The Effect of Audit Quality on a Firm’s Internal Information Environment: Evidence From Group Audits

Abstract

Many U.S. corporations operate internationally. For instance, S&P 500 firms generate approximately 29 percent of their sales in foreign markets (Brzenk 2018). Multinational corporations (MNCs) rely on information about their operations to allocate resources. This information is dispersed within the firm, which could lead to internal information asymmetry (IIA) between executives and divisional managers. Meanwhile, audits of MNCs are challenging and parts of these audits are sometimes outsourced to local foreign auditors who have no experience serving as opinion-issuing auditors for U.S. issuers. We examine whether involving such auditors affects MNCs’ internal information environments. We find that, relative to a matched control sample, SEC issuers employing inexperienced auditors have higher IIA and lower internal capital allocation efficiency. Together, the associations we document extend prior literature by providing some evidence that audit quality matters not only to a firm’s external financial statement users but also its internal users.