Abstract
Recent studies have shown that auditor changes are frequently initiated by the auditor rather than the client. In this study, we argue that auditors' decisions to resign or decline engagements can be explained predominantly by audit error cost, the cost of undiscovered audit errors. This cost reflects both the auditor's assessment of the likelihood of client misrepresentations and the expected losses if these misrepresentations are subsequently revealed. We provide empirical evidence to support our theory.
We make a distinction in our study between resignations and declinations and treat these two types of events separately in both our modeling and empirical tests. Additionally, we examine the role of auditor expertise in an auditor's decision to continue an engagement. We argue that expertise reduces expected audit error costs and consequently limits the likelihood that an auditor will resign or decline an engagement.
Finally, some evidence is provided concerning the assertion made by Big Six auditing firms that they are staying away from litigation-prone sections of the economy.
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