The Effect Of Audit Firm Size On Audit Quality

The relationship between audit firm size,legal environment and audit quality is still in controversy.If the positive relationship of audit firm size and audit quality is independent of legal environment,then big audit firms should always show higher audit quality than small ones around the world.But if it hinges on strong legal environment,then big audit firms will only display higher audit quality in countries with strong legal institution.There exist two competing theories in extent literature: the irrelevance of legal institution theory presumes that large audit firms always possess higher audit quality than that of small ones and can serve stronger governance role in weak legal environment;while the relevance of legal institution theory argues that large audit firms only possess higher audit quality than that of small audit firms in strong enough legal environment.The weak all-around legal institution and obvious differentiate provincial legal environment of China provides opportunity to investigate the relationship between audit firm size,legal environment and audit quality.Based on this unique background of China,this thesis examines this topic from the perspective of both actual audit quality and perceived audit quality by drawing a sample from 2002 to 2005.The main conclusions are as follow:(1) Under the weak all-around legal environment,the positive relationship of audit firm size and audit quality does not hold in China.First,there is no statistical significant difference between the discretionary accruals of clients with big audit firms and that with small ones,which means the actual audit quality of big audit firms and small ones does not differ significantly.Second,the market does not price the discretionary accruals of clients with big audit firms and that with small ones differently,which means the perceived audit quality between large audit firms and small ones does not differ substantially either.(2) The difference of provincial legal environment has some effect on the relationship between audit firm size and audit quality.With the strengthening of provincial legal institution,large audit firms can curb their clients' positive discretionary accruals to some extent.However,this effect does not reflected in the pricing ofdiscrctionary accruals.(3) Audit quality is determined jointly by both audit firm size and legal environment.To improve audit quality,strong enough legal institution is necessary beside big enough audit firm size.The policy implication is that while pushing audit firm to enlarge their size voluntarily,measures should be taken to strengthen the legal institution to stimulate large audit firms to enhance their audit quality.