Reducing Audit Fees Increases Restatement Risk

In association with general cost cutting measures over recent years, many companies have pressured their vendors to reduce fees.  This downward pressure has extended to the accounting firms hired to provide independent audit opinions, resulting in a significant drop in audit fees.  According to Audit Analytics, audit fees in 2012 were $472 per $1 million of revenue, the lowest amount since 2004.  The question is whether audit quality has been sacrificed in order to achieve these reductions.

A recent study from the accounting schools at University of Nebraska at Lincoln and Texas A&M University has found that:

“among companies with higher levels of financial reporting risk, audit quality suffers when audit firms are not compensated sufficiently for the increased level of risk. We further compare rates of restatements by examining the impact of audit firm office size…Taken together, this evidence suggests that the inability to price financial reporting risk can negatively impact audit quality, especially among companies audited by audit firm offices less able to accommodate lower client fees”

If a restatement occurs, the ultimate cost to the company will likely overwhelm the savings on audit fees, as described in this recent article regarding the time (and cost) to regain investor confidence.

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