Political Connections, Audit Opinions, and Auditor Choice: Evidence from the Ouster of Government Officers

Abstract

SUMMARYIn this study, we examine changes in audit opinions and auditor choice decisions in politically connected firms before and after the exogenous termination of their political connections. We use 84 anti-corruption cases involving high-level Chinese bureaucrats between 2004 and 2014 to construct a nature experiment, and identify a set of listed firms whose executives bribe or have connections through family affiliation with these corrupt bureaucrats. We find that within the event years of the ouster of corrupt bureaucrats, connected state-owned enterprises (SOEs) receive more favorable audit opinions than their non-connected counterparts, whereas connected non-SOEs obtain less favorable opinions. Moreover, after the termination of political connections, connected SOEs are more likely, while connected non-SOEs are less likely, to hire local small auditors. Additional analyses show that termination of political ties has more pronounced effects after the recent anti-corruption campaign. Furthermore, the levels of earnings management and audit fees in SOEs decrease when political connections are terminated, but they increase in non-SOEs. In summary, our study suggests that the termination of corporate political connections has a significant influence on auditors' assessments of audit risk and firms' auditor choice patterns, and this influence is subject to corporate ownership structures.