Managerial ability and audit outcomes

We examine the role of client firms’ managerial ability in audit outcomes. Using a sample of 35,252 firm-year observations of US non-financial firms, we find a statistically significant association between managerial ability and audit outcomes. This suggests that firms with high-ability managers experience fewer financial restatements, reduced internal control issues, lower audit fees, shorter audit report lags, and a decreased likelihood of receiving a going-concern opinion. This evidence is robust to various endogeneity tests, including a natural experiment, propensity score matching, and an instrumental variable approach. Moreover, we show that the impact of high-ability managers on audit outcomes is more pronounced for client firms that suffer from weak governance oversight, have severe information asymmetry, are located far away from auditors, and lack industry-specific auditor expertise, which supports the case for the substitution effects of managerial ability. Overall, our empirical evidence is distinctive and has implications for client firms, auditors, and policymakers.