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

Guy D. Fernando
Syracuse University

Randal J. Elder
Syracuse University

Ahmed M. Abdel - Meguid
Syracuse University

Abstract: Khurana and Raman (2004) find that clients of BigX auditors exhibit a lower cost of capital (hereafter CoC) than those of non BigX auditors in the US, but not in other Anglo-American countries. They argue that this is due to the higher “litigation exposure” rather than “reputation concerns”, emphasizing the insurance role of auditing. However, we find that their results are driven by client firm size. The result holds for small firms only. In this paper, we analyze the effects of audit firm size and industry specialization on the CoC for client firms. We find that while BigX auditors are associated with lower cost of capital for small client firms, specialist BigX auditors are associated with even lower CoC, supporting the argument that there are perceived quality differentials among the BigX. Such perceived quality differentials amongst the BigX auditors highlight the perceived importance of the information and monitoring roles of auditing.

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