An Information-Based Theory of Auditor Switching

We model auditor switching through a tender process involving an incumbent auditor, who has private information about the client firm’s audit cost (driven by audit complexity or audit risk), and an uninformed prospective auditor. When a firm’s audit cost is high, the auditor is more susceptible to audit failure by erroneously attesting to the firm’s favorable report. We show that, in equilibrium, the client facing a high audit cost is more likely to switch to a prospective auditor because of the winner’s curse. Clients who switch auditors experience a reduction in the overall expected audit fee and are more likely to receive favorable audited reports from the new auditor than clients who do not switch. Our analytical findings collectively present a new information-based perspective on auditor switching, extending beyond the conventional “opinion shopping” explanation. We caution researchers to consider the potential influence of information asymmetry among auditors when examining auditor switching.

This paper was accepted by Suraj Srinivasan, accounting.

Supplemental Material: The online appendices are available at https://doi.org/10.1287/mnsc.2024.05977.