Audit Quality and Cost of Debt Capital for Private Firms
Audit Quality and Cost of Debt Capital for Private Firms: Evidence from Finland Jukka Karjalainen Department of Business University of Eastern Finland
April 10, 2010
Abstract The purpose of this paper is to examine the value relevance of the perceived audit quality in terms of who audits, as well as the audit outcomes in terms of the auditor’s opinion and accruals quality, in the pricing of debt capital for privately-held firms by examining a large sample of privately-held Finnish firms. The findings indicate that Big 4 audits and joint audits with more than one responsible auditor are associated with a decreased cost of debt capital. Also, firms with modified audit reports and those with lower-quality accruals have a higher cost of debt capital. The findings suggest that both the perceived audit quality and audit outcomes are relevant in the pricing of debt capital for privately-held firms. Additional analysis suggests that, while the outcomes of an audit are important in the pricing of debt regardless of a firm’s size, the perceived audit quality is more important for larger privatelyheld firms. JEL classification: M42
Keywords: Audit quality, auditor’s opinion, accruals quality, cost of debt, private firms Correspondence: Jukka Karjalainen, Department of Business, University of Eastern Finland, PO Box 1627, FIN-70211 Kuopio, Finland e-mail: jukka.karjalainen@uef.fi
1
Electronic copy available at: http://ssrn.com/abstract=1482939
1. Introduction
The value relevance of audits to investors in both equity and debt has been extensively studied in the context of publicly-held firms, and the issue has recently gained increasing research attention also in the context of privately-held firms. The existing studies on privately-held firms have tested the debt pricing implications of auditing per se, the auditor’s opinion, accruals quality, and audit quality proxied by the audit firm’s reputation (i.e., Big 4 vs. non-Big 4)1 and auditor certification
April 10, 2010
Abstract The purpose of this paper is to examine the value relevance of the perceived audit quality in terms of who audits, as well as the audit outcomes in terms of the auditor’s opinion and accruals quality, in the pricing of debt capital for privately-held firms by examining a large sample of privately-held Finnish firms. The findings indicate that Big 4 audits and joint audits with more than one responsible auditor are associated with a decreased cost of debt capital. Also, firms with modified audit reports and those with lower-quality accruals have a higher cost of debt capital. The findings suggest that both the perceived audit quality and audit outcomes are relevant in the pricing of debt capital for privately-held firms. Additional analysis suggests that, while the outcomes of an audit are important in the pricing of debt regardless of a firm’s size, the perceived audit quality is more important for larger privatelyheld firms. JEL classification: M42
Keywords: Audit quality, auditor’s opinion, accruals quality, cost of debt, private firms Correspondence: Jukka Karjalainen, Department of Business, University of Eastern Finland, PO Box 1627, FIN-70211 Kuopio, Finland e-mail: jukka.karjalainen@uef.fi
1
Electronic copy available at: http://ssrn.com/abstract=1482939
1. Introduction
The value relevance of audits to investors in both equity and debt has been extensively studied in the context of publicly-held firms, and the issue has recently gained increasing research attention also in the context of privately-held firms. The existing studies on privately-held firms have tested the debt pricing implications of auditing per se, the auditor’s opinion, accruals quality, and audit quality proxied by the audit firm’s reputation (i.e., Big 4 vs. non-Big 4)1 and auditor certification