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THE RELATIONSHIP BETWEEN INTERNALAUDITING AND EXTERNALAUDIT FEES:
EVIDENCE FROM KUWAIT
SBE, Vol.20, No.1, 2017
ISSN 1818-1228
©Copyright 2017/College of Business and Economics,
Qatar University
minus inventories to current liabilities;
LEVER : ratio of client’s total long-term debt
to the total Assets.
ROA : ratio of the audit client’s net income
to total assets.
NAS : a dummy variable, taking the value
of one if the audit firm provides non-audit
services to the audit client, and zero otherwise.
BIG4 : a dummy variable taking the value
of one if the audit firm is EY, PWC, KPMG,
or Deloitte.
TENURE: the number of years the audit client
is continuously auditing the audit client.
The dependent variable in the model is the
external audit fees charged by the audit firm
to perform the external audit and is measured
in Kuwaiti Dinar
2
. Consistent with previous
related research (e.g., Simunic, 1980; Gist,
1992; Craswell and Francis, 1999; Felix
et al
.,
2001; Whisenant
et al
., 2003; McMeeking
et
al
., 2007; Zain
et al
., 2015) the natural log of
external audit fees is used as a measure of the
dependent variable.
Control variables:
Research examining the external audit fees has
typically included a set of control variables
representing factors believed to have an
impact on the amount of external audit fees. In
general, these variables include the size of the
audit client, the complexity of the audit client’s
activities and operations, and the amount of risk
associated with the audit client. Audit client
size is typically measured using the client’s
total assets. It is intuitive to expect that when
the audit client is a large firm it would need
more audit work to be performed and hence
will be charged higher amounts of external fees.
Such a positive relationship between audit fees
and audit client size is documented in much of
2 At the time of the study, the exchange rate was: 1
Kuwaiti Dinar = 3.3 US Dollars.
the existing related empirical research (e.g.,
Simunic, 1980; Chan
et al
., 1993; Craswell and
Francis, 1999; DeFond
et al
., 2000; Gonthier-
Besacier and Schatt, 2007;
Goodwin-Stewart
and Kent, 2006; Hay
et al
., 2008; Zain
et al
.,
2015
)
. Due to the economies-of-scale effects,
however, the relationship between audit fees
and audit client size is expected to be non-
linear (Gerrard
et al
., 1994). Hence, the natural
log of the audit client’s total assets (SIZE) is
used in the current study as a measure of audit
client size.
As indicated, client complexity is also expected
to be influential in determining the amount of
external audit fees. That is true because more
complex activities and operations would
need more audit work to be performed, and
consequently more fees to be charged. Much
of prior audit fees research (e.g., Francis and
Stokes, 1986; Che Ahmad and Houghton,
1996; Carcello
et al
., 2002; Hay
et al
., 2008;
Zain
et al
., 2015) report evidence of such a
positive relationship between audit fees and
audit client's complexity. Consistent with some
prior related studies (e.g., Gist, 1992; Davis
et al.
, 1993; Chan
et al.,
1993), the current
study uses the natural log of the number of
locations visited by the audit team (LOCAT) as
a measure of the complexity of the audit client.
Prior audit fees research (Simunic, 1980; Chan
et al
., 1993; Firth, 2002;Whisenant
et al
., 2003)
suggests that the amount of external audit fees
is significantly influenced by the riskiness of
the audited firm. Previous studies have used
a number of measures of the riskiness of the
audit client. Yet, audit client profitability,
liquidity, and debt ratio have been among the
most commonly used proxies of audit client
risk. Accordingly, the current study uses three
measures of audit client risk; the client’s return
on assets (ROA), client’s quick ratio (QUICK),
and client’s financial leverage ratio (LEVER).