The Effects of Audit Firms Rotation: An Event Study in Chile

Abstract

In order to determine market reactions to an announcement of an audit firm change we carry out an event study between 2004 and 2013 of 65 publicly traded Chilean companies (they represent 95.8% of the non-financial component of the main Chilean Stock Index: IPSA). We find that the market reacted positively when a company announced that it will retain its audit firm for a given year. We rule out possible bias in the informational content of the event. Our result suggests that overall, the costs associated with a company’s audit firm change (start-up costs and know how losses) overshadow the benefits of this change (a reduction in the probability of a value destroying event such as fraud or error). We discuss the implications of this result for the potential implementation of a rule of mandatory audit firm rotation in an emerging country such as Chile. We also discuss the possibility of identifying the specific costs and benefits of the audit firm change.

Keywords: Audit, Auditing, Audit firm, mandatory rotation rule, event study

JEL Classification: M42, G34