The Association between Financial Reporting Risk and Audit Fees before and after the Historic Events Surrounding SOX

• Published in: Auditing : a journal of practice and theory Vol. 29; no. 1; pp. 15 - 39
• Main Authors: Charles, Shannon L., Glover, Steven M., Sharp, Nathan Y.
• Format: Journal Article
• Language: English
• Published: Sarasota American Accounting Association 01.05.2010
• Subjects: Accounting firms; Audit committees; Audit fees; Audit risk; Auditing profession; Auditing standards; Auditors; Audits; Boards of directors; Corporate governance; Correlation analysis; Fees & charges; Financial reporting; Financial statements; Production functions; Proxies; Public Company Accounting Reform & Investor Protection Act 2002-US; Risk; Risk assessment; Studies
• ISSN: 0278-0380; 1558-7991
• DOI: 10.2308/aud.2010.29.1.15

This study investigates whether the association between financial reporting risk and audit fees changed during 2000–2003: a time period marked by momentous and historic events for auditors. We find a positive statistically and economically significant relationship between financial reporting risk and audit fees paid to Big 4 auditors. More importantly, we predict and find that the relation between financial reporting risk and audit fees strengthened significantly in 2002 and 2003, consistent with a shift in the way auditors priced risk, likely in response to the events surrounding the Sarbanes-Oxley Act of 2002. Finally, we provide evidence that a commercially developed, comprehensive risk measure effectively proxies for an element of risk beyond what has traditionally been captured by various risk measures in audit fee models: namely, the risk that financial statements have been intentionally misstated. We believe this risk measure will be of interest to future researchers.