Paradoxically, audit firms that do a thorough job examining clients’ financial statements could be doing so at their own peril. New research indicates that they tend to suffer a drop in future client growth and revenue growth after detecting a material weakness in a company’s financial reporting.
Companies avoid hiring auditors that have a history of critical audits at other companies, though firings because an auditor found a material weakness aren’t as apparent, the study said. Therefore, some auditors have trouble attracting new clients.
The study tracked the issuance of “internal control material weaknesses,” or ICMWs, which are critical of management, from 2004 to 2016. If a regional office of an audit firm issues a single ICMW, for example, it leads to a 2.5% lower growth in the number of clients and an 8% decline in year-over-year revenue for that office. The study lays the blame on boards of directors, whose audit committees make decisions on hiring or firing auditors.
