Different Reasons of Mandatory Auditor Designation and Market Responses to Them
Asian Tax Journal Vol. 10 No. 2 (2009), pp. 171-198
Abstract
Mandatory auditor designation is an exceptional policy that allows the government to intervene in the free audit market by designating auditors with its own decision. To evaluate the effects of mandatory auditor designation, researchers have used two streams of research methods : discretionary accruals by and market response to mandatory auditor designation. Research on discretionary accruals show that discretionary accruals have changed differently with the causes of mandatory auditor designation. However, market response research has not yet examined whether market responds differentially with the causes of mandatory auditor designation. Therefore, the purpose of the paper is to investigate whether there are different market responses to the auditor designated firms according to the causes of mandatory auditor designation. Especially, this paper considers two causes of mandatory auditor designation : the separation of ownership and management and the high debt ratio. The results are as follows. First, market responds positively to mandatory auditor designation when the designation is due to the separation of ownership and management. However, market responds negatively to mandatory auditor designation when the designation is due to the high debt ratio. Second, ERC, estimated from return - earnings model, decreases to the year of mandatory auditor designation, for three years, but increases for three years after the year of mandatory auditor designation. In brief, the results implies that market responds differentially, in the very short window, to mandatory auditor designation with the causes of mandatory auditor designation, but that market responds positively, for long window, to mandatory auditor designation, irrespective of the causes of mandatory auditor designation.
Keywords
- mandatory auditor designation
- market response
- cumulative abnormal returns
- CAR
- earnings response coefficients
- ERC
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