Big 4 dominance of the US audit market, and academics investigating audit quality differences.