Interpretation and Use of Auditor Fee Disclosures

Publicly available fee disclosures have been used by investors and regulators to assess various matters, including the quality of a company's audit, financial reporting, and corporate governance. We find that many companies' disclosures are insufficient, standardized, or inconsistently prepared. This finding has implications for the usefulness of the data because disclosures are informative only to the extent that analysts fully understand their composition, the possibility of varying interpretations, and the potential for bias. Beginning in 2001, publicly traded companies have been required to disclose the amount and nature of fees paid to their external auditors. Fees are classified into four categories (audit, audit related, tax, and other). These disclosures are used by analysts and investors, among others, in their assessments of various matters of corporate governance, including the quality of financial reporting and the level of auditor independence.From analyzing a sample of 194 companies' fee disclosures, we found that significant variations exist in companies' individual fee disclosures. We found that only 3 of 24 services provided by external auditors were consistently classified among companies. Audit fees were consistently reported in the “audit” category; quarterly reviews, in the “audit” category; and tax studies, in the “tax” category. Many services were classified consistently less than 75 percent of the time, and several services were classified in all four categories. The most inconsistently classified services were registration statements, SEC matters, compliance audits, transaction consulting, review of tax accruals, internal control reviews, acquisition audits, statutory filings, benefit plan tax services, and attendance at board/annual meetings. Because the fees associated with several of these services can be significant, differences can create inconsistencies when comparisons are based on ratios. Findings that fee disclosures are not consistent among companies or among their auditors significantly reduce the usefulness of the disclosures.The observed inconsistencies in fee disclosures—whether from random variations or conscious or subconscious bias—result, in part, because various interpretations of the disclosure rules are allowed.In addition, we found that many companies' disclosures are insufficient or are standardized, which also potentially diminishes their usefulness.Our analysis is intended to be both informative and cautionary. In particular, our results suggest that before attempting to draw conclusions about auditor independence, financial reporting quality, or corporate governance, users of fee disclosure information must be aware of the potential for incomplete or standardized disclosures and disclosure inconsistencies among companies. Fee disclosures are informative only to the extent that analysts fully understand their composition, the possibility of varying interpretations, and the potential for bias.