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Legal Liabilities, Audit Accuracy and the Market for Audit Services

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  • Sankar De
  • Pradyot K. Sen

Abstract

In quality‐differentiated audit markets with client‐firms of unknown types, insider‐managers of client firms strategically select auditors who respond to legal liabilities to decide their care level. In this signaling game, uninformed‐investors use the audit report and the auditors' identity for firm valuation. The analysis shows that increased legal liability increases the auditor's effort and audit accuracy but reduces the demand for high quality auditing because, apart from the increased audit costs, the adverse selection benefit of the worse type reduces with increased accuracy. Furthermore, alternative legal regimes and damage allocation rules alter informational efficiency of the financial market.

Suggested Citation

  • Sankar De & Pradyot K. Sen, 2002. "Legal Liabilities, Audit Accuracy and the Market for Audit Services," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 29(3‐4), pages 353-410, April.
    • Handle: RePEc:bla:jbfnac:v:29:y:2002:i:3-4:p:353-410
    DOI: 10.1111/1468-5957.00435
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    Cited by:

    1. Theodore J. Mock & Christiane Strohm & Kevin M. Swartz, 2007. "An Examination of Worldwide Assured Sustainability Reporting," Australian Accounting Review, CPA Australia, vol. 17(41), pages 67-77, March.
    2. Jochen Bigus, 2015. "Auditor Reputation Under Different Negligence Regimes," Abacus, Accounting Foundation, University of Sydney, vol. 51(3), pages 356-378, September.
    3. Graham Gal & Orhan Akisik, 2020. "The impact of internal control, external assurance, and integrated reports on market value," Corporate Social Responsibility and Environmental Management, John Wiley & Sons, vol. 27(3), pages 1227-1240, May.
    4. Isabel Gallego‐Álvarez & María Consuelo Pucheta‐Martínez, 2022. "The moderating effects of corporate social responsibility assurance in the relationship between corporate social responsibility disclosure and corporate performance," Corporate Social Responsibility and Environmental Management, John Wiley & Sons, vol. 29(3), pages 535-548, May.
    5. Bremert, Michael & Voeller, Dennis & Zein, Nicole, 2007. "Interdependencies between Elements of Governance and Auditing : Evidence from Germany," Papers 07-76, Sonderforschungsbreich 504.

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