Investors’ Expectations of the Improvement in the Credibility of Audit Opinions following PCAOB Inspection Reports with Identified Deficiencies

Abstract

ABSTRACT: Following high-profile accounting scandals (e.g., Enron), Congress passed the Sarbanes-Oxley Act, which established the Public Company Accounting Oversight Board (PCAOB). The PCAOB conducts regular inspections of audit firms and issues inspection reports that describe audit deficiencies identified during the inspections. One purpose of these reports is to improve public confidence in auditor credibility. We conduct a between-subjects experiment to provide initial evidence concerning investors’ perceptions of audit opinion credibility following PCAOB inspections. While we find an overall increase in perceptions of the credibility of future audit opinions, the degree to which perceptions increase is a function of three salient characteristics of PCAOB reports. Specifically, we find that investors anticipate more (less) improvement in the credibility of future opinions when: (1) inspections contain high (low) severity deficiencies; (2) firms respond to the reports with concessions (denials); and (3...