Qualified Audit Opinions and Share Prices--An Investigation.

Abstract In recent years, critics and accounting standard-setting bodies have focused much attention on auditors' incentives and ability to uphold professional standards. A basis for this concern with auditor "independence" (i.e., the ability to reveal adverse information about a client firm's financial reports when dictated by professional standards) is the belief that qualified opinions convey unfavorable information about the auditee. The objective of this study is to test this assumption empirically in the U.S. While two recent studies have examined the effect of qualified opinions on stock prices of Australian and British firms, both contain some important limitations. Further, differences in institutional environments may limit the applicability of these studies to this country. This study used a sample of 90 qualified-opinion firms and 90 unqualified-opinion firms matched on the basis of sales, SIC code and auditor. Evidence exists that the two groups did not differ significantly in systematic risk. The market model with an industry factor was used to calculate twelve- and three-month firm-specific stock returns. The impacts of earnings reports released around the time of the audit opinion were controlled for with four earnings prediction models. The results are consistent with the hypothesis that qualified audit opinions are at least associated with stock price decreases. There is some indication that the relationship with stock price changes differs across types of qualified opinions.