Does Periodic Audit Firm Designation Improve Financial Reporting Quality?

ABSTRACT

In 2019, Periodic Auditor Designation (PAD) was introduced in Korea to enhance auditor independence. The PAD system allows a company to freely appoint external auditors for six consecutive years, after which the regulator appoints the audit firm for the next 3 years. Using this unique institutional setting, this study examines whether periodic audit firm rotation is associated with financial reporting quality. Employing earnings smoothing as a proxy for financial reporting quality, we find that periodic auditor designation is associated with high‐quality financial reporting. This result remains robust across alternative proxies for financial reporting quality and research designs. We also find that the effect differs depending on the characteristics of auditors. Overall, our findings provide empirical evidence relevant to the ongoing discussion over mandatory audit firm rotation.