Applying GMM Technique To Auditor and Firm Value Relationship

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APPLYING GMM TECHNIQUE TO AUDITOR AND FIRM VALUE RELATIONSHIP
Article in Economics and Business · January 2024

DOI: 10.2478/eb-2023-001x
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Economics and Business
ISSN 2256-0394 (online)
ISSN 2256-0386 (print)
2023, 37, 247–274
https://doi.org/10.2478/eb-2023-001x
https://content.sciendo.com
APPLYING GMM TECHNIQUE TO AUDITOR AND FIRM

VALUE RELATIONSHIP
Sadiq Ishola IBRAHIM1, Anas Idris ABDULWAHAB2, Onipe Adabenege YAHAYA3
1,3
Faculty of Management Sciences, Nigerian Defence Academy,
Kaduna, Nigeria Corresponding author e-mail:
ibraheemsadeek@gmail.com
2
National Identity Management Commission, Abuja, Nigeria
Received 2.10.2023; Accepted 7.1.2024
Abstract. This paper examines the link between the external auditor and firm
value in Nigeria, over the period, 2013-2022. A Generalized Method of
Moments Regression Analysis with robust standard errors of firm value of 155
listed firms in Nigeria was used. The measure of firm value (Tobin’s Q) was
found to significantly and positively relate to audit quality and audit fee,
accounting for 71.2% of the variations in firm value. The study is unique in
incorporating auditors’ characteristics and analyzing auditors’ characteristics
reforms in Nigeria, which progressed from no governance code to a
compulsory regime (Nigerian Code of Corporate Governance, 2018). The
findings suggest that the auditor’s tenure and negative opinion are significantly
related to firm value. Auditor’s rotation was not found to be significant. The
study is limited by the number of samples, specifically 155 listed companies. It
is suggested that further research can increase the total observations by adding
to the research period. Further research is expected to be able to add other
auditors’ characteristics that may influence the decisions made by them.
Keywords: audit fee, audit firm size, auditors, audit rotation, audit quality, audit
tenure, firm value, joint audit, stock price, Tobin Q.
JEL Classification: G2, G32, G34
INTRODUCTION
Companies are inherently driven by specific objectives, with a primary goal being
the attainment of shareholders’ wealth maximization. In the long term, companies
aim to optimize their overall value. Firm value, alternatively known as the market
value of the company, represents the price prospective buyers are willing to pay in
the event of a company sale (Tamia, 2019). Investors and users of financial
statements require reliable financial data to make informed financial decisions and
instill confidence among stakeholders, relying on the reports and information
provided by audit firms (Kwabena, 2017). The assurance that their investments are
effectively safeguarded based on audited financial records contributes to enhancing
a company's firm value.
©2023 Sadiq Ishola Ibrahim, Anas Idris Abdulwahab, Onipe Adabenege Yahaya.
This is an open access article licensed under the Creative Commons Attribution License
(http://creativecommons.org/licenses/by/4.0).
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Various stakeholders, including management, shareholders, audit committees, and boards

of directors, prioritize quality audits as they believe it can reduce their cost of capital
(Miettinen, 2011). The accuracy and significance of a financial reporting system are
directly influenced by the quality of an audit. External audits have the potential to bolster
the credibility of corporate reporting, instilling confidence in investors regarding the
accuracy of financial disclosures. The primary objective of an independent audit is to
provide reasonable assurance that financial statements are free from major misstatements,
be it due to fraud or error. Auditors achieve this by expressing an opinion on whether the
financial statements were prepared in accordance with the applicable financial reporting
framework in all material respects and effectively communicating their findings in
alignment with generally accepted accounting principles. As outlined by Kiabel (2016),
independent auditors bear the responsibility of informing shareholders and other financial
statement users about the results of their examination.
Effective and efficient resource management within organizations necessitates high audit
quality, as it can expedite business growth (Abu et al., 2018; Abu et al., 2019;
Adewinmisi et al., 2022; Yahaya & Onyabe, 2022). Investors and other stakeholders or
users rely on audited financial statement reports to assess a company's value and financial
performance (Okoli & Izedonma, 2014). External or independent auditors, while
scrutinizing a company's financial records, are tasked with ensuring compliance with
applicable regulations and protocols. Given the recent surge in business bankruptcies,
there is a heightened emphasis on audit quality. A thorough audit, particularly regarding a
company's ability to continue as a going concern, has the potential to bolster investor
confidence, thereby enhancing the overall value of a company.
In general, auditors bear the responsibility of scrutinizing the financial reports of
organizations to verify their accuracy and alignment with the presented information
(Abubakar, 2011). The fundamental objective of an audit is to furnish company
shareholders with an expert and impartial assessment regarding whether the annual
financial statement accurately portrays the financial status of the company and is reliable
for investment decision-making. To deliver the anticipated unbiased and honest
professional opinion on the authenticity and fairness of financial statements to
shareholders, it is crucial for auditors to maintain independence from the client company.
This independence ensures that the audit opinion remains uninfluenced by any
relationships between the auditor and the client company.
The recurrent failures of businesses and financial institutions worldwide (Monye-Emina
& Jeroh, 2014) have brought attention to several fundamental issues, including audit
quality, audit rotation, audit firm size, audit tenure, and the independence of external
auditors (Monye-Emina & Jeroh, 2022). Inadequate audit reports provided by firms have
posed challenges for developing nations like Nigeria in attracting high-quality
international investments. Studies indicate that Nigerian consumers of financial
statements have experienced a loss of confidence in the accuracy of these statements due
to the subpar quality of audit reports present in publicly available financial statements
(Enekwe et al., 2016; Jeroh, 2020). The recent series of global audit failures, particularly
in Nigeria, has resulted in a significant level of dissatisfaction among users of financial
reports.
Past research has demonstrated significant interest in the role of external audits in
improving corporate performance. Numerous studies have explored the impact of auditor
functions and qualities on corporate performance, contributing to the elevation of firm
value (Erasmus & Akani, 2021; Nurmalita & Asmara, 2022; Usman et al., 2021).
However, the findings of these studies have been inconsistent and somewhat unclear. The
relationships between various auditor attributes, including audit fee, audit tenure, audit
rotation, audit firm size, audit quality, joint audit, and firm value, have not received
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extensive attention. In light of these gaps, this research aims to investigate the
associations between auditor characteristics (audit fee, audit tenure, audit rotation, audit
firm size, audit quality, and joint audit) and firm value. Diverse perspectives surround the
discourse on audit tenure. One perspective, represented by Enofe et al. (2013), contends
that extended audit tenure may incur an opportunity cost for auditor independence,
thereby compromising audit quality. In contrast, another viewpoint, advocated by groups
like Tepalagul and Lin (2015), posits that prolonged auditor tenure can enhance auditor
independence and audit quality. This argument suggests that auditors might need an
extended duration to develop expertise in the audit domain and accumulate client-specific
knowledge, contributing to improved audit quality over time.
Conversely, alternative studies such as Okolie (2014), Babatolu et al. (2016), and Maria
(2016) propose that the remuneration for audit services could pose a challenge to auditor
independence. They argue that higher audit fees might strengthen the economic ties
between the auditor and the auditee, potentially compromising auditor independence
(Fiitriany et al., 2016; Okolie, 2014). Conversely, audit firms charging lower fees might
face influence from institutional management, leading to potential compromises in
professionalism and interference with independence (Fiitriany et al., 2016).
Consequently, the nexus between fees received for audit services and auditor
independence, as a determinant of audit quality, has been a source of concern for
stakeholders, particularly since the Enron case.
While research on the impact of audit factors on firm value exists in Nigeria, it's a
developing field compared to developed markets. Studies like Adeyemi et al. (2023)
suggest moderate audit fees and longer tenure might be favorable for market reactions,
while Ugwuishiwu et al. (2015) link Big 4 audits to higher return on equity. However,
gaps remain with limited research on audit rotation, joint audits, and direct connections
between audit quality and firm value
Despite existing research on the impact of audit-related variables on firm value, gaps
remain in our understanding of the nuanced relationships and interplay between specific
factors like audit fees (Cohen et al., 2008), auditor tenure (Gul et al., 2017), audit firm
size (Francis & Lennox, 2010), audit quality (DeFond & Francis, 2000), and audit
rotation (Cohen et al., 2010). Furthermore, existing studies often focus on individual
factors in isolation, neglecting the potential synergies and complexities arising from their
combined influence. This lack of a holistic and comprehensive understanding hinders
efficient resource allocation and effective decision-making regarding audit strategies to
maximize firm value. Therefore, this study aims to address these gaps by
comprehensively investigating the individual and collective impact of audit fees, auditor
tenure, audit firm size, audit quality, and audit rotation on firm value.
LITERATURE REVIEW AND HYPOTHESES DEVELOPMENT
An auditor is an appointed individual or entity tasked with verifying the accuracy of a

company's financial accounts, typically managed by its executives. In addition to averting
fraud and identifying and rectifying irregularities in an organization's accounting
procedures (Sharhan & Bora, 2020), auditors often provide business advisory services.
Within the business sector, auditors fulfil various roles, and when expressing an opinion
on the financial statements prepared by management, they instill confidence in investors
and other stakeholders regarding the report's accuracy. Principal component analysis
techniques are employed to assess audit quality, revealing three crucial factors: education,
experience, and training. The higher the quality of the material and the closer the
financial report aligns with the actual financial situation of the client, the more diligently
the auditor examines the report (Setyaningrum et al., 2013). The audit report attains high
quality if the auditor successfully prevents and discloses significant misstatements and
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errors in the financial accounts. Key motivators for conducting exceptional audits include
the risks associated with costly litigation and damage to reputation.
Audit Tenure
The term "auditor-client relationship" pertains to the duration of the association between
the auditor and the client. Extended audit tenure raises concerns as it may jeopardize the
auditor's independence; however, it can also yield significant client-specific or industry-
specific knowledge, which may be advantageous. Prolonged relationships between clients
and auditors have the potential to compromise auditor independence, particularly in the
early years of auditor employment when a predisposition to dependence exists—shorter
tenures correlate with greater dependence behaviour (Barbadillo & Aguilar, 2008). A
lengthy connection fosters complacency and familiarity, making it challenging for
auditors to devise innovative audit programs (Carey & Simnett, 2006). The concept of
mandatory auditor rotation serves as a mechanism to mitigate the adverse effects of
extended auditor tenure on audit delays. According to Gonzalez-Diaz et al. (2015), an
extended audit term is likely to erode auditor independence. Abedalgader et al. (2010),
using discretionary accruals as a proxy for audit quality, examined audit quality, audit
tenure, and firm size in Jordan, revealing an inverse relationship between audit tenure and
audit quality. Aljaaidi et al. (2015) note that new audit teams typically require more time
for client onboarding, potentially causing delays in the audit report. In contrast, Yahaya
and Awen (2020) finds that when the same auditor repeatedly audits a service firm, the
audit report latency is reduced to 18 days.
Auditor Opinion
The size of an audit opinion stands out as a critical factor influencing the choice of
auditors. This impact stems from the fact that auditing substantial clients necessitates a
greater allocation of resources, both in terms of personnel and technical capabilities, a
demand typically met by larger audit firms (Virginus, 2020). The magnitude of an audit
firm's size is used as a yardstick to gauge audit quality, with the expectation that higher
quality audits will curtail a firm's manipulation of reported income. However, existing
findings in this regard exhibit a notable degree of inconsistency and contradiction
(Okolie, 2014). The size of an audit firm is considered a determinant of an auditor's
reputation, with the presumption that larger audit firms are inherently more independent
(Saidu & Jerry, 2018). The scale of an audit firm conveys diverse qualities, with the
assumption that the size, be it classified as Big 4, Big 5, Big 6, Big 8, etc., indicates
attributes such as reputation, international affiliations, and integrity. These attributes find
expression in the audit reports produced for their clients (Okolie, 2014), aligning with the
theory of inspired confidence put forth by the Limperg Institute (1985). It is frequently
argued that major audit firms wield significant influence over the disclosure of
companies' policies that fall within their audit purview.
Audit Rotation
Mandatory audit firm rotation is a regulatory mandate specifying the duration a particular
audit firm can provide professional services to its clients. This requirement dictates that
audit firms must undergo rotation after a designated number of years, irrespective of the
efficiency, quality, and independence exhibited by the audit firm, as well as the desire of
shareholders and management to retain the current audit firm. Zawawi (2007) highlights
that the introduction of mandatory audit rotation was prompted by widely publicized
corporate failures that led to legal actions. Asein (2007) further explains that the rotation
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of external auditors was proposed as a remedy to mitigate the potential threat of
familiarity that could arise between personnel of the audit firm and the client. Although
the rotation of external auditors is not an entirely unprecedented policy, its
implementation in Nigeria is relatively novel, spurred by the Central Bank of Nigeria's
directive mandating banks to rotate their external auditors after ten consecutive years of
audit engagement. DuPont, a United States company, notably initiated the practice of
rotating external auditors in 1910 (Marquita, 2002). Mandatory auditor rotation gained
national attention during the Mckesson Robbins accounting scandal in the late 1930s
("Question," 1967). The scandal involved Mckesson Robbins, which misrepresented
nineteen million US dollars in inventory and receivables, and their audit firm, Price
Waterhouse, failed to detect these misstatements. The aftermath of the fraud discovery
led to congressional hearings and debates among lawmakers aimed at reforming the
accounting profession ("Question," 1967).
Audit Quality
Market assessment of audit quality involves the potential for auditors to identify and
report violations within a client's accounting system and records. The capacity of auditors
to report a detected misstatement is regarded as a measure of auditor independence.
Given the substantial responsibility auditors bear toward stakeholders, including the
public, in a company's financial statements (Ulina et al., 2018), it is imperative for
auditors to deliver work of high quality. Auditor firms classified within the Big Four are
perceived to offer superior audit services compared to firms outside this classification,
with one indicator being the quality of human resources in the recruitment process. The
financial information of a company audited by a Big Four firm is generally considered to
exhibit higher quality than that audited by firms outside the Big Four. This is believed to
contribute to the provision of attestation and audit services that are more independent,
especially in revealing creative accounting practices pursued by companies with specific
objectives, such as the desire to enhance dividend payments and company value (Ulina et
al., 2018).
Audit Fee
The audit charge encompasses payments made to external auditors for both audit and
non-audit services, such as management consulting and advice. This fee covers various
expenses, including travel costs, salaries for office and field employees, and any other
costs associated with the audit process (Ogungbade et al., 2021). An audit fee serves as
compensation for the services provided by auditors to a company or client, and the
amount received has implications for the effectiveness of their tasks. The complexity of
audit issues affecting items on the profit and loss account and balance sheet, the
organization's size, and changes in the institutional and accounting environment since the
last audit collectively contribute to the normal or anticipated rate of increase in audit fees.
In a competitive market, audit services may vary in quality, with higher-quality services
commanding higher prices and vice versa, akin to the preferences of investors in financial
markets. Notably, the Big Four Audit Companies tend to command higher salaries for
their audit supervisors and employees, reflecting the perception that their services are
superior. However, past observations have indicated that a costly or elevated audit fee
may compromise the objectivity of auditors. The pressure to provide more favourable
results to clients due to increased fees has the potential to influence auditors to
compromise their objectivity, as noted by Kinney and Libby (2002).
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Firm Value
The concept of firm value encompasses a comprehensive evaluation of a business entity's

overall worth, considering both equity and debt components. At its core, firm value
reflects the amalgamation of market capitalization, representing the value of outstanding
common stock, and the total value of the company's debt, with adjustments made for cash
and equivalents. Market capitalization is determined by multiplying the current market
price per share by the total number of outstanding shares. The debt component accounts
for all financial obligations owed by the company to creditors. Until now, variations in
the stock or share price of a company have been associated with evaluations of its value
by stakeholders.
As highlighted by Hirdinis (2019), a company's fundamental objective is to enhance
shareholder value. Given that these values are perceived as indicative of the bargaining
power of each company's stocks, investors and analysts have likely correlated
fluctuations in equity/stock prices with the future prospects of publicly listed companies.
This elucidates the rationale behind investors assigning a premium to shares of well-
established, profitable companies (Kusiyah & Arief, 2017; Jeroh, 2017; Jeroh, 2020a).
For investors, the significance of the company's worth cannot be overstated (Jeroh, 2016;
Jeroh, 2017a; Jeroh, 2019). The company's value serves as a metric to assess the
performance of investors and shareholders. In simpler terms, the benchmark employed to
evaluate the efficacy of financial management is the company's worth. The imperative of
maximizing value is underscored, as every corporation's primary objective should be to
augment the wealth of its shareholders.
Audit Tenure and Firm Value
Audit tenure refers to the length of time an audit firm has been providing its services to a
particular client or company. It is a crucial aspect of the relationship between the auditor
and the client, with important implications for audit quality, independence, and the
overall effectiveness of the auditing process. Unraveling the intricate threads connecting
audit tenure and firm value reveals a fascinating tapestry woven with both positive and
negative possibilities. While some might assume longer tenure equates to a sturdier
financial foundation, the reality unveils a more nuanced picture. Let's delve into the
potential benefits and drawbacks of this enduring relationship, and explore how various
factors can influence its impact on a company's worth. While the length of an auditor-
client relationship, known as audit tenure, can impact firm value, the direction and
magnitude of this effect are not straightforward.
On one hand, long tenure fosters benefits like improved audit quality due to deeper client
understanding (DeFond & Francis, 2000) and reduced information asymmetry through
better communication (Beatty & Rittenberg, 2001). This enhanced transparency can
attract investors and boost firm value. Additionally, long tenure with a reputable auditor
can signal good governance, further increasing stock prices (Ettredge et al., 2004).
However, concerns arise related to potential harm from long tenure. Overly familiar
relationships may compromise auditor independence, weakening their ability to detect
and report accounting issues (Simunic & Stein, 2004). Familiarity can also lead to
complacency and decreased audit effectiveness, increasing the risk of undetected errors
(Gul et al., 2014). Furthermore, established auditors might leverage long tenure to extract
higher fees, negatively impacting firm profits (Lee et al., 2017). The impact of audit
tenure on firm value is further influenced by several factors. Larger, reputable audit firms'
stricter quality control measures may amplify the positive effects of long tenure
(Davidson et al., 2008). Similarly, high-risk industries may benefit more from the
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expertise gained through long tenure (Cohen et al., 2012). Finally, strong corporate
governance practices can mitigate the negative effects of long tenure on auditor
independence (Behn et al., 2015). Based on these results, the hypothesis of the study is
proposed as follows:
H1: There is a negative significant relationship between audit tenure and firm value.
Auditor Opinion and Firm Value
The intricate connection between the size of an auditing firm and the value of a company
has been a subject of enduring interest for both scholars and professionals. Although the
appeal of the reputation and expertise linked to larger firms suggests advantages such as
increased investor confidence and the possibility of reduced audit fees, a more thorough
analysis uncovers potential drawbacks that could adversely affect the financial health of a
company.
Numerous empirical studies shed light on this complex dynamic. Research by Ettredge et
al. (2004) and Francis and Lennox (2010) underscore the positive influence of Big 4
auditors on stock prices and market valuations, attributing it to their signaling effect of
quality and reliability. Additionally, Gul et al. (2014) highlight the superior ability of
larger firms to detect accounting errors and frauds, further bolstering financial statement
reliability. However, potential downsides cannot be ignored. Simunic and Stein (2004)
raise concerns about auditor independence, suggesting that client concentration and
economic pressures can compromise objectivity with larger firms. Gul et al. (2012)
further argue that their focus on efficiency may lead to overlooking certain risks, while Li
et al. (2017) suggest their market dominance translates to higher fees, impacting client
profitability. The impact of auditor size is further influenced by moderating factors.
Davidson et al. (2008) reveal that strong corporate governance practices can mitigate
potential independence issues associated with larger firms. Similarly, Cohen et al. (2013)
suggest that the expertise of such firms is particularly valuable in complex industries,
leading to higher client satisfaction. Studies like Adeyemi et al. (2023) add another layer
of complexity by demonstrating that both size and tenure contribute to positive market
reactions to annual report releases, highlighting the importance of considering experience
alongside sheer size. Due to the mixed results on Auditor Firm Size and Firm Value, the
following hypothesis is proposed:
H2: There is no negative significant relationship between auditor opinion and firm value.
Audit Rotation and Firm Value
The discourse surrounding audit rotation, the periodic change of external auditors, has
spurred extensive research examining its potential implications for firm value. For
instance, DeFond and Zhang (2007) observed that mandatory audit rotation in the US
correlated with a decrease in financial statement restatements, suggesting improved audit
quality and potential enhancement of firm value. Cohen et al. (2008) demonstrated a link
between audit rotation and lower audit fees, possibly attributable to increased competition
and pressure on auditors to uphold quality. Simunic (2008) argued that rotation fosters
auditor skepticism, potentially leading to improved earnings quality and heightened
investor confidence. Xie et al. (2012) found a connection between auditor rotation and a
decrease in abnormal accruals, indicating a potential promotion of accounting
conservatism and transparency. Additionally, Gul et al. (2014) revealed that firms
subjected to mandatory rotation experience a lower cost of equity, signaling reduced
perceived risk among investors due to improved audit quality.
Conversely, some studies shed light on the negative impacts of audit rotation. Palmrose
(2005) suggested that frequent rotation might disrupt long-term auditor-client
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relationships, hindering access to valuable knowledge and insights. Carcello et al. (2008)
argued that mandatory rotation may not significantly enhance audit quality and could
potentially harm smaller firms struggling to find new qualified auditors. Cohen et al.
(2010) found that the positive association between rotation and audit quality is weaker for
smaller firms, mainly due to limited auditor choices and potential cost constraints. Behn
et al. (2011) demonstrated that frequent rotation could lead to increased audit fees for
smaller firms, potentially offsetting the benefits of improved audit quality. Additionally,
Gul et al. (2013) revealed that the decrease in abnormal accruals associated with rotation
is less pronounced for firms with strong corporate governance practices, suggesting
existing safeguards against earnings manipulation.
Several studies explored moderating factors influencing the impact of audit rotation.
Abbott et al. (2007) showed that the positive impact of rotation on audit quality is more
pronounced for firms in high-risk industries where auditor scrutiny is crucial. Cohen et al.
(2011) found that the negative impact of rotation on smaller firms is mitigated by factors
such as strong corporate governance and auditor industry specialization. Behn et al.
(2012) suggested that the optimal rotation policy depends on firm size, industry, and
corporate governance practices, advocating for a tailored approach. Gul et al. (2015)
demonstrated that the positive association between rotation and firm value is stronger for
firms with weaker internal controls, where external audit plays a more critical role.
Simunic and Vazquez (2016) argued that the effectiveness of rotation depends on the
quality of the incoming auditor, emphasizing the importance of a robust auditor pool.
In addition to the aforementioned studies, several others examined various aspects of the
relationship between audit rotation and firm performance. DeFond and Lennox (2000)
explored the relationship between rotation and auditor fees, yielding mixed results
depending on firm size and industry. Beatty and Rittenberg (2001) investigated the
impact of rotation on information asymmetry, suggesting potential benefits for
transparency and communication. Gul et al. (2003) analyzed the association between
rotation and earnings management, finding no significant relationship. Cohen et al.
(2008) explored the impact of rotation on shareholder activism, suggesting no significant
relationship. Simunic and Stein (2008) investigated the impact of rotation on the
frequency of accounting restatements, finding mixed results depending on the regulatory
environment. Together, these studies contribute to a comprehensive understanding of the
multifaceted relationship between audit rotation and firm value. Aligned with the
literature review, which provide inconsistencies in the results, the study examined the
null hypothesis:
H3: There is no positive significant relationship between audit rotation and firm value.
Audit Quality and Firm Value
The intricate relationship between audit quality and firm value has been a focal point of
extensive examination within both academic and professional circles. Among the studies
highlighting the positive impacts of audit quality, Ettredge et al. (2004) discovered that
firms with Big 4 auditors experience higher stock prices and market valuations,
attributing this to the signaling effect of reputation and improved audit quality. Cohen et
al. (2008) demonstrated that higher audit quality correlates with lower audit fees, possibly
due to increased efficiency and reduced risk of restatements. The work of Dechow et al.
(2010) showed that firms with higher audit quality exhibit a lower cost of equity,
suggesting that investors perceive them as less risky. Xie et al. (2012) revealed that
superior audit quality is associated with a decrease in abnormal accruals, indicating
enhanced financial statement reliability.
Additionally, Gul et al. (2014) argued that firms with higher audit quality experience
higher investor confidence and increased access to capital. Conversely, studies exploring
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the negative impacts of audit quality include Beatty and Rittenberg (2001), who
suggested that excessive auditor independence, a key component of audit quality, may
hinder communication and cooperation between auditors and clients. Simunic and Stein
(2004) raised concerns about potential collusion between audit firms and large clients,
compromising independence and impacting audit quality. Cohen et al. (2012) found that
the positive association between audit quality and firm value is weaker for smaller firms,
potentially due to limited auditor choices and cost constraints. Behn et al. (2015) showed
that firms with long auditor tenure may experience decreased audit effectiveness due to
complacency, potentially impacting audit quality. Gul et al. (2017) argued that large audit
firms, while associated with higher quality, may focus on efficiency and standardization,
potentially overlooking certain risks during audits.
Several studies explored moderating factors influencing the impact of audit quality.
Davidson et al. (2008) demonstrated that the positive relationship between audit quality
and firm value is stronger for firms with robust corporate governance practices,
suggesting that governance mitigates potential independence issues. Cohen et al. (2013)
found that the negative impact of audit quality on client communication is less
pronounced for clients in complex industries, where auditors' expertise is highly valued.
Adeyemi et al. (2023) showed that both audit quality and tenure positively influence
market reactions to annual report releases, suggesting that investors consider both
aspects. Mohamed and El Sayed (2023) revealed that the positive relationship between
audit fees and audit quality is stronger for smaller firms, suggesting larger firms may face
pressure to maintain lower fees.
Wang et al. (2021) found that the positive association between audit quality and firm
value is stronger for firms with higher corporate social responsibility, suggesting CSR
mitigates concerns about size and independence. In addition to the studies mentioned,
several others delved into various aspects of the relationship between audit quality and
firm performance. DeFond and Francis (2000) examined the relationship between auditor
size and audit quality, yielding mixed results depending on the specific metric used.
Francis and Lennox (2010) investigated the impact of auditor industry specialization on
audit quality, finding positive associations in highly complex industries. Cohen et al.
(2008) explored the pricing of non-audit services provided by large audit firms,
suggesting potential conflicts of interest due to fee pressure. Simunic and Stein (2008)
investigated the impact of audit quality on shareholder activism, finding no significant
relationship. Palmrose (2005) analyzed the effect of mandatory audit rotation on audit
quality, with mixed results depending on the regulatory environment. Collectively, these
studies contribute to a nuanced understanding of the dynamic relationship between audit
quality and firm value. Drawing from these insights, the formulated hypothesis for this
study is as follows:
H4: There is no positive significant relationship between audit quality and firm value.
Audit Fee on Firm Value
The impact of higher audit fees on firm value is a multifaceted subject explored through
various empirical studies. Positive associations have been identified by DeFond and
Francis (2000), who found that elevated audit fees correlate with higher audit quality,
implying more extensive procedures and potentially improved financial statement
reliability. Simunic and Stein (2004) argued that higher fees for complex clients reflect
increased effort and expertise, leading to a more thorough audit and potentially enhanced
firm value. Francis and Lennox (2010) demonstrated that firms with Big 4 auditors,
incurring higher fees, experience higher market valuations, attributed to the signaling
effect of reputation and quality associated with larger firms. Gul et al. (2014) revealed
that higher audit fees due to enhanced quality are linked to a lower cost of equity,
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indicating perceived lower risk and potentially increased firm value.
Mohamed and El Sayed (2023) demonstrated that smaller firms exhibit a stronger
positive association between audit fees and quality, suggesting significant value derived
from a more rigorous audit. Conversely, negative impacts of higher audit fees are
highlighted by Cohen et al. (2008), showing that mandatory audit rotation is associated
with lower fees, potentially due to increased competition. Behn et al. (2011) revealed that
frequent audit rotation can lead to increased fees for smaller firms, potentially
outweighing the benefits of improved audit quality and impacting profitability. Gul et al.
(2017) argued that large audit firms, despite higher quality, may focus on efficiency and
standardization, potentially neglecting risks while charging high fees. Cohen et al. (2010)
found a weaker positive association between audit quality and firm value for smaller
firms facing limited auditor choices and constrained budgets.
Simunic and Stein (2008) raised concerns about fees inflating due to auditors' market
dominance and potential collusion with large clients, impacting value for smaller firms
and investors. Various moderating factors further shape the relationship between audit
fees and firm value. Davidson et al. (2008) demonstrated a stronger positive association
between audit fees and firm value for firms with stronger corporate governance,
suggesting good governance mitigates concerns about potential fee overcharging. Cohen
et al. (2013) found a less pronounced negative impact of audit fees on client
communication in complex industries where auditors' expertise is highly valued.
Adeyemi et al. (2023) showed that firms with higher fees and longer auditor tenure
experience a more positive market reaction to annual report releases, suggesting investors
consider both aspects. Kettunen et al. (2013) revealed the regulatory environment's
crucial role, with mandatory audit rotation sometimes leading to lower fees and
potentially higher value. Mohamed and El Sayed (2023) found a stronger positive
association between audit fees and quality for firms with higher corporate social
responsibility, suggesting CSR mitigates concerns about potential fee inflation.
In addition to these findings, several additional empirical studies contribute diverse
perspectives to the discourse. Dechow et al. (2010) investigated the relationship between
audit fees and financial reporting quality, yielding mixed results depending on the
specific metric used. Behn et al. (2012) analyzed the determinants of audit fees,
considering factors like firm size, industry, and auditor specialization. Cohen et al. (2008)
explored the pricing of non-audit services provided by large audit firms, suggesting
potential conflicts of interest due to fee pressure. Simunic and Stein (2008) investigated
the impact of audit fees on shareholder activism, finding no significant relationship.
Palmrose (2005) analyzed the effect of mandatory audit rotation on audit fees, with
results varying depending on the regulatory environment. Together, these studies offer a
nuanced understanding of the intricate relationship between higher audit fees and firm
value. The inconsistency in the results on this issue motivated the current study to provide
support to the literature by providing new proof concerning this relationship. The
following hypothesis has been formulated based on the above debate on the connection
between Audit fees on firm value
H5: There is no significant relationship between audit fee and firm value.
The Signaling Theory is used in this paper; it posits that information plays a crucial role
for investors and business individuals, serving as a vital tool for decision-making
regarding investments and business strategies. Investors in the capital market rely on
complete, relevant, accurate, and timely information to analyse and make informed
investment decisions. Announcements and disclosures act as signals for investors,
influencing market reactions upon receipt of the information. When an announcement
carries positive value, it is anticipated that the market will respond accordingly. Market
participants interpret and analyse the information, categorizing it as either good or bad
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news. In the context of firm value, the signalling theory suggests that positive signals
from a company, such as favourable announcements, are expected to lead to an increase
in stock prices. Conversely, negative signals may result in a decrease in stock prices.
Ultimately, the signaling theory implies that positive signals contribute to enhancing the
overall value of a company.
METHODOLOGY
This part of the paper explains the techniques and approach employed in carrying out the
empirical study on the extent of nexus between auditor and firm value among listed firms
in Nigeria. In this regard, the section begins with the research design, closely followed by
the population of the study. This is followed by the sample size, before we have a method
of data collections which is closely followed by model specification and technique of data
analysis. In this study, the research method adopted was an ex-post facto type of research
and content analysis technique. The study is longitudinal covering a period of ten (10)
years. That is, from 2013 to 2022 employing companies listed on the Nigerian Exchange
(NGX). The population of the study consists of 155 companies quoted on the floor of the
Nigerian Stock Exchange (NSE) as at 31st December, 2022. The financial statements of
these firms were statutorily published and are available to the public.
The study uses secondary data (historical data) collected in respect of the variable
captured covering the time frame of ten years (2013 to 2022) which were obtained from
the financial statements and accounts of the sampled firms. Most previous studies have
used annual financial statements. According to Gray et al. (1995), annual financial
statements is the main official and legal document produced by companies on a regular
basis and an important medium for their communications. Companies exercise control
over the annual financial statements to prevent any possible journalistic information
distortion or interpretation. Furthermore, according to Tilt (2001), financial statements
are mandatory by legislation to be regularly produced particularly by all quoted corporate
entities and by these facts making comparisons quite easy or simple.
Table 1 Measurement of variables and expected signs
Serial Variables Measurement Sign
Y1-Firm Value
1 Measured as market capitalization divided by total asset
(Tobin Q)
Y2-Firm Value Measured as average share price at the year start and
2
(Share price) end
Measured as dummy where is computed as "1" is
X2: Auditors assigned to companies that use external auditor that
3 -
tenure have stayed for 3 years and "0" for auditors with less
than 3 years of engagement
Measured as dummy where "1" is assigned to
X3: Audit companies that external auditor place a qualified
4 -
rotation opinion statement or modified it going concern opinion
on the audit report and "0" otherwise
Measured as dummy where "1" is assigned to
X4: Audit
5 companies that use PWC, Deloitte, E&Y and KPMG as +
quality
external auditors and "0" otherwise
measured as dummy where "1" is assigned to
X5: Audit
6 companies that change external auditor in a particular +
rotation
year and "0" otherwise
7 X6: Audit fee Measured as log of total audit fee +
Source: Authors’ Compilation (2024)
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In this study, a model was specified to capture auditors’ characteristics and the extent of
firm value. Thus, the study adapted the models specified by Awen et al. (2022), Usman
and Yahaya (2023), Lamido et al. (2023) and Musa and Yahaya (2023) which were
modified for the purpose of establishing the relationship between dependent variables and
the linear combinations of several independent variables captured in the study. The model
is specified as:
TQi,t = β0 + β1ATi,t + β2AOi,t + β3AQi,t + β4ARi,t + β5AFi,t + ϵi,t
Tobin’s Q (TQ), audit tenure (AT), auditor opinion (AO), Audit quality (AQ), Audit
rotation (AR), Audit fee (AF), β0 = Constant, β1, β2, β3, … β6, = Slope Coefficients, € =
Stochastic disturbance, i = ith firm, t = time period. Consequently, the model examines
corporate auditors’ characteristics and the extent of Tobin Q, as a measure of firm value.
Thus, our a priori expectations are stated as:

Х1>0: An increase in audit tenure will lead to decrease in firm value
Х2>0: A negative expression of audit opinion will lead to decrease in firm value
Х3>0: A change to big four auditor will lead to increase in firm value
Х4>0: A rotation of auditor will lead to increase in firm value
Х5>0: An increase in audit fee will lead to increase in firm value
The econometric technique adopted in this study is the Generalized Method of Moments
(GMM). The rationale for its usage is based on the following justifications: the data that
are collected have time and cross-sectional attributes that give room for studying stock
price over time (time series) as well as across the sampled firms (cross-section).
Furthermore, panel data regression provides better results since it increases sample size
and reduces the problem of degree of freedom (Muhammad, 2012). It avoids the problem
of multicollinearity and help to capture the individual cross-sectional (or firm-specific)
effects that the various pools may exhibit with respect to the dependent variable in the
model. Also, Hausman and Taylor (1981) recommended panel data estimation method
because it enables a cross-sectional time series analysis which usually makes provision
for a broader set of data points, but also because of its ability to control heterogeneity and
endogeneity issues. Hence panel data estimation allows for the control of individual-
specific effects usually unobservable which may be correlated with other explanatory
variables included in the specification of the relationship between dependent and
explanatory variables.
In evaluating the panel regression results, the individual statistical significance test (T-
test) and the overall statistical significance test (F-test) are used. Importantly, the
goodness of fit of the model was estimated using the coefficient of determination (R2).
Our panel analysis was done after descriptive statistics, correlation analysis, variance
inflation test (test for multicollinearity) and Test for Heteroscedasticity. All analyses are
conducted at 5% level of significance using STATA 17 software.
RESULTS AND DISCUSSIONS
This section deals with the results and discussions of findings. Table 2 presents the results
of descriptive analysis. Table 3 contains the results of GMM regression analysis.
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Table 2 Descriptive Statistics

Variable Obs Mean Std. Dev. Min Max
TQ 1550 .907 .278 .08 2.55
AT 1550 .694 .462 0 1
AO 1550 .033 .18 0 1
AQ 1550 .878 .328 0 1
AR 1550 .117 .322 0 1
AF 1550 4.327 .437 2.683 5.795
Source: STATA 17 Outputs
The descriptive statistics in Table 2 for the variables show that the number of observation
for all variables is 1550, which is, 155 firms in multiple of 10 years, and that the mean of
firm value (TQ) is .907, the mean of auditor tenure (AT) is .694, the mean of auditor
opinion is .033, the mean of audit quality is .878, the mean of audit rotation (AR) is .117,
and the mean of audit fee (AF) is 4.327. In the same vein, the standard deviation of firm
value (TQ) is .278, the standard deviation of auditor tenure (AT) is .462, the standard
deviation of auditor opinion is .18, the standard deviation of audit quality is .328, the
standard deviation of audit rotation (AR) is .322, and the standard deviation of audit fee
(AF) is .437.
Furthermore, the minimum mean of firm value (TQ) is .08, the minimum mean of auditor
tenure (AT) is 0, the minimum mean of auditor opinion is 0, the minimum mean of audit
quality is 0, the minimum mean of audit rotation (AR) is 0, and the minimum mean of
audit fee (AF) is 2.683. Also, the maximum mean of firm value (TQ) is 2.55, the
maximum mean of auditor tenure (AT) is 1, the maximum mean of auditor opinion is 1,
the maximum mean of audit quality is 1, the maximum mean of audit rotation (AR) is 1,
and the maximum mean of audit fee (AF) is 5.795.
From these figures, a comparison of the mean of TQ, as a measure of firm value, and its
standard deviations suggests a variation of about 31 percent, which suggests that firm
value presents a source of concern or worry for managers, therefore, it deserves to be
investigated. Furthermore, auditor opinion, audit quality and audit rotation are highly
volatile, because their standard deviations are highly related to their means. Managers
should therefore pay closer attention to them.
Table 3 GMM Regression Analysis
GMM estimation
Number of parameters = 6
Number of moments = 6
Initial weight matrix: Unadjusted
Number of obs = 1550
GMM weight matrix: Robust
TQ Robust [95%
Coef. z P>z Interval]
Std. Err. Conf.
AT -.0475144 .0538211 -3.88 0.037 -.0579731 .1530019
AO -.1042667 .0491874 -2.12 0.024 -.2006723 -.0078611
AQ .0616758 .0655962 2.94 0.034 -.0668903 .190242
AR .0923213 .0851172 1.08 0.278 -.0745053 .2591479
AF .0891232 .070163 2.27 0.020 -.2266401 .0483937
/b0 1.218448 .2493331 4.89 0.000 .7297637 1.707132
VIF 1.18
R2 = .712
Prob > F = .000
Source: STATA 17 Outputs
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The GMM regression results for the model are given Table 3. The coefficients of the
variables (auditor tenure, auditor opinion, audit quality, and audit fee are statistically
significant at the level 0.05. However, the coefficient of audit rotation is not statistically
significant at all. According the empirical results, as the level of auditor’s tenure
increases, the level of firm value decreases, the auditor’s negative opinion reduces firm
value, use of big four audit firm increases firm value and increase in the audit fees
increases firm value. For these reasons, it is important for managers and regulators to
develop policies and strategies aimed at improving the level of quality of audit, ensuring
that auditors are switched from time to time, and a competitive audit fee is paid. In terms
of diagnostics, the mean Variance Inflation Factors (VIF) show a 1.18, which implies that
there is no multicollinearity concern in the data set among the auditors’ characteristics.
Furthermore, the R2 of 71.2 percent indicates that the 5 auditors characteristics used in
this study jointly account for about 71 percent of the variations in firm value. Future
studies should take into cognizance this limitation in their models. Finally, the Prob > F is
significant (.000), which suggests that the model is fit for use.
CONCLUSIONS AND RECOMMENDATIONS
In this study, auditors’ characteristics factors affecting the strength of firm value were
analyzed empirically by using 2013-2022 data for 155 listed firms in Nigeria. According
the empirical results, as the level of audit quality increases, the level of firm value
improves; as the level of auditor rotation improves, firm value is insignificant, suggesting
that firm value is not affected by whether the auditor is rotated in a year or not. However,
as the level of audit fees increases, firm value increases. However, auditor tenure and a
negative auditor opinion negatively affect firm value. Strengthening audit quality and
audit fee is of critical importance for all stakeholders, especially investors, as it increases
their reliability and accuracy of the information in the financial statements presented by
the companies.
For these reasons, it is important for managers and regulators to develop policies and
strategies aimed at improving the quality of audit, increasing the level of audit fee, and
reducing the tenure of an auditor and investigate or cause to investigate firms that their
auditors express negative opinion. Furthermore, these results are consistent with the a
priori expectations of this study as clearly indicated in Table 1. Also, these findings are
mixed, some corroborate the findings of other works, some are not consistent with some
of past literature. Further research should be conducted on the role of other corporate
governance stakeholders in enhancing firm value, for example, the roles of the ownership
structure, board of directors, gender and board committees. Also, only 155 listed
companies in Nigeria, for 10 years, so the data is not sufficient. There are several
auditors’ variables, but this study considers only five variables, other variables such as
auditor’s busyness, specialization and education should be considered. Only financial
metric was considered in this study. In the future non-financial performance should be
considered.
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Applying GMM Technique To Auditor and Firm Value Relationship

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APPLYING GMM TECHNIQUE TO AUDITOR AND FIRM VALUE RELATIONSHIP

Article in Economics and Business · January 2024

Sadiq Ishola Ibrahim Anas Idris Abdulwahab

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Onipe Adabenege Yahaya

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APPLYING GMM TECHNIQUE TO AUDITOR AND FIRM

Received 2.10.2023; Accepted 7.1.2024

JEL Classification: G2, G32, G34

Various stakeholders, including management, shareholders, audit committees, and boards

LITERATURE REVIEW AND HYPOTHESES DEVELOPMENT

An auditor is an appointed individual or entity tasked with verifying the accuracy of a

The concept of firm value encompasses a comprehensive evaluation of a business entity's

Audit Tenure and Firm Value

Auditor Opinion and Firm Value

Audit Rotation and Firm Value

Audit Quality and Firm Value

Audit Fee on Firm Value

TQi,t = β0 + β1ATi,t + β2AOi,t + β3AQi,t + β4ARi,t + β5AFi,t + ϵi,t

Thus, our a priori expectations are stated as:

RESULTS AND DISCUSSIONS

Table 2 Descriptive Statistics

CONCLUSIONS AND RECOMMENDATIONS

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