Restoring Trust Among Investors after Shredded CPA Reputation: Evidence from China

Abstract

Our study examines whether CPA firms take measures to improve their audit quality and restore trust among investors when their reputations are in danger subsequent to disciplinary actions by the government regulatory agencies in China. Compared with a control group of the CPA firms without a reputation crisis, we find that the CPA firms with shredded reputation have lower audit quality, experience more CPA turnover, and earn lower audit fees prior to the publicized accounting scandals and relevant disciplinary actions. We also find that, subsequent to the disciplinary actions, these CPA firms significantly increase their audit quality when they operate under strong legal environments and when affiliated with Big 4, have no difference in audit quality from the control group, and are less likely to be dismissed and more likely to charge higher audit fees after taking remedial action. These results should be of interest to the accounting profession in general and those in emerging markets in particular.