Audit Firm Concentration and Competition: Effects of Consolidation Since 1997

Abstract

For many years, businesses, government regulators, and the public, in general, have expressed concern about the dominance of a few large public accounting firms in the audit market. Recent events, such as the merger of Price Waterhouse and Coopers & Lybrand in July of 1998, changes in regulations for public companies and auditors, and the dissolution of Arthur Andersen in August of 2002, have increased the level of concern about the lack of competition in the public accounting industry. We examine the level of competition, measured by concentration, before and after the merger and before and after the dissolution of Arthur Andersen among the remaining active audit firms. We also segment the audit market by exchange (for U.S. firms), by industry, and by geographic region of the client firms. We also examine the first-tier and second-tier audit firms separately. We find that concentration did indeed increase after the merger between Price Waterhouse and Coopers & Lybrand and after the dissolution of Arthur Andersen but in many instances, decreased in the years between those two events. There is also some evidence that the second-tier public accounting firms tried to increase their activity in the market for auditing publicly held companies. However, the remaining Big Four audit firms continue to totally dominate the market. The large public accounting firms especially dominate the market for audits of large firms. We also find evidence that, while some segments of the audit market are highly concentrated, there are some segments that are not highly concentrated and, therefore, are relatively competitive among the remaining firms active in the market for audits of public companies.