Understanding Audit Engagement in the Context of Environmental, Social and Governance Controversies: UK Evidence

Environmental, social and governance (ESG) controversies have gained increasing attention due to their potential impact on corporate governance, financial stability and stakeholder trust. This study investigated the association between ESG controversies and auditing at both the beginning and end of the audit engagement, focusing on audit fees, auditor opinion, auditor early resignation (AER) and the influence of audit reports (ARs) on ESG controversies. This study employs a sample of 367 non-financial UK firms from the industry, energy and basic materials sectors and constructs an imbalanced dataset comprising 3,670 full-year observations covering the period 2014–2023. Employing system-pooled logit and pooled ordinary least squares (OLS) regression analyses and supported by two-step generalized method of moments (GMM), the findings indicate that ESG controversies significantly affect audit fees and auditor selection: Firms experiencing higher ESG controversies are more likely to engage BIG4 audit firms, which impose elevated fees. However, ESG controversies do not appear to be a sufficient reason for the auditor’s early resignation. Additionally, modified ARs are found to contribute to ESG controversies, as auditors highlighting key audit matters—such as low ESG performance and ESG-related risks—can further amplify ESG concerns. This investigation incorporates stakeholder theory, signalling theory and information asymmetry theory to provide stakeholders with valuable insights. It highlights the auditors’ role in ensuring ESG transparency and managing ESG-related risks. Managers must consider the financial impact of ESG controversies, including higher audit costs and reputational risks tied to BIG4 firms. Auditors should assess ESG controversies when auditing risk, evaluating clients and ensuring the reliability of audit-proofing.