What can you say about changes in non-audit fees between 2000 and 2003? What do you think explains such changes? Do you see any patterns in such changes? That is, does the non-audit fee change more for certain types of firms (e.g., small clients versus large clients, clients in certain industries, clients with certain auditors, etc.)?
Between 2000 and 2003, there was a significant reduction in non-audit fees paid by public companies to their auditors. The primary driver behind this change was the response to corporate accounting scandals and subsequent regulatory reforms, particularly the enactment of the Sarbanes-Oxley Act (SOX) in 2002. SOX imposed stricter rules regarding the services that auditors could provide to their audit clients, with the aim of improving auditor independence and reducing conflicts of interest.
Reasons for Changes in Non-Audit Fees:
- Regulatory Reforms (Sarbanes-Oxley Act): One key provision of SOX prohibited external auditors from providing many types of non-audit services to their audit clients, such as consulting or internal auditing. This regulation sharply curtailed non-audit fee revenue for auditing firms, leading companies to reduce their spending on such services from their auditors.
- Heightened Scrutiny of Auditors and Corporate Governance: The early 2000s saw a wave of corporate scandals (e.g., Enron, WorldCom) that resulted in increased scrutiny over the relationship between auditors and their clients. There was pressure to reduce non-audit services to ensure impartiality and reduce the perception of conflicts of interest.
- Increased Cost of Compliance and Focus on Audit Quality: SOX introduced more stringent requirements for financial reporting, internal controls, and audit procedures. Audit firms shifted more of their resources and attention toward audit services, reducing the focus on non-audit services.
Patterns in Changes:
- Size of Clients: Larger clients, especially publicly traded companies, showed a more significant decline in non-audit fees compared to smaller clients. This is largely because SOX primarily targeted public companies, requiring stricter separation of audit and non-audit functions.
- Industries with High Regulatory Risk: Firms in industries with higher regulatory scrutiny (e.g., finance, energy, technology) tended to experience a sharper decline in non-audit fees, as they were more directly affected by public and regulatory expectations.
- Auditor Type: Clients working with the Big Four auditing firms (KPMG, Deloitte, Ernst & Young, and PricewaterhouseCoopers) exhibited notable reductions in non-audit fees. The Big Four were particularly affected due to their size and high-profile client base, resulting in stricter compliance and adherence to regulatory reforms compared to smaller or regional firms.
In summary, the patterns observed in non-audit fee changes between 2000 and 2003 reflected the regulatory drive to restore trust in the financial reporting process by reinforcing auditor independence. Large public companies and clients in high-risk industries were most affected, as were firms using prominent auditors who adopted stricter compliance measures in response to the changing landscape.