Summary
This paper examines the effects on UK audit market concentration and pricing of mergers between the large audit firms and the demise of Andersen. Based on data over the period 1985-2002, it appears that mergers contributed to a rise in concentration ratios to levels that suggest concern about the potential for monopoly pricing. The high concentration ratios have not improved the level of price competition in the UK audit market. Our pooled models suggest that concentration ratios are associated with higher audit fees. The evidence suggests that the effects of mergers between big firms on brand name fee premium and on price competition vary depending on the particular circumstances. The brand name premium is strongest for the largest quartile of companies prior to the mergers. After the Big Six mergers, the premium increases for average-sized companies but falls for the smallest and largest companies. Following the PricewaterhouseCoopers merger, the premium increases for below median-sized clients but decreases for above-median sized clients. For the Deloitte-Andersen transaction, the premium falls for the smallest and largest companies but increases for those in the second quartile. Our results provide evidence that auditees are likely to pay higher fees if their auditor merges with a larger counterpart. We attribute merger-related fee hikes to product differentiation, rather than anti-competitive pricing.
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The Effect of Large Audit Firm Mergers On Audit Pricing in the Uk
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1. IntroductionA large number of audit firms have combined in the UK since the 1980s. Table 1 shows that the various mergers and the demise of Andersen have reduced the number of first-tier accounting firms (hereafter Big Firms) from eight in 1985 to four in 2002. Industrial economists use the structure-conduct- performance paradigm to urge regulators to be wary of reductions in the number of suppliers. Interesting research questions raised by this paradigm are how and to what extent have the structure of the audit market and the pricing policies of the major accounting firms been affected by the mergers and Andersen transaction? We examine audit pricing in the context of the industry restructuring that occurred during the 1980-2003 period as a result of mergers between large audit firms and the disappearance of Andersen (hereinafter referred to as the 'Andersen transaction').This study contributes to the literature by investigating the effect of structural changes in the market for audit services on concentration and the pricing of the audits of UK listed companies. The UK provides an interesting empirical setting for a number of reasons. UK companies have long reported audit fee information in their annual financial statements (Companies Act 1967), making it possible to carry out a longitudinal study that is not yet possible in the US.1 Furthermore, the London market is one of the world's largest, making it easier to test theories of audit pricing than in small markets like Hong Kong. We have exploited these institutional features to conduct a more comprehensive study over a longer time frame than in the prior literature.We find that the largest increases in concentration ratios coincided with Big Firm mergers in 1989, 1990 and 1997. By 2002, concentration ratios reached levels that are consistent with a market structure of just over four equal sized firms, exceeding levels normally associated with a tight oligopoly. These structural changes appear to have had a variable effect on audit fees. There is some evidence to suggest that the high concentration ratios have reduced t...See the full content of this document
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