The Impact of Auditor Tenure on Audit Quality and Investor Confidence in Public Firms

Posted: Apr 08, 2018

• Ronan Chavez
• Kendall Pierce
• Chase Harper

Abstract

This research introduces a novel methodological framework for examining auditor tenure effects by integrating computational linguistics, network analysis, and behavioral economics principles. Traditional studies have approached the auditor tenure debate through conventional regression analyses of financial restatements and audit fees, yielding contradictory findings about optimal rotation periods. Our study breaks from this paradigm by developing a multi-dimensional assessment model that captures both quantitative audit quality metrics and qualitative dimensions of investor perception. We employ natural language processing techniques to analyze earnings call transcripts, investor communications, and regulatory filings across a 15-year period, creating a composite confidence index that reflects market sentiment beyond traditional stock price movements. Additionally, we implement a network analysis of auditor-client relationships to identify structural patterns that influence both audit quality outcomes and market perceptions. Our findings reveal a non-linear relationship between auditor tenure and audit quality, challenging the conventional wisdom supporting mandatory rotation policies. We identify a 'sweet spot' between years 7-12 where audit quality peaks, followed by a gradual decline that contradicts the abrupt deterioration assumed in regulatory frameworks. Furthermore, we demonstrate that investor confidence responds differently to tenure length than actual audit quality, creating a perception gap that can influence market behavior independently of underlying financial reporting quality. This research contributes to the literature by offering a more nuanced understanding of how tenure affects the audit ecosystem and provides evidence-based insights for regulators considering rotation policies.