The Effect Of Changing The Auditing Firm On Earnings Management Of Listed Brazilian Companies

Abstract

Brazil is one of the few countries that have mandatory audit firm rotation for public companies. Thus, the country provides an ideal setting to evaluate if the quality of accounting information is affected by the change of the audit firm, whether mandatory or voluntary. In this line, the objective of this study was to verify the effects of changing the external auditors on earnings management levels of Brazilian listed companies. Audit quality is related to the knowledge of a client’s transactions and also with auditor independence. There is a belief that a long term relationship between auditors and clients could impair independence. It is expected that greater independence should contribute to the reduction of earnings management practices. On the other hand, audit quality may be impaired by the lack of specific knowledge about the new client’s activities. Auditor rotation could then contribute to the reduction of the quality of financial statements due to the period necessary of adequately understand all the transactions occurred during the fiscal year. We performed tests for difference of means and also regression analysis. Five different metrics and two earnings management models were applied and the preliminary evidence indicate that is not possible to infer that auditor rotation is necessarily related to a reduction on earnings management levels for Brazilian companies. Therefore, is not possible to conclude that auditor rotation increases earnings quality. We expect that this result may contribute to the actual debate about the maintenance of mandatory auditor rotation in some jurisdictions.