An International Meeting of the American Accounting Association American Accounting Association 2006 Annual Meeting August 6–9, 2006 Washington, D.C.

Joseph Weber
Masshachusetts Institute of Technology

Michael Willenborg
University of Connecticut

Jieying Zhang
University of Southern California

Abstract: We examine stock and audit market effects associated with a dramatic audit failure (ComROAD) involving a large reputable firm (KPMG) in a country (Germany) that has long provided auditors with substantial protection from legal liability. We use this event to study whether an auditor’s reputation ensures audit quality, a rationale for which recent literature provides scant support. Given the relative absence of an insurance rationale for audit quality, the German setting affords an opportunity to cleanly test whether auditor reputation matters. We find that KPMG’s clients sustain significant negative returns around the time of events pertaining to the ComROAD scandal. In addition, KPMG suffers an increase in the number of clients that switch away to another auditor in the year of the ComROAD scandal. Our results are consistent with the view that auditor reputation matters in Germany to investors.

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