Stock Price Contagion Effects of Low-Quality Audits at the Individual Audit Partner Level

Abstract

SUMMARYWe use Chinese audit partner data to show that partners associated with financial reporting fraud induce share price declines among non-fraudulent firms audited by the same audit partners. In cross-sectional analyses, we find that share price declines are more pronounced when low-quality partners (LQPs) failed to issue modified audit opinions during the period in question and when the LQPs were from one of the Top 10 audit firms. Additional analyses show that investors impose larger penalties on contagion firms when fraudulent firms are larger and the time lapse between sanction and fraud commitment is shorter. The personal characteristics of LQPs (except gender) do not cause a difference in market reaction to contagion firms. Overall, our results speak to the importance of audit partner identity to stock market valuation.JEL Classifications: M41; M42; M48.