LARGE SHAREHOLDER MONITORING OF NONAUDIT SERVICE FEES

Abstract

The present study examines the empirical relationship between the blockholder percentage stock ownership and the relative level of nonaudit service fees. This is an extension of prior audit research investigating the association between corporate governance and nonaudit service fees. I suggest that the presence of large and sophisticated investors in a firm’s shareholder mix determines the effectiveness of stockholder monitoring on corporate affairs including financial reporting and audit management process. If the large shareholders perceive that the relatively high level of nonaudit fees in auditor’s fee structure has the potential to create auditor independence problem, they intervene in such a managerial decision and induce firms to decrease the proportion of nonaudit service purchase from their incumbent auditors. By performing cross-sectional regression analysis for 335 New York Stock Exchange listed firms, I find evidence of a significantly negative relationship between blockholder stock ownership and nonaudit fee ratio. This is consistent with the view that blockholders actively monitor managerial decisions to purchase nonaudit service and prevent firms from disproportionately increasing the level of such purchase to preserve external auditor’s objectivity in assurance functions. The study’s results hold in various specification tests, and are particularly pronounced for the medium-sized firms in the sample.