Essay on Audit Fees

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Accounting Research Center, Booth School of Business, University of Chicago
Audit Fees and Auditor Size: Further Evidence
Author(s): Zoe-Vonna Palmrose
Source: Journal of Accounting Research, Vol. 24, No. 1 (Spring, 1986), pp. 97-110
Published by: Wiley on behalf of Accounting Research Center, Booth School of Business,
University of Chicago
Stable URL: http://www.jstor.org/stable/2490806
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Journal of Accounting Research
Vol. 24 No. 1 Spring 1986
Printed in U.S.A.

Audit Fees and Auditor Size:
Further Evidence
ZOE-VONNA

PALMROSE*

1. Introduction
Duringthe past decade,the structureof the marketfor public accounting services-particularly audit services-has received scrutiny from regulators,practitioners, and researchers. A major focus has been on supplier (audit firm) size, and especially on the large shares of markets held by a subset of firms called the Big Eight.' One hypothesis is that the Big Eight function as a cartel and charge higher than competitively warranted fees. This hypothesis was tested by Simunic [1980], who concludedthat the Big Eight as a grouptended to chargelower fees than non-Big Eight firms. His conjecturewas that his results were consistent with scale economies enjoyed by the larger CPA firms. He did observe, however,that one of his Big Eight firms seemed to "chargehigher fees," which might reflect the higher quality of the audit services supplied by that firm.2
* Assistant Professor, University of California, Berkeley. I wish to acknowledge the helpful comments of W. L. Felix, Jr., J. Jiambalvo, W. R. Kinney, Jr., M. Niles, E. M.
Rice, and an anonymous referee. I am also appreciative of the financial assistance provided during various stages of this research by the University of Washington Accounting Development Fund and the Professional Accounting Program at the University of California,
Berkeley. [Accepted for publication October 1985.]
1 For the purposes of this study, the audit services market is confined to the domestic market and the Big Eight are defined in terms of this market as the following firms: Arthur
Andersen & Co. (AA), Arthur Young (AY), Coopers & Lybrand (CL), Deloitte Haskins &
Sells (DHS), Ernst & Whinney (EW), Peat, Marwick, Mitchell & Co. (PMM), Price
Waterhouse & Co. (PW), and Touche Ross (TR).
2 Simunic [1980] used two indicator variables, one for PW auditees and one for the remaining seven (B7) audit firms' clients. In regressions considering differences in the substitution of auditee for auditor inputs, coefficients for the B7 variable were not signifi97
Copyright?, Instituteof ProfessionalAccounting1986

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98

JOURNAL OF ACCOUNTING RESEARCH, SPRING 1986

Economists have argued that when it is difficult to measure quality of services in quality-differentiated markets, market participants have incentives to devise arrangements (e.g., surrogates for quality) that minimize such measurement costs for buyers (Barzel [1982]). Several researchers in auditing (e.g., Dopuch and Simunic [1980; 1982] and DeAngelo [1981])
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