The Effect of Audit Committee Characteristics and Non-Audit Fees on Audit Fees

Abstract

This study examines the association between audit committee characteristics and audit fees, using data gathered under the recent SEC fee disclosure rules. We hypothesize that audit fees will be higher in the presence of an active and independent audit committee. Our base our hypothesis upon two premises. First, we argue that independent and active audit committees demand a higher level of audit quality due to concerns about monetary or reputational losses arising from financial misstatements. This higher audit quality demand may manifest itself in a higher amount of audit coverage, which, in turn should result in a concomitantly higher audit fee. Second, independent and active audit committees may give rise to greater auditor fee bargaining power.

We examine a sample of 262 non-regulated, Big 5-audited firms that filed both 10-K and proxy forms with the SEC in the period from 2/5/2001 to 3/23/2001. Audit committees comprised solely of independent directors that meet at least four times annually are significantly, positively associated with audit fees. This evidence is consistent with audit committee members taking actions within their span of control to ensure a higher level ofaudit coverage, as well as facilitating auditor independence. Finally, we also examine the impact of non-audit fees on audit fees. We document a significantly positive association between audit fees and non-audit fees, consistent with prior research from the early 1980's.

Keywords: Audit committees; Audit fees; Non-audit fees

JEL Classification: M49, G32