A Study On The China’s Audit Market Based On The Theory Of Industrial Organization

In recent years, through the implementation of bigger and stronger strategy promoted by government, China’s CPA industry has achieved rapid development.This will cause major changes in the audit market structure. According to the theory of industrial organization, market structure and market behavior, market performance interact each other. Therefore,it is necessary to study the status of the audit market behavior and market performance,taking the market structure as the research begining.Based on the theory of industrial organization,this dissertation explore the relationship between audit market structure, conduct and performance, and develop the empirical study on the basis of the current system background and theory following the path of SCP paradigm.This dissertation measures and evaluates the present audit market structure in China, and then empirically tests the main factors that affect the structure of the audit market, audit pricing behavior and audit market performance. The results of the empirical test provide evidence for the deep understanding of features of the audit market in China and provide empirical support for the government supervision departments to formulate relevant policies.The full text is divided into eight chapters. The first chapter is introduction, mainly elaborates the research motivation, describes the research methods and the study framework. Finally, this chapter lists the main innovations. The second chapter is literature review. This chapter summarizes the relevant literature on the audit market structure, conduct and performance.The third chapter is the theoretical basis and institutional background.This chapter clarifies the evolution of the theory of industrial organization, identifies the SCP framework, discusses the reasons of monopoly of the audit market and efficiency of oligopoly market structure on the baisi of industrial organization theory. In order to understand the basic research direction, this chapter then expounds the process of institutional change. The fourth chapter is the analysis of audit market structure in China. Through the analysis, we can have a clear and comprehensive understanding to the current situation of the audit market. Then it identifies factors determining the market structure. The fifth chapter is the research of price competition behavior. This chapter is divided into two parts:First, it empirically tests the relationship between audit market structure and audit pricing on the basis of the A-share stock market data for the year of2002and2012.It substitute market structure with market power and industry expertise; Secondly, it makes theoretical and empirical analysis of low balling.The sixth chapter is the research of internal audit market performance by adopting the method of DEA and malmquist index.It evaluates the operational efficiency from the perspective of static efficiency and dynamic change.First of all,it uses DEA method to estimate the CPA operational efficiency and explores the relationship between operational efficiency and market structure.In order to avoid the effects of omitted variables and multicollinearity, this chapter uses panel data analysis. Secondly, it uses Malmquist index to contrast efficiency of big four with our local accounting firms. The seventh chapter is the research of external audit market performance. This chapter mainly examines the impact of audit price and audit operating efficiency on audit quality.Firstly, taking into account of endogenous problems between the customer selection and earnings management,it carries out a two-stage least squares regression to test the relationship among the audit market concentration, industry expertise and audit quality by selecting the instrumental variables. Secondly, in order to obtain empirical evidence of the economic consequences of the low-balling behavior, it compares the enterprises’degree of earnings management before and after the auditor change with the panel data model. Finally, it explores the relationship between audit efficiency and audit quality with the panel data. The eighth chapter is the conclusion. This chapter is the summary of the full text, including research conclusions, policy recommendations, the limitations and future research directions.The main conclusions are as follows:1.In the audit market, oligopoly market structure can achieve the balance of economies of scale and market competition. The market information asymmetry may result in the audit market failures, the size of the accounting firm can have the effect of signal transmission to alleviate the problem of information asymmetry in audit market. The development of accounting firm scale and the realization of firm’s economies of scale will not necessarily undermine the competition of audit market."Marshall conflict" does not exist in the audit market. Because of the low entry barriers, even oligopoly accounting firm also faces the competition from potential entrants. In the audit market,oligopoly market structure does not mean the existence of oligopolistic behavior. It can realize the equilibrium of oligopoly and competition,so it is efficient.2. The concentration of A share audit market is becoming higher. Descriptive statistics of the Chinese audit market structure shows that the structure of China’s A-share audit market is maturing, evolving from the low concentration degree of oligopolistic market structure type to a higher concentration degree of the oligopolistic market structure. The government regulation policy and market competition strength jointly promote the continuous improvement. Although our local accounting firms are predominant in the number of audit clients, their quality of audit clients are far lower than big four. Market shares of our local accounting firms are not stable, the advantages of industry expertise are not prominent compared with big four.3. The competition of specific industry customer and auditors’ industry expertise are the important factors which have influence on the audit market structure in our country. From the perspective of customer’s choice of accounting firm, the results find that when the competition within a specific industry is fierce, the competitors would choose a different accounting firm to audit them.This is also shows that the possibility of collusion between the suppliers in the audit market, namely the accounting firms is very low. Secondly, the accounting firm’s investment in product differentiation constitute significant positive effect on audit market concentration. It means that industry expertise form competitive industry barriers, making customers tend to choose a firm with expertise in the industry, thus improving the audit market concentration.In other respects,there is a significant positive correlation between entry barriers with market concentration, but the effect is very small;the impact of sales growth and geographical distribution is not significant, suggesting that with the expansion of the scale of the accounting firms, the trend of original regional segmentation of audit business has gradually weakened.-4. The improvement of audit market concentration will not result in collusion between accounting firms, market competition significantly enhanced. By comparing relationship between market structure and audit fees in the year of2002and2012, price competition enhanced. What is more, industry expertise of accounting firms in2012shows more prominent advantage. The industry experts have advantage on the audit pricing, and bring premium income. For large companies, they choose accounting firms with large size, more premium paid for audit quality and not for the firm’s industry expertise; For small companies, they would like to pay higher audit fees for the industry expertise of auditors for their industry experience and knowledge of auditors.It means that oligopolistic structure of the audit market does not undermine competition in the audit market. In addition, in order to survive in the fierce market competition, small and medium sized accounting firms should focus on improving their industry expertise.5. There is low-balling in the audit market, but it did not cause significant reduction in audit quality.The results indicate a significant price cutting in the initial three years.The average discount degree is3.7%and the price cutting mainly exists in the auditor switch between auditors providing the same audit quality. Moreover, the successor auditors who have more market shares than the former give lower discounts. In addition, the economic consequences of low balling has been tested by contrasting the audit quality before and after the auditor change. Results show that the audit quality have not been reduced even when the successors’charge lower fees. On the contrary, the audit quality improve. It shows that accounting firms will be cautious to avoid the litigation risk and they are not only for profit regardless of the audit quality. Therefore, low balling belongs to a normal price competition behavior.6. There are still gaps between the auditors’ operational efficiency and the requirements of audit market structure changes.The results with DEA and malmquist index show that in the recent years,the operational efficiency continue to rise,but compared with big four, the operational efficiency level of our local accounting firms is at a low level.The empirical tests indicate that the operational efficiency and audit market structure is not linear positive correlated, showing phasal effect,which means that the operating efficiency of accounting firms remains to be further improved.In addition, the empirical test show that there is a significantly negative correlation between audit quality and operational efficiency for local accounting firms,which means that in order to ensure the audit quality, local accounting firms need to invest more manpower and material resources.For being more competitive,local accounting firms should develop their scale and efficiency coordinately. Therefore, local accounting firms should pay more attention to the improvement of technology and management experience and actively learn from the big four to make full use of existing resources and to achieve bigger and stronger.7. Oligopolistic market structure is favorable for the improvement of external performance in the audit market. It investigates the relationship of audit market structure and earnings management of clients, choosing HHI index as a proxy for market concentration. To get a reliable result, this article settles the problem of endogeneity with the instrumental variables methods. Studies have shown that there is significant positive relation between market concentration and audit quality. Through the robust test, it find that industry expertise can contribute to restrain positive earnings management to some extent. The industry expertise of the accounting firm need to be further developed. High concentration of market structure helps to improve the external performance of the audit market, which provides empirical support for bigger and stronger policies of CPA industry. Overall, with the optimization of the structure in the audit market, the external performance of the CPA profession has made significant progress.The main innovations of this study are as follows:first, in theory, on the basis of the characteristics of audit market, we systematically analyze the reasons and efficiency of oligopolistic audit market structure combined with the theory of industrial organization. Secondly, in the empirical part, we first study the market power of the accounting firms, to examine the competition behavior of audit market in China; We carry on the comprehensive investigation of audit market performance from two aspects of internal and external performance; On the basis of overcoming the endogeneity, we select instrumental varibles to examine the relationship between market structure and audit quality with two-stage least squares method, making research results more reasonable.