Distracted auditors, audit effort, and earnings quality

Figures & data

Table 1. Descriptive statistics and univariate analysis.

Variables	Obs.	Mean	Std. Dev.	P25	Median	P75	Mean Distracted Year = 1	Mean Distracted Year = 0	Difference
Distraction measures
Distraction	42,470	0.120	0.133	0.020	0.084	0.170	.	.	.
Distracted Year	42,470	0.446	0.497	0.000	0.000	1.000	.	.	.
Audit effort measures
ln (Audit Delay)	42,470	4.087	0.352	3.951	4.111	4.304	4.096	4.080	0.016***
ln (Audit Fee)	42,470	13.545	1.299	12.581	13.566	14.437	13.523	13.563	−0.040***
Audit Delay Alt.	42,470	−10.452	17.215	−18.000	−6.000	−1.000	−10.203	−10.652	0.450***
ln (Audit Fee Alt.)	42,470	13.345	1.252	12.425	13.345	14.191	13.319	13.366	−0.047***
Earnings quality measures
Abnormal Accruals MJ	39,531	0.104	0.280	−0.003	0.102	0.216	0.108	0.101	0.006**
Abnormal Accruals DD	39,531	0.018	0.280	−0.094	0.005	0.110	0.023	0.013	0.009***
Abnormal Disc. Expenses	38,582	−0.030	0.359	−0.206	−0.055	0.073	−0.035	−0.026	−0.009**
Earnings response variables
CAR (market-adjusted)	39,751	0.342	7.209	−2.427	0.117	2.815	0.332	0.350	−0.018
CAR (factor-adjusted)	39,751	0.297	7.187	−2.449	0.057	2.734	0.289	0.303	−0.015
Surprise	39,751	0.016	0.305	−0.024	0.004	0.032	0.014	0.018	−0.004
Firm characteristics
Firm Size	42,470	6.065	2.083	4.601	6.036	7.493	6.024	6.098	−0.074***
Book to Market	42,470	0.598	0.619	0.268	0.463	0.767	0.597	0.599	−0.002
Segments	42,470	2.332	1.864	1.000	1.000	3.000	2.304	2.353	−0.049***
Leverage	42,470	0.174	0.173	0.004	0.140	0.291	0.182	0.168	0.015***
Sales Growth	42,470	0.134	0.469	−0.035	0.067	0.194	0.138	0.130	0.008*
Return on Assets	42,470	−0.024	0.234	−0.045	0.036	0.085	−0.035	−0.016	−0.019***
Loss	42,470	0.339	0.473	0.000	0.000	1.000	0.357	0.325	0.032***
Std. Sales	42,470	0.319	0.431	0.094	0.184	0.356	0.321	0.317	0.004
Std. CFO	42,470	0.129	0.257	0.032	0.058	0.112	0.137	0.123	0.015***
InvRec	42,470	0.256	0.184	0.107	0.225	0.365	0.250	0.261	−0.011***
Sqrt. Employees	42,470	2.006	2.345	0.528	1.183	2.492	1.990	2.020	−0.029
New Financing	42,470	0.896	0.305	1.000	1.000	1.000	0.889	0.902	−0.013***
Extraordinary Items	42,470	0.179	0.384	0.000	0.000	0.000	0.183	0.176	0.006*
Foreign Operations	42,470	0.290	0.454	0.000	0.000	1.000	0.289	0.290	−0.001
Going Concern	42,470	0.035	0.185	0.000	0.000	0.000	0.041	0.031	0.010***
Audit office characteristics
Industry Specialist	42,470	0.032	0.056	0.003	0.011	0.034	0.036	0.028	0.007***
Industry Leader	42,470	0.042	0.202	0.000	0.000	0.000	0.059	0.029	0.030***
Busy Season	42,470	0.683	0.465	0.000	1.000	1.000	0.703	0.667	0.037***
Office Size	42,470	16.866	1.623	15.727	17.086	18.120	17.014	16.746	0.267***

Notes: This table presents the summary statistics and univariate analysis for all the variables used in the study. Distraction is the ratio of an audit office’s audit fees stemming from financially distressed clients to total audit fees the office obtains in the given year. See subsection 3.1 for more details. Distracted Year equals one if the audit office receives at least 10 percent of its fees from financially distressed clients, and zero otherwise. ln (Audit Delay) is the natural logarithm of the difference between the completion date of the client’s audit report and the fiscal year-end date. ln (Audit Fee) is the natural logarithm of audit fees. Appendix A has the definitions of all other variables.

Table 2. Auditor distraction and audit effort.

Model:	Pooled OLS		Entropy-Balanced Sample
Dependent variable:	ln (Audit Delay)	ln (Audit Fee)	ln (Audit Delay)	ln (Audit Fee)
	(1)	(2)	(3)	(4)
Distraction / Distracted Year	0.032**	−0.103***	0.007**	−0.019***
	(2.34)	(−3.49)	(1.98)	(−2.63)
Firm Size	−0.056***	0.415***	−0.058***	0.411***
	(−22.47)	(61.01)	(−22.39)	(60.06)
Book to Market	0.048***	−0.046***	0.045***	−0.046***
	(12.34)	(−5.97)	(11.01)	(−6.02)
Segments	0.005***	0.033***	0.006***	0.032***
	(4.05)	(10.24)	(4.11)	(9.80)
Leverage	0.185***	0.077**	0.183***	0.071**
	(13.25)	(2.38)	(12.18)	(2.23)
Sales Growth	0.017***	−0.037***	0.016***	−0.033***
	(4.71)	(−6.27)	(4.31)	(−5.72)
Return on Assets	−0.046***	−0.234***	−0.033***	−0.228***
	(−3.65)	(−9.65)	(−2.59)	(−9.49)
Loss	0.034***	0.119***	0.035***	0.118***
	(6.17)	(11.58)	(6.30)	(11.34)
Std. Sales	0.009	0.081***	0.010*	0.077***
	(1.42)	(7.03)	(1.68)	(6.75)
Std. CFO	−0.028**	−0.034*	−0.025**	−0.036**
	(−2.56)	(−1.95)	(−2.29)	(−2.10)
InvRec	0.120***	0.479***	0.111***	0.482***
	(7.07)	(10.54)	(6.58)	(10.66)
Sqrt. Employees	−0.003*	0.065***	−0.003	0.066***
	(−1.68)	(10.58)	(−1.29)	(10.61)
New Financing	−0.030***	0.026*	−0.028***	0.025
	(−4.50)	(1.69)	(−3.95)	(1.60)
Extraordinary Items	0.043***	0.160***	0.041***	0.157***
	(8.95)	(15.66)	(8.46)	(15.33)
Foreign Operations	0.030***	0.209***	0.032***	0.208***
	(5.96)	(15.72)	(6.49)	(15.72)
Going Concern	0.132***	0.213***	0.122***	0.209***
	(10.91)	(10.94)	(9.75)	(10.83)
Industry Specialist	0.019	0.370***	0.011	0.278***
	(0.52)	(5.10)	(0.31)	(3.86)
Industry Leader	0.011	−0.021	0.017*	−0.021
	(1.18)	(−1.29)	(1.72)	(−1.25)
Busy Season	0.028***	0.110***	0.028***	0.107***
	(4.90)	(7.73)	(4.91)	(7.60)
Office Size	0.006***	0.060***	0.008***	0.064***
	(2.82)	(11.74)	(3.64)	(12.67)
Constant	4.013***	8.554***	4.002***	8.488***
	(97.57)	(46.42)	(98.70)	(47.34)
Audit Firm Fixed Effects	Yes	Yes	Yes	Yes
Industry Fixed Effects	Yes	Yes	Yes	Yes
Year Fixed Effects	Yes	Yes	Yes	Yes
Adjusted R^2	0.346	0.863	0.341	0.869
Observations	42,470	42,470	42,470	42,470

Notes: This table shows the regression results for examining the effect of audit offices’ distraction on audit delay and audit fees. Distraction (used in columns (1) and (2)) is the ratio of an audit office’s audit fees stemming from financially distressed clients to total audit fees the office obtains in the given year. See subsection 3.1 for more details. Distracted Year (used in columns (3) and (4)) equals one if the audit firm receives at least 10 percent of its audit fees from financially distressed clients, and zero otherwise. ln (Audit Delay) is the natural logarithm of the difference between the completion date of the client’s audit report and the fiscal year-end date. ln (Audit Fee) is the natural logarithm of audit fees. The standard errors are clustered at the firm level, and t-statistics are reported in parentheses. Levels of significance are indicated by *, **, and *** for the 10%, 5%, and 1% levels, respectively. Appendix A has the definitions of all variables.

Table 3. Auditor distraction and clients’ earnings quality.

Model:	Pooled OLS			Entropy-Balanced Sample
Dependent variable:	Abnormal Accruals MJ	Abnormal Accruals DD	Abnormal Disc. Expenses	Abnormal Accruals MJ	Abnormal Accruals DD	Abnormal Disc. Expenses
	(1)	(2)	(3)	(4)	(5)	(6)
Distraction / Distracted Year	0.026***	0.023**	−0.057***	0.003***	0.002***	−0.006***
	(2.61)	(1.96)	(−3.32)	(3.86)	(2.63)	(−4.64)
Firm Size	−0.018***	−0.029***	−0.051***	−0.018***	−0.030***	−0.052***
	(−6.75)	(−9.59)	(−12.37)	(−5.32)	(−7.36)	(−11.17)
Book to Market	0.018***	0.020***	−0.096***	0.020***	0.022***	−0.093***
	(5.89)	(5.63)	(−18.17)	(5.08)	(4.87)	(−13.17)
Segments	−0.001	0.001	−0.012***	−0.001	0.000	−0.013***
	(−0.76)	(0.60)	(−7.45)	(−1.09)	(0.47)	(−5.82)
Leverage	0.101***	0.113***	−0.171***	0.092***	0.106***	−0.160***
	(6.85)	(7.02)	(−6.74)	(4.81)	(6.49)	(−5.02)
Sales Growth	0.026***	0.046***	0.133***	0.021***	0.040***	0.130***
	(3.27)	(5.15)	(14.66)	(2.79)	(5.82)	(18.99)
Return on Assets	0.558***	−0.044	−0.525***	0.570***	−0.048	−0.562***
	(19.17)	(−1.30)	(−14.68)	(11.71)	(−1.11)	(−14.33)
Loss	0.013**	−0.026***	−0.011	0.015	−0.029***	−0.021*
	(2.07)	(−3.68)	(−1.34)	(1.29)	(−2.89)	(−1.94)
Std. Sales	−0.023***	−0.051***	−0.004	−0.026***	−0.053***	−0.002
	(−3.37)	(−7.05)	(−0.25)	(−3.53)	(−8.55)	(−0.16)
Std. CFO	0.024	0.133***	0.137***	0.025	0.137***	0.139***
	(1.27)	(6.10)	(4.63)	(1.11)	(5.60)	(3.42)
InvRec	−0.037**	−0.002	−0.166***	−0.049*	−0.013	−0.152***
	(−2.41)	(−0.11)	(−5.84)	(−1.73)	(−0.41)	(−4.59)
Sqrt. Employees	0.003**	0.007***	0.009***	0.003	0.008***	0.009**
	(2.20)	(4.80)	(3.36)	(1.62)	(3.71)	(2.23)
New Financing	0.031***	0.039***	0.086***	0.030***	0.040***	0.090***
	(5.60)	(6.12)	(8.08)	(4.18)	(4.84)	(9.43)
Extraordinary Items	−0.001	0.011***	−0.038***	−0.001	0.010***	−0.036***
	(−0.27)	(2.63)	(−6.76)	(−0.42)	(2.71)	(−12.84)
Foreign Operations	−0.005	−0.001	0.029***	−0.007**	−0.004	0.031***
	(−1.64)	(−0.37)	(3.89)	(−2.53)	(−1.03)	(3.96)
Going Concern	0.062***	0.146***	−0.059**	0.055**	0.141***	−0.057*
	(3.22)	(6.49)	(−2.53)	(2.00)	(4.81)	(−1.72)
Industry Specialist	0.051	0.063	−0.053	0.041	0.045	−0.070
	(1.50)	(1.59)	(−1.37)	(1.00)	(0.98)	(−1.42)
Industry Leader	−0.005	−0.009	−0.008	−0.002	−0.001	−0.005
	(−0.42)	(−0.71)	(−0.87)	(−0.21)	(−0.08)	(−0.33)
Busy Season	0.006*	0.008**	0.024***	0.006*	0.009***	0.028***
	(1.71)	(1.98)	(2.71)	(1.76)	(2.66)	(3.25)
Office Size	−0.004***	−0.002	0.006*	−0.005***	−0.002	0.006*
	(−2.76)	(−0.98)	(1.66)	(−3.87)	(−1.62)	(1.83)
Constant	0.131**	0.134**	0.285***	0.174***	0.180***	0.254***
	(2.14)	(2.47)	(3.24)	(4.80)	(7.39)	(3.59)
Audit Firm Fixed Effects	Yes	Yes	Yes	Yes	Yes	Yes
Industry Fixed Effects	Yes	Yes	Yes	Yes	Yes	Yes
Year Fixed Effects	Yes	Yes	Yes	Yes	Yes	Yes
Adjusted R^2	0.286	0.105	0.304	0.279	0.104	0.313
Observations	39,531	39,531	38,582	39,531	39,531	38,582

Notes: This table shows the regression results for examining the effect of audit offices’ distraction on clients’ income-increasing earnings management. Distraction (used in columns (1)-(3)) is the ratio of an audit office’s audit fees stemming from financially distressed clients to total audit fees the office obtains in the given year. See subsection 3.1 for more details. Distracted Year (used in columns (4)-(6)) equals one if the audit firm receives at least 10 percent of its audit fees from financially distressed clients, and zero otherwise. The standard errors are clustered at the firm level and t-statistics are reported in parentheses. Levels of significance are indicated by *, **, and *** for the 10%, 5%, and 1% levels, respectively. Appendix A has the definitions of all variables.

Table 4. Auditor distraction and market response to unexpected earnings.

Dependent variable:	CAR (market-adjusted)		CAR (factor-adjusted)
	(1)	(2)	(3)	(4)
Distracted Year	−0.039	−0.024	−0.056	−0.041
	(−0.44)	(−0.25)	(−0.71)	(−0.48)
Surprise	0.936***	0.852***	0.721***	0.693**
	(4.51)	(3.59)	(3.16)	(2.58)
Distracted Year × Surprise	−0.898**	−0.871**	−0.887**	−0.864**
	(−2.25)	(−2.16)	(−2.09)	(−2.00)
Firm Size		−0.724***		−0.635***
		(−7.57)		(−6.90)
Book to Market		1.125***		1.340***
		(5.61)		(6.28)
Segments		0.029		0.028
		(0.97)		(0.81)
Leverage		0.891*		0.995*
		(1.82)		(1.91)
Sales Growth		0.196		0.166
		(1.49)		(1.20)
Return on Assets		0.290		0.258
		(0.46)		(0.37)
Loss		−0.358**		−0.290*
		(−2.42)		(−1.93)
Std. Sales		0.156		0.193
		(0.67)		(0.74)
Std. CFO		0.525		0.466
		(1.44)		(1.19)
InvRec		3.526***		3.278***
		(5.45)		(5.18)
Sqrt. Employees		0.070		0.081
		(1.53)		(1.59)
New Financing		−0.127		−0.056
		(−0.47)		(−0.21)
Extraordinary Items		0.270**		0.241**
		(2.60)		(2.39)
Foreign Operations		−0.040		−0.080
		(−0.48)		(−1.01)
Going Concern		−0.844*		−0.660
		(−1.66)		(−1.38)
Constant	0.559***	3.407***	0.092	2.028**
	(3.16)	(4.56)	(0.60)	(2.63)
Audit Office Controls	No	Yes	No	Yes
Firm Fixed Effects	Yes	Yes	Yes	Yes
Year Fixed Effects	Yes	Yes	Yes	Yes
Adjusted R^2	0.054	0.060	0.052	0.058
Observations	39751	39751	39751	39751
P (β1 + β3 = 0)	0.017	0.023	0.021	0.028

Notes: This table shows the regression results for examining the effect of audit offices’ distraction on the market response to earnings surprises. Distracted Year equals one if the audit firm receives at least 10 percent of its audit fees from financially distressed clients, and zero otherwise. CAR is the percentage cumulative abnormal return for days −1 and 0, where 0 is the earnings announcement date. Surprise is a measure of unexpected earnings. The standard errors are clustered at the firm level, and t-statistics are reported in parentheses. Levels of significance are indicated by *, **, and *** for the 10%, 5%, and 1% levels, respectively. Appendix A has the definitions of all variables.

Table 5. Auditor distraction and audit effort: Alternative measures of audit delay and audit fees.

Model:	Pooled OLS		Entropy-Balanced Sample
Dependent variable:	Audit Delay Alt.	ln (Audit Fee Alt.)	Audit Delay Alt.	ln (Audit Fee Alt.)
	(1)	(2)	(3)	(4)
Distraction / Distracted Year	1.804***	−0.103***	0.452**	−0.019***
	(2.64)	(−3.49)	(2.53)	(−2.59)
Firm Size	1.496***	0.414***	1.396***	0.411***
	(11.74)	(60.93)	(10.86)	(59.96)
Book to Market	−1.500***	−0.046***	−1.467***	−0.046***
	(−7.16)	(−6.00)	(−6.82)	(−6.04)
Segments	0.227***	0.033***	0.240***	0.032***
	(3.36)	(10.25)	(3.49)	(9.81)
Leverage	3.805***	0.078**	3.933***	0.073**
	(5.38)	(2.42)	(5.36)	(2.27)
Sales Growth	1.308***	−0.037***	1.222***	−0.034***
	(7.16)	(−6.34)	(6.55)	(−5.79)
Return on Assets	−1.497**	−0.233***	−1.189*	−0.226***
	(−2.29)	(−9.60)	(−1.76)	(−9.44)
Loss	0.959***	0.119***	0.928***	0.118***
	(3.48)	(11.58)	(3.29)	(11.34)
Std. Sales	0.713**	0.081***	0.772**	0.077***
	(2.39)	(7.06)	(2.54)	(6.79)
Std. CFO	−0.842	−0.033*	−0.697	−0.035**
	(−1.58)	(−1.89)	(−1.31)	(−2.03)
InvRec	2.550***	0.479***	2.326***	0.481***
	(2.85)	(10.53)	(2.58)	(10.64)
Sqrt. Employees	−0.898***	0.066***	−0.877***	0.067***
	(−10.22)	(10.65)	(−10.01)	(10.69)
New Financing	−0.381	0.026*	−0.218	0.024
	(−1.09)	(1.66)	(−0.61)	(1.57)
Extraordinary Items	1.795***	0.159***	1.777***	0.156***
	(7.28)	(15.62)	(7.08)	(15.27)
Foreign Operations	1.496***	0.209***	1.621***	0.207***
	(5.85)	(15.70)	(6.32)	(15.68)
Going Concern	6.403***	0.214***	6.137***	0.209***
	(9.09)	(11.02)	(8.69)	(10.89)
Constant	−36.299***	8.552***	−36.727***	8.486***
	(−14.67)	(46.44)	(−14.58)	(47.37)
Audit Office Controls	Yes	Yes	Yes	Yes
Audit Firm Fixed Effects	Yes	Yes	Yes	Yes
Industry Fixed Effects	Yes	Yes	Yes	Yes
Year Fixed Effects	Yes	Yes	Yes	Yes
Adjusted R^2	0.292	0.853	0.286	0.860
Observations	42,470	42,470	42,470	42,470

Notes: This table shows the regression results for examining the effect of audit offices’ distraction on alternative measures of audit delay and audit fees. Distraction (used in columns (1) and (2)) is the ratio of an audit office’s audit fees stemming from financially distressed clients to total audit fees the office obtains in the given year. See subsection 3.1 for more details. Distracted Year (used in columns (3) and (4)) equals one if the audit firm receives at least 10 percent of its audit fees from financially distressed clients, and zero otherwise. Audit Delay Alt is an alternative measure of audit delay, measured as the number of days between the completion date of the client’s audit report and the fiscal year-end date minus the SEC’s filing deadline requirement (60, 75, and 90 days for large accelerated, accelerated, and non-accelerated, respectively). ln (Audit Fee Alt) is an alternative measure of audit fees, defined as the natural logarithm of inflation-adjusted audit fees. The standard errors are clustered at the firm level, and t-statistics are reported in parentheses. Levels of significance are indicated by *, **, and *** for the 10%, 5%, and 1% levels, respectively. Appendix A has the definitions of all variables.

Table 6. Auditor distraction and future audit effort and audit fees.

Dependent variable:	One-year-ahead ln (Audit Delay)	Two-years-ahead ln (Audit Delay)	Three-years-ahead ln (Audit Delay)	One-year-ahead ln (Audit Fee)	Two-years-ahead ln (Audit Fee)	Three-years-ahead ln (Audit Fee)
	(1)	(2)	(3)	(4)	(5)	(6)
Distracted Year	0.005*	0.002	0.001	−0.012	−0.006	−0.006
	(1.74)	(0.70)	(0.28)	(−1.51)	(−0.75)	(−0.67)
Firm Size	−0.057***	−0.056***	−0.052***	0.427***	0.436***	0.442***
	(−23.46)	(−22.14)	(−20.83)	(57.86)	(56.00)	(53.83)
Book to Market	0.054***	0.049***	0.045***	−0.078***	−0.113***	−0.138***
	(13.87)	(12.64)	(11.53)	(−8.65)	(−11.51)	(−12.37)
Segments	0.005***	0.005***	0.002**	0.034***	0.033***	0.030***
	(4.25)	(3.69)	(1.98)	(10.20)	(9.53)	(8.33)
Leverage	0.147***	0.103***	0.071***	0.040	0.001	−0.029
	(10.91)	(7.80)	(5.48)	(1.08)	(0.04)	(−0.67)
Sales Growth	0.015***	0.005	0.001	0.002	0.020***	0.025***
	(4.49)	(1.50)	(0.18)	(0.27)	(2.76)	(3.00)
Return on Assets	−0.045***	−0.041***	−0.037***	−0.231***	−0.217***	−0.213***
	(−3.77)	(−3.43)	(−3.29)	(−8.37)	(−7.03)	(−6.08)
Loss	0.013***	0.013***	0.017***	0.089***	0.064***	0.040***
	(2.86)	(2.83)	(3.81)	(8.06)	(5.44)	(3.10)
Std. Sales	0.001	0.006	0.009	0.085***	0.096***	0.099***
	(0.18)	(0.99)	(1.60)	(6.51)	(6.58)	(6.09)
Std. CFO	−0.011	−0.021**	−0.020**	−0.033	−0.036	−0.026
	(−1.09)	(−2.07)	(−2.09)	(−1.60)	(−1.59)	(−1.00)
InvRec	0.091***	0.069***	0.055***	0.490***	0.483***	0.458***
	(5.70)	(4.32)	(3.44)	(9.48)	(8.74)	(7.63)
Sqrt. Employees	−0.002	−0.002	−0.003	0.061***	0.057***	0.055***
	(−0.95)	(−1.08)	(−1.36)	(9.53)	(8.68)	(8.18)
New Financing	−0.025***	−0.010	−0.003	0.057***	0.094***	0.117***
	(−4.03)	(−1.60)	(−0.49)	(3.23)	(4.93)	(5.45)
Extraordinary Items	0.023***	0.019***	0.006	0.120***	0.099***	0.069***
	(5.34)	(4.49)	(1.42)	(11.13)	(8.74)	(5.75)
Foreign Operations	0.019***	0.013***	0.010**	0.194***	0.179***	0.169***
	(4.15)	(2.84)	(2.11)	(13.79)	(12.18)	(10.82)
Going Concern	0.065***	0.035***	0.028**	0.117***	0.095***	0.032
	(5.05)	(2.77)	(2.30)	(4.94)	(3.61)	(1.01)
Constant	4.030***	4.045***	4.166***	8.547***	8.727***	8.979***
	(105.61)	(94.12)	(100.52)	(40.32)	(39.85)	(40.13)
Audit Office Controls	Yes	Yes	Yes	Yes	Yes	Yes
Audit Firm Fixed Effects	Yes	Yes	Yes	Yes	Yes	Yes
Industry Fixed Effects	Yes	Yes	Yes	Yes	Yes	Yes
Year Fixed Effects	Yes	Yes	Yes	Yes	Yes	Yes
Adjusted R^2	0.372	0.357	0.351	0.858	0.847	0.831
Observations	36,729	33,383	29,414	36,743	33,397	29,426

Notes: This table shows the regression results for examining the effect of audit offices’ distraction on future audit delay and audit fees. Distracted Year equals one if the audit firm receives at least 10 percent of its audit fees from financially distressed clients, and zero otherwise. The standard errors are clustered at the firm level, and t-statistics are reported in parentheses. Levels of significance are indicated by *, **, and *** for the 10%, 5%, and 1% levels, respectively. Appendix A has the definitions of all variables.

Table 7. Auditor distraction, audit effort, and earnings quality: Alternative measure of distraction.

Dependent variable:	ln (Audit Delay)	ln (Audit Fee)	Abnormal Accruals MJ	Abnormal Accruals DD	Abnormal Disc. Expenses
	(1)	(2)	(3)	(4)	(5)
Distracted Year	1.537**	−0.104***	0.024***	0.028***	−0.033**
	(2.34)	(−3.62)	(2.80)	(3.04)	(−2.07)
Firm Size	1.322***	0.433***	−0.013***	−0.020***	−0.048***
	(8.99)	(53.57)	(−4.37)	(−6.11)	(−9.75)
Book to Market	−1.934***	−0.046***	0.028***	0.033***	−0.148***
	(−5.88)	(−3.32)	(5.37)	(6.09)	(−18.06)
Segments	0.265***	0.030***	−0.000	0.002*	−0.012***
	(3.70)	(8.54)	(−0.33)	(1.69)	(−6.47)
Leverage	2.415***	0.137***	0.122***	0.116***	−0.187***
	(3.09)	(3.40)	(9.13)	(8.56)	(−8.55)
Sales Growth	2.053***	−0.046***	0.053***	0.080***	0.182***
	(7.65)	(−4.87)	(4.16)	(5.98)	(15.25)
Return on Assets	−2.275**	−0.208***	0.520***	−0.165***	−0.401***
	(−2.55)	(−5.06)	(14.57)	(−3.98)	(−7.66)
Loss	0.815**	0.093***	0.003	−0.033***	0.039***
	(2.55)	(7.61)	(0.45)	(−4.67)	(4.55)
Std. Sales	0.843**	0.099***	−0.010	−0.034***	−0.025
	(2.52)	(6.77)	(−1.52)	(−4.55)	(−1.56)
Std. CFO	−2.067**	−0.097***	−0.009	0.133***	0.392***
	(−2.28)	(−2.74)	(−0.30)	(4.17)	(7.88)
InvRec	0.745	0.481***	0.002	0.057***	−0.181***
	(0.77)	(9.13)	(0.17)	(3.92)	(−6.04)
Sqrt. Employees	−0.797***	0.057***	0.001	0.004***	0.009***
	(−8.63)	(8.65)	(0.70)	(2.63)	(3.05)
New Financing	−0.219	0.034*	0.019***	0.025***	0.056***
	(−0.55)	(1.67)	(3.55)	(4.23)	(4.39)
Extraordinary Items	1.471***	0.151***	0.001	0.011**	−0.026***
	(4.56)	(10.58)	(0.30)	(2.45)	(−3.87)
Foreign Operations	1.374***	0.197***	−0.006	0.000	0.030***
	(5.04)	(13.26)	(−1.59)	(0.02)	(3.55)
Going Concern	9.256***	0.203***	−0.114*	−0.063	0.056
	(5.95)	(4.52)	(−1.76)	(−1.03)	(1.27)
Constant	−36.461***	8.496***	0.013	0.019	0.315***
	(−13.33)	(40.57)	(0.21)	(0.33)	(3.17)
Auditor Office Controls	Yes	Yes	Yes	Yes	Yes
Audit Firm Fixed Effects	Yes	Yes	Yes	Yes	Yes
Industry Fixed Effects	Yes	Yes	Yes	Yes	Yes
Year Fixed Effects	Yes	Yes	Yes	Yes	Yes
Adjusted R^2	0.323	0.861	0.313	0.122	0.292
Observations	33,767	33,768	31,673	31,673	31,207

Notes: This table shows the regression results for examining the effect of audit offices’ distraction on audit effort and their clients’ earnings quality using an alternative measure of distraction based on the Altman’s Z-score. Distraction is the ratio of an audit office’s audit fees stemming from financially distressed clients to total audit fees the office obtains in the given year. See subsection 3.1 for more details. The standard errors are clustered at the firm level, and t-statistics are reported in parentheses. Levels of significance are indicated by *, **, and *** for the 10%, 5%, and 1%, respectively. Appendix A has the definitions of all variables.

Figure 1. Auditor distraction, audit effort, and clients’ earnings quality: Placebo test.

Notes: This figure illustrates the results of a placebo test that randomly assigns Distraction. This procedure is repeated 1,000 times and the distribution of the estimated coefficients for Distraction from the regressions are reported. The dotted line represents the true coefficient estimates from Tables 2 and 3. Distraction is the ratio of an audit office’s audit fees stemming from financially distressed clients to total audit fees the office obtains in the given year. See subsection 3.1 for more details. ln (Audit Delay) is the natural logarithm of the difference between the completion date of the client’s audit report and the fiscal year-end date. ln (Audit Fee) is the natural logarithm of audit fees. Appendix A has the definitions of all other variables.

Table 8. Auditor distraction and audit effort: The effects of office size, industry specialisation, and audit firm tenure

Dependent variable:	ln (Audit Delay)	ln (Audit Fee)	ln (Audit Delay)	ln (Audit Fee)	ln (Audit Delay)	ln (Audit Fee)
	(1)	(2)	(3)	(4)	(5)	(6)
Distracted Year	−0.009	−0.211***	0.013***	−0.018**	0.036***	−0.050***
	(−0.25)	(−2.94)	(3.55)	(−2.35)	(3.35)	(−2.84)
Office Size	0.005**	0.055***	0.006***	0.060***	0.006***	0.060***
	(2.24)	(10.17)	(2.75)	(11.71)	(2.81)	(11.72)
Distracted Year × Office Size	0.001	0.011***
	(0.50)	(2.67)
Industry Specialist	0.021	0.354***	0.092**	0.365***	0.020	0.356***
	(0.57)	(4.89)	(2.03)	(4.28)	(0.55)	(4.91)
Distracted Year × Industry Specialist			−0.148***	−0.009
			(−2.81)	(−0.09)
Auditor Tenure					−0.018***	−0.038***
					(−3.68)	(−3.56)
Distracted Year × Auditor Tenure					−0.016***	0.018*
					(−3.04)	(1.87)
Constant	4.024***	8.636***	4.012***	8.552***	4.020***	8.588***
	(90.28)	(46.12)	(97.27)	(46.35)	(97.18)	(46.60)
Client Controls	Yes	Yes	Yes	Yes	Yes	Yes
Audit Office Controls	Yes	Yes	Yes	Yes	Yes	Yes
Audit Firm Fixed Effects	Yes	Yes	Yes	Yes	Yes	Yes
Industry Fixed Effects	Yes	Yes	Yes	Yes	Yes	Yes
Year Fixed Effects	Yes	Yes	Yes	Yes	Yes	Yes
Adjusted R^2	0.346	0.863	0.346	0.863	0.347	0.863
Observations	42,470	42,470	42,470	42,470	42,470	42,470

Notes: This table shows the regression results for examining the moderating effects of audit office size, industry specialisation, and auditor tenure on the negative association between audit offices’ distraction and their effort. Distracted Year equals one if the audit firm receives at least 10 percent of its audit fees from financially distressed clients, and zero otherwise. Office Size is the natural logarithm of total audit fees obtained by the audit office in a given year. Industry Specialist is the ratio of the audit fees obtained from the client’s industry (2-digit SIC) divided by total audit fees obtained by the audit office in a given year. Auditor Tenure is the difference between the fiscal year and the first year the audit firm was appointed. The standard errors are clustered at the firm level, and t-statistics are reported in parentheses. Levels of significance are indicated by *, **, and *** for the 10%, 5%, and 1% levels, respectively. Appendix A has the definitions of all variables.

Table

Variables	Definitions
Distraction measures
Distraction	Ratio of an audit office’s audit fees stemming from financially distressed clients to total audit fees the office obtains in the given year. See subsection 3.1 for more details.
Distracted Year	Equals one if the audit firm receives at least 10 percent of its audit fees from financially distressed clients, and zero otherwise.
Audit effort measures
ln (Audit Delay)	Natural logarithm of the difference between the date of completion of the client’s audit report and its fiscal year-end date.
ln (Audit Fee)	Natural logarithm of audit fees.
Audit Delay Alt.	An alternative measure of audit delay based on Hoitash and Hoitash (2018), measured as the number of days between the audit report date and the fiscal year-end date minus the SEC’s filing deadline requirement (60, 75, and 90 days for large accelerated, accelerated, and non-accelerated, respectively).
ln (Audit Fee Alt.)	An alternative measure of audit fees, defined as the natural logarithm of inflation-adjusted audit fees.
Earnings quality measures
Abnormal Accruals MJ	A measure of accruals earnings management based on the Jones (1991) model as modified by Dechow et al. (1995) and measured as residuals obtained from Equation (2)(2) ${\displaystyle \frac{\mathrm{TAC}{C}_{\mathrm{it}}}{A{T}_{\mathrm{it}-1}}={\text{β}}_0+{\text{β}}_1{\displaystyle \frac{1}{A{T}_{\mathrm{it}-1}}+{\text{β}}_2{\displaystyle \frac{(\mathrm{\Delta }\mathrm{RE}{V}_{\mathrm{it}}-\mathrm{\Delta A}{R}_{\mathrm{it}})}{A{T}_{\mathrm{it}-1}}+{\text{β}}_3{\displaystyle \frac{\mathrm{PP}{E}_{\mathrm{it}}}{A{T}_{\mathrm{it}-1}}+{ϵ}_{\mathrm{it}}}}}}$(2) .
Abnormal Accruals DD	A measure of accruals earnings management based on the Dechow and Dichev (2002) model as modified by McNichols (2002) and measured as residuals obtained from Equation (3).
Abnormal Disc. Expenses	A measure of real earnings management based on the discretionary expenses model introduced by Roychowdhury (2006) and measured as residuals obtained from Equation (4).
Earnings response variables
CAR (market-adjusted)	Percentage cumulative abnormal return for days −1 and 0 in which 0 is the earnings announcement date, and the abnormal returns are measured based on the market-adjusted model.
CAR (factor-adjusted)	Percentage cumulative abnormal return for days −1 and 0 in which 0 is the earnings announcement date, and the abnormal returns are measured based on the four-factor-adjusted model.
Surprise	A measure of unexpected earnings defined as the difference between earnings per share in the current year minus earnings per share in the previous year all divided by the stock price at the end of the previous year.
Firm characteristics
Firm Size	Natural logarithm of total assets.
Book to Market	Book-to-market ratio, defined as the book market of equity divided by market value of equity (price times number of shares outstanding).
Segments	Number of business segments based on Compustat segments data.
Leverage	Long-term debt plus short-term debt divided by total assets.
Sales Growth	Year-over-year percentage growth in sales.
Return on Assets	Earnings before extraordinary items divided by lagged total assets.
Loss	Equals one if the earnings before extraordinary items is negative, and zero otherwise.
Std. Sales	Standard deviation of sales divided by lagged assets over the previous five years.
Std. CFO	Standard deviation of cash flows from operations divided by lagged assets over the previous five years.
InvRec	Inventory plus accounts receivables divided by total assets.
Sqrt. Employees	Square root of number of employees.
New Financing	Equals one if the sum of sale of common or preferred stock and long-term debt issuance is greater than five percent, and zero otherwise.
Extraordinary Items	Equals one if the client reports any extraordinary gains or losses, and zero otherwise.
Foreign Operations	Equals one if the client pays any foreign income tax, and zero otherwise.
Going Concern	Equals one if the audit office’s opinion for the fiscal year includes a going-concern qualification, and zero otherwise.
Audit office characteristics
Industry Specialist	Ratio of the audit fees obtained from the client’s industry (2-digit SIC) divided by total audit fees obtained by the audit office in a given year.
Industry Leader	Equals one if the audit office obtains the highest audit fees from the client’s industry in a given year, and zero otherwise.
Busy Season	Equals one if the fiscal year end month of the client is in December, and zero otherwise.
Office Size	Natural logarithm of total audit fees obtained by the audit office in a given year.
Auditor Tenure	The difference between the fiscal year and the first year the audit firm was appointed.

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