Auditor Industry Expertise and Cost of Equity

SYNOPSIS

We examine the association between auditor industry expertise and clients' cost of equity. Prior research suggests that industry experts are associated with higher earnings quality than non-experts. If such improved earnings quality were recognized by investors, we would expect it to be reflected in a lower cost of equity. Following recent research in this area, we distinguish between national-only, city-only, and joint city-national industry-expert auditors. Our results suggest that clients audited by city-only or joint city-national industry experts have a lower cost of equity. We also examine whether changing from non-expert (expert) to expert (non-expert) auditors result in a decrease (increase) in cost of equity. We find that when firms change from non-experts to city-only or joint city-national experts, their cost of equity is significantly decreased.

Keywords:  audit quality, cost of equity, auditor expertise, auditor change

Article Citation:

Jagan Krishnan, Chan Li, and Qian Wang (2013) Auditor Industry Expertise and Cost of Equity. Accounting Horizons: December 2013, Vol. 27, No. 4, pp. 667-691.