China Journal of aCC ounting StudieS , 2016 Vol . 4, no . 4, 475–493 http://dx.doi.org/10.1080/21697213.2016.1265195 Does financial reporting comparability improve after accounting firm mergers? Evidence from Chinese listed companies* a b c Feiteng Ye , Shuang Xue and Chen Yang a b School of a ccountancy, Shanghai lixin university of a ccounting and f inance, Shanghai, China; School of a ccountancy, institute of a ccounting and f inance, Shanghai university of f inance and economics, Shanghai, China; School of a ccountancy, Shanghai university of f inance and economics, Shanghai, China ABSTRACT KEYWORDS f inancial reporting Using a sample of Chinese A-share firms listed on the Shanghai comparability; accounting and Shenzhen stock exchanges from 1998 to 2012, we investigate firm merger; post-merger the impact of accounting firm mergers on financial reporting integration; reassignment of comparability. We find that financial reporting comparability is signing audit partner significantly increased after mergers. Furthermore, post-merger integration has a positive effect on this relationship; that is, the association between auditor firm merger and financial reporting comparability is stronger when the auditor firm merger has a higher degree of integration. This paper provides empirical evidence supporting the “bigger and more competitive” policy promoted by the Chinese government in the auditing industry. 1. Introduction Comparability enables users of accounting information to identify and understand the sim- ilarities in and differences among items (FASB, 2010). The comparability of financial reporting is important. First, it is the basis of financial statement analysis. If financial reporting infor - mation is not comparable, then financial ratio analysis loses its meaning (Subramanyam & Wild, 2013). Second, the decision-making role of accounting information relies on the com- parability of information. When investors choose the projects in which to invest, they need to make the right comparisons between projects to increase investment efficiency (FASB, 2010). Given the importance of comparability, one needs to understand how to improve financial reporting comparability. The literature has investigated the impact of accounting standards on comparability and finds that adoption of the same accounting standard or the conver - gence of accounting standards can increase the comparability of financial reporting (Barth, Landsman, Lang, & Williams, 2012; Brochet, Jagolinzer, & Riedl, 2013; Lang, Maffett, & Owens, 2010; Yip & Young, 2012). However, few papers have studied how to increase financial CONTACT Shuang Xue firstname.lastname@example.org Paper accepted by Xi Wu. t his article was originally published with errors. t his version has been corrected/amended. Please see Corrigendum (http:// dx.doi.org/10.1080/21697213.2017.1302689). © 2016 a ccounting Society of China 476 F . YE ET AL. reporting comparability given unchanged accounting standards. An exception is the pio- neering research of Francis, Pinnuck, and Watanabe (2014) for the case of a given accounting standard. The authors find that auditors, as economic policemen, have an important influ- ence on financial reporting comparability given an unchanged accounting standard. Each accounting firm has its own style in implementing accounting standards; therefore, the comparability of financial reporting audited by the same accounting firm is significantly higher than that audited by different firms. The paper of Francis et al. (2014) is the only one we find in this area and more evidence is therefore needed. In our paper, we investigate how auditors affect financial reporting comparability in the setting of auditor mergers given unchanged accounting standards. Since the “bigger and more competitive” policy issued by the Chinese Institute of Certified Public Accountants (CICPA), Chinese accounting firms have greatly expanded firm size through mergers or powerful alliances. Among the CICPA’s ranking of the Top 100 Chinese Accounting Firms of 2014, two domestic firms (Ruihua and Lixin) surpassed two Big 4 firms (E &Y China and KPMG China). The question that automatically follows is whether accounting firms really improve audit quality or their clients’ financial reporting quality after rapid growth through mergers. Most research on this topic focuses on the reliability of accounting infor- mation (Chan & Wu, 2011; Li & Liu, 2012; Wang & Deng, 2012; Wu, 2006; Zhang & Zeng, 2011). Unlike previous studies, we examine the accounting information quality from the aspect of comparability of accounting information. Specifically, our interest is whether accounting firm mergers can make financial reports more comparable. While the reliability of accounting information is based on each single client, its comparability involves different clients—two or more completely different properties. We use a sample of Chinese A-share firms listed from 1998 to 2012 and investigate the impact of accounting firm mergers on financial reporting comparability. We find that financial reporting comparability is significantly higher after mergers than before mergers. Furthermore, we find that integration has a positive post-merger effect on financial reporting comparability. Since the signing audit partner is the most important resource of an account- ing firm, we employ a proportion representing the extent to which the firm reassigns signing auditor partners after the merger to measure the degree of integration. In China, the annual report of a listed company is required to be signed by two partners. The names of the two signing partners and the name of the accounting firm must be disclosed in the annual report. Consequently we can identify which accounting firm the partners belong to and whether there is a change in the signing partner(s) in a specific year. We use this information to define the degree of integration. We define integration according to the extent to which the merged accounting firm reassigns its signing partners from the enlarged pool of partners after the merger. The detailed method is described in the Appendix A to the paper. Our empirical results show that the association between auditor firm merger and financial reporting comparability is stronger when auditor firm merger has a higher degree of inte - gration. The findings imply the importance of integration after accounting firm mergers. Our study extends the literature in several ways. First, we extend the literature on auditors’ effect on comparability. By using accounting firm mergers as a research setting, this study in May 2007, CiCPa issued “CiCPa ’s Suggestions on Promoting the a ccounting f irms to Be Bigger and More Competitive” (CiCPa 2007b) to promote the competiveness of Chinese accounting firms. t he ranking is mainly based on the total revenue of the accounting firm. CHINA JOURNAL OF ACCOUNTING STUDIES 477 investigates how financial reporting comparability can be influenced by accounting firms from a dynamic and changing perspective. Second, our paper contributes to the literature on the economic consequences of accounting firm mergers. The literature has studied the effect of accounting firm mergers from several aspects, such as audit quality (Chan & Wu, 2011; Zhang & Zeng, 2011), audit fees (Wang, You, & Song, 2013; Zeng & Zhang, 2012), and audit efficiency (Gong, Li, Lin, & Wu, 2015; Li & Liu, 2012). However, to our knowledge, this paper is the first to study the economic consequences of accounting firm mergers from the perspective of the relations between clients’ financial reports. Our paper is therefore an important extension to the literature on accounting firm mergers. In addition, DeFond and Francis (2005) and Francis (2011) call for more audit research carried out at the audit partner level. We provide evidence that the signing audit partner plays an important role in gener- ating financial reporting comparability and further extend the growing literature on the analysis of audit quality at the individual auditor level. The rest of this paper proceeds as follows. The next section reviews the literature. Section 3 outlines the institutional background of China and develops testable hypotheses. Section 4 discusses the research design and presents descriptive statistics. Section 5 presents the main empirical results. Section 6 presents robustness tests. Section 7 concludes the paper and presents policy implications. 2. Literature review 2.1. Research on comparability Comparability is one of the basic characteristics of accounting information and is defined as the quality of information that enables users to identify similarities in and differences among items (FASB, 2010). Comparability makes the same items look alike and different items appear to be different (Barth, Li, & Ye, 2013). With the widespread adoption of International Financial Reporting Standards (IFRS), studies have investigated whether the convergence of accounting standards has an impact on the comparability of accounting information. However, due to the lack of a comparability measure at the firm level, most studies have investigated changes in financial statement comparability at the country level. De Franco, Kothari, and Verdi (2011), extends the literature on comparability by firstly design - ing a method of measuring firm-level comparability. Moreover, Francis et al. (2014) have designed another firm-level comparability measure based on differences in the quality of accruals. Research on comparability focuses mainly on two topics: the economic consequences of comparability and the impact factors of comparability (Yuan & Wu, 2012). Regarding the former, prior literature shows that mutual funds increase their foreign investment in countries with increased cross-country earnings comparability (Defond, Hu, Huang, & Li, 2011). Earnings comparability can reduce analysts’ costs of information acquisition and is thus positively related to analyst following and forecast accuracy and negatively related to analyst optimism and dispersion in earnings forecasts (Bradshaw, Miller, & Serafeim, 2011; De Franco et al., 2011). Financial reporting comparability can also suppress earnings management (Xu & Liu, 2014), decrease the cost of debt (Kim, Kraft, & Ryan, 2013), decrease under pricing during seasoned equity offerings (Shane, Smith, & Zhang, 2014) and increase the efficiency of merger decisions (Chen, Collins, Kravet, & Mergenthaler, 2014) and the accuracy of peer- based valuation models (Young & Zeng, 2015). 478 F. YE ET AL. Regarding the impact factors of comparability, previous studies focus on the influence of accounting standards, especially the influence of IFRS (Barth et al., 2012; Brochet et al., 2013; Lang et al., 2010; Yip & Young, 2012). IFRS adoption by non-U.S. firms enhances their financial statement comparability with U.S. firms (Barth et al., 2013; Brochet et al., 2013; Wang, 2014; Yip & Young, 2012). Accounting standards alone, however, cannot fully deter- mine financial reporting outcomes, because accounting standards enforcement, managers’ motivations, and agencies involved in the production of accounting information also play important roles in financial outcomes (Ball, 2006; Ball, Robin, & Wu, 2003; Hail, Leuz, & Wysocki, 2010; Leuz, 2003). Following these studies, Cascino and Gassen (2014) find that only firms with high compliance incentives experience an economically and statistically significant increase in comparability around IFRS adoption. Francis et al. (2014) find auditor style significantly affects comparability and two companies audited by the same accounting firm are more likely to have comparable earnings than two companies audited by different accounting firms. Following Francis et al. (2014), this paper also focuses on the influence of auditors on comparability, but with several differences. First, Francis, Pinnuck, and Watanabe imply that n fi ancial reporting comparability can be increased by a unie fi d audit style. As we understand, there are two ways to reach a unified audit style: Different clients employ the same account - ing firm and different accounting firms merge together. While Francis, Pinnuck, and Watanabe have investigated the former, there is still no research on the latter. Moreover, the increase in comparability after accounting firm mergers is not a necessary result, since post-merger integration plays an important role in leading to the same audit style. The link between accounting firm mergers and the comparability of accounting information is therefore inter - esting to be examined. Second, we examine the link between auditor and comparability through accounting firm mergers, which can avoid the self-selection problem to a great extent. Big 4 and non-Big 4 accounting firms inherently have different clients; therefore, the differences in the com- parability of the financial reports they audit may be due to customer self-selection. Furthermore, the differences in comparability among Big 4 accounting firms could also be due to client clusters due to their different industry expertise. Our research design mitigates this self-selection problem by examining the difference between pre- and post-merger com - parability. Because the pre- and post-merger clients are the same, we can better control for self-selection effects. To sum up, the literature has studied factors that influence the comparability of accounting information, such as standard harmonisation and its enforcement, executive motivations, and the audit style of Big 4 accounting firms. Our study is expected to add more evidence by examining the impact of accounting firm mergers on the comparability of accounting information. 2.2. Policy and research on accounting firm mergers Since 2007, in order to help accounting firms become bigger and more competitive, a series of policies have been issued (Chinese Institute of Certified Public Accountants [CICPA], 2007b; General Office of the State Council, Ministry of Finance [MOF], 2009; Ministry of Finance [MOF] & China Securities Regulatory Commission [CSRC], 2009). Since then, the Chinese audit market has witnessed many accounting firm mergers. Though many Chinese CHINA JOURNAL OF ACCOUNTING STUDIES 479 accounting firms have grown dramatically larger through mergers, we still do not know whether a rapid increase in size through merger also leads to an improvement in audit quality. The answer to this question will directly reflect the effectiveness of the bigger and more competitive policy and be of interest to both regulators and researchers. The literature has investigated the effect of Chinese auditor mergers in several aspects, such as audit quality, audit fees, audit efficiency, and market concentration. These studies find that accounting firm mergers can increase market concentration (Li, Wu, & Fan, 2014) but fail to decrease audit fees ( Wang et al., 2013; Zeng & Zhang, 2012) and also fail to decrease Big 4 premiums (Cai, Sun, & Ye, 2011). Although prior literature shows that audit fees are not reduced after auditor mergers, this result cannot be interpreted as no increase in audit efficiency, because it is possible that an accounting firm can withhold the value of synergy stemming from a merger rather than share it with clients (Gong et al., 2015). To test this prediction, Gong et al. (2015) employ unique audit time data from the CICPA to accurately measure audit ec ffi iency and find that Chinese Big 10 mergers have had no signic fi ant ee ff ct on audit fees; however, audit efficiency is significantly increased after mergers, with no dete - rioration in audit quality. Wang and Deng (2010) use audit opinion as a proxy for audit quality and find that account - ing firm mergers do not increase audit quality. Zhang and Zeng (2011) and Zeng and Zhang (2010) find opposite results when using discretionary accruals and the ERC (earnings response coefficient) as a proxy for audit quality, respectively. To reconcile this conflict, Chan and Wu (2011) further distinguish between two categories of accounting firm mergers: those whose aggregate quasi-rent at risk increased and whose aggregate quasi-rent at risk remained unchanged. They find that the former can increase the independence of account - ing firm and then increase the audit quality, because the firm will have more to lose in the event of an audit failure (DeAngelo, 1981). In contrast, the latter cannot increase audit quality. In addition, studies also investigate quality control after accounting firm mergers (Zhu, 2013). Wu (2006) finds that Zhongtianqin CPA Firm, formed by merging Shenzhen Zhongtian CPA Firm with Tianqin CPA Firm, failed to increase its audit quality, which the author attributes to the failed internal quality control of the merged firm. Finally, studies find accounting firm mergers reduce audit delay and increase audit efficiency (Li & Liu, 2012) or increase the accounting firm’s degree of specialisation ( Wang & Deng, 2012). Other evidence finds positive market reactions to auditor mergers (Wang et al., 2013). To the best of our knowledge, no study has yet examined the relationship between accounting firm mergers and their effect on the comparability of accounting information. 3. Institutional background and hypothesis development To accelerate the development of the Chinese audit industry, the Chinese government has promulgated a series of policies to promote accounting firms to become bigger and more competitive. These policies include the CICPA’s Suggestions on Promoting the Accounting Firm to Be Bigger and More Competitive (CICPA, 2007b), Some Opinions on Accelerating the Development of Domestic CPA Industry (CICPA, 2009), and Some Methods to Further Promote Bigger and More Competitive Accounting Firm (Chinese Institute of Certified Public Accountants [CICPA], 2012). These policies encourage accounting firms to increase their size rapidly through mergers. The number of accounting firms with a licence to audit listed 480 F. YE ET AL. companies has therefore diminished from over 60 to 40 and audit market concentration has significantly increased. Is the increased size of accounting firms through mergers accompa- nied by improvements in audit quality? The evidence is not consistent with some studies providing a positive answer (Chan & Wu, 2011; Zhang & Zeng, 2011) and others providing a negative answer (Wang & Deng, 2010; Wu, 2006). We argue that post-merger comparability is greater than pre-merger comparability, whether the audit quality is increased or not, for the following reasons. First, if accounting firm mergers can increase audit quality, then after the merger, clients’ financial reporting that accurately and fairly report economic transactions will be more comparable with other firms’ financial reporting that also truly and fairly record the same items (FASB, 1980; International Accounting Standards Board [IASB], 2010). Barth et al. (2012) find that IFRS adoption by non-U.S. firms enhance their financial reporting comparability with U.S. firms, which is partly attributed to the non-US firms’ increase in earnings quality, such as less dis- cretionary accrual after IFRS adoption. Second, accounting firm mergers can increase comparability by unifying accounting firm styles, even if mergers cannot improve audit quality. For example, suppose there are two kinds of items, 1 and 2, which have the same influence on financial reporting. Accounting firm A is “bad” at auditing item 1 and “good” at auditing item 2 during the pre-merger period, while accounting firm B acts in the opposite direction, that is, is good at auditing item 1 and bad at auditing item 2. After the merger, only the auditing style of firm A is maintained, since firm B is absorbed into firm A. Then the partners of firms A and B will both audit item 1 poorly and item 2 well during the post-merger period. The financial reporting audited by firms A and B, therefore, will be more comparable, although neither firm A nor firm B changes its audit quality, on average. Therefore our first hypothesis is as follows. H1: The comparability of financial reports audited by accounting firms post-merger will be higher than pre-merger. Accounting firm mergers will not always lead to the improvement of comparability. As men - tioned, the recent upsurge of accounting firm mergers is driven by policy rather than market power. Post-merger comparability will not necessarily be changed and depends on the integration between the accounting firms involved in the merger. The integration of human resources is one of the most important aspects, since individual partners are the foremost resources in accounting firms. Post-merger comparability depends on how the merger-in- volved accounting firms integrate their audit standards, audit processes, and audit risk con- trol systems. Signing audit partners play an important role in audits and they direct and supervise the entire audit process. The signing audit partner is responsible for the overall quality of the audit project and takes leadership responsibility for the audit’s quality (Chinese Institute of Certified Public Accountants [CICPA], 2007a; Wu, 2009). If accounting firms involved in a merger can uniformly assign the partners from both sides to work together, the partners of the acquiree can understand and become familiar with the acquirer’s audit standards and processes more quickly. That is, reassignment of signing auditor partners after a merger is an effective way of realising integration. Therefore, we are interested in the impact of the degree of integration after accounting firm mergers on comparability (for a detailed expla- nation see the Appendix A). The discussion above leads to our second testable hypothesis, as follows. CHINA JOURNAL OF ACCOUNTING STUDIES 481 H2: The positive relationship between accounting firm mergers and financial reporting compa- rability is stronger when the accounting firm has a higher degree of integration after merger. 4. Research design 4.1. Sample selection Our sample period covers from 1998 to 2012. We start in 1998 because that was when the Chinese government issued regulations requiring local government-affiliated auditors to separate both financially and operationally from the government. In addition, there were almost no accounting firm mergers before 1998. To be included in our test sample, the mergers of accounting firms had to meet the following criteria. First, the data of the clients of both the acquirer and acquiree are needed, so we only include mergers in which both the acquirer and acquiree have a license to audit listed companies. Second, we focus on clients audited by one of the accounting firms before the merger and audited by the merged accounting firm after the merger. We therefore exclude from the sample both clients who change auditors after the merger and new clients after the merger. Third, we examine the impact of the accounting firm merger on comparability by comparing comparability two years before the merger with that two years after the merger. We also exclude mergers in which at least one of the accounting firms engaged in multiple mergers within three years, to rule out confounding effects. Following Gong et al. (2015), we use a matched differ - ence-in-differences method to investigate the impact of accounting firm mergers on com- parability. We match each treated company with a company in the same year and industry with the closest in size. We also require that the auditor of this matched company did not undergo any mergers during the sample period. This sample selection process yields 4,228 observations. Table 1 shows the sample distributions by industry and year. Consistent with previous research, the results show that 54.99% of the sample comes from the manufacturing industry. We obtain the financial statement and industry data of listed firms from the China Stock Market and Accounting Research Database (CSMAR). We collect information of accounting firms and signing audit partners from CSMAR and clients’ annual reports, supplemented by auditor database on the website of CSRC and CICPA. Finally, we winsorize all continuous variables at the 1 percent. 4.2. Regression models and variable settings To examine the impact of accounting firm mergers on financial reporting comparability, that is, to determine whether accounting firm mergers lead to the improvement of post-merger comparability, we use a difference-in-differences method with the following model: CompAccr = + Merge + After + Merge ∗ After + Controls + (1) 0 1 2 3 We thank the reviewers for their suggestions. Merger integration takes time to complete, so we choose two years before and after the merger as the time window. f or example, ShineWing merged with an accounting firm in 2006 and again in 2009; so 2007 and 2008 are post-merger years for the first merger and pre-merger years for the second merger, making it difficult to define subsequent variables, such as After. So we removed these merger cases from the sample. 482 F. YE ET AL. Table 1. Sample distribution by industry and year. Industry Percentage (%) Year Percentage (%) a griculture, forestry, husbandry, and fishery 1.66 1998 6.24 Mining 2.27 1999 7.59 Manufacturing 54.99 2000 0.73 electric power, gas and hydraulic production and supply 4.07 2001 10.86 Building 2.39 2002 8.82 Warehousing and transportation 4.07 2003 2.13 information technology 4.02 2004 2.15 Wholesale and retail sale trades 7.78 2005 1.35 Banking and insurance 1.40 2006 11.83 real estate 4.94 2007 12.11 Social services 2.84 2008 5.84 Communication and cultural 0.26 2009 14.83 Miscellaneous 9.32 2010 11.57 2011 3.50 2012 0.45 where β is the intercept, β –β are coefficients, ε is the residual. The variables in the model 0 1 n are defined as follows: The dependent variable is CompAccr. Unlike other accounting quality characteristics (e.g., accruals, accounting conservatism, and earnings smoothing), comparability is a concept of relationship among firms and is built on two or more firms instead of only one single firm (De Franco et al., 2011; Yuan & Wu, 2012). Following Francis et al. (2014), we chose firms in the same industry and year as pairs to compute comparability. The comparability of firm iis the average of the absolute value of the difference in total accruals between firm i and firm 6,7 j, where firm j represents all firms in the same industry and year as firm i. For simplicity, we multiply this average absolute value by −1 to ensure that CompAccris positively correlated with comparability. In summary, CompAccris expressed as follows: Compaccr =−1 ∗ abs Total_Accruals − Total_Accruals it it jt j=1 In a robustness test, we also use the average of the absolute value of the difference in total abnormal accruals (CompAbnAccr) to measure comparability. For firms i and j, we require firm i to be audited by the acquirer or acquiree before the merger and to still be in the merged account- ing firm after the merger. Firm j represents firms in the same year and industry as firm i . In this paper, we do not use the earnings comparability covariation method of De Franco et al. (2011) (DKV for simplicity), because it is not quite fit for studying the change in com- parability between pre- and post-merger firms. DKV’s method needs the time series data of the previous four years to estimate the model parameters and the estimated parameters t here are two kinds of comparability: comparability between different years of the same firm and comparability between different firms in the same year. o ur paper focuses on the second type of comparability. We thank the reviewer for this suggestion, which is an adaptation of f rancis et al. (2014). f rancis et al. (2014) calculate a comparability metric for each firm i and firm j in pairwise combination. t hat is, if there are n firms in an industry, for each firm i in this industry, there will be n−1 values of comparability in year t. f or our research question, it is more appropriate to use a firm-year measure of comparability. So we take the average of these n−1 values of comparability for firm i in year t. By this procedure we transfer pairwise measure to firm-year measure for comparability. u sing another measure, we consider the situation in which the industry size is too small (fewer than five companies in the industry), which could result in bias in computing average values. We conduct a robustness test by eliminating these samples and find the main conclusions to be unchanged. CHINA JOURNAL OF ACCOUNTING STUDIES 483 are then used to compute the comparability of the year being tested. Use of the DKV method would imply that post-merger comparability is largely determined by the pre-merger audit style. However, our study focuses on the change in comparability caused by the structural change in audit style due to accounting firm mergers; therefore, DKV’s method is not suitable for our study. The variable Merge is a dummy variable that equals one if a company is audited by a merger-involved accounting firm and zero otherwise. The variable After is also a dummy variable that equals one if the observation is in a post-merger year and zero otherwise. If H1 is supported, we expect the coefficient of the interaction term Merge*After (β ) to be signif- icantly positive, which means that, compared to companies audited by non-merger account- ing firms, the comparability of companies audited by merger-involved accounting firms is significantly increased post-merger. As Francis et al. (2014) and De Franco et al. (2011), we control for the following variables in our model: SIZE, Lev, CFO, MTB, where SIZE is the natural logarithm of total assets, Leverage is the debt ratio, CFO is cash flow from operations scaled by total asset in year t−1, and MTB is the market-to-book ratio. Besides, we also control for FirmTenure, Big 4, and Age, which could possibly affect accounting accruals, where FirmTenure is auditor tenure, Big 4 is a dummy variable indicating an international Big 4 firm, and Age is the number of years the company has been listed. Finally, we include year and industry dummies to control for year and industry fixed effects. Following the CSRC’s industry clas- sification, we use a two-digit code for the manufacturing sector and a one-digit code for the other sectors. For the sake of simplicity, we do not report the coefficients of the year and industry dummies in the empirical results. To test H2, we split the total sample into a high-integration subsample and a low-inte- gration subsample. We divide all accounting firm mergers into two groups based on the median of the proportion of reassigned signing audit partners after mergers, as explained in the Appendix A. Accounting firm mergers with an above-median proportion of reassigned signing auditor partners are classified as higher degree of integration mergers and compa- nies audited by them fall into the high-integration subsample. Similarly, we define the low-in - tegration subsample. Then we respectively regress model (1) for these two subsamples. If H2 is supported, we should expect the coefficient of Merge*After(β ) in the high-integration subsample to be much higher than in the low-integration subsample. Definitions and sources for all variables are shown in Table 2. 4.3. Descriptive statistics Table 3 reports the descriptive statistics for the main variables in the regressions. As shown, the statistical results of the full sample, where the mean of CompAccris −0.12 and the median of CompAccris −0.10, suggesting the CompAccr is left skewed. In terms of control variables, the mean of Big 4 is 0.084, that is, 8.4% of the companies are audited by Big 4 accounting firms. The mean of FirmTenure is 5.61, suggesting that the average audit tenure is about six years. In untabulated findings, we re-run Table 3 using pre- and post-merger subsample respectively and find that the means of CompAccr in the pre- and post-merger periods are both −0.12, with no significant difference. This result suggests that it is not the time effect but the merger itself that leads to the increase in comparability. In addition, no abnormalities are found for the other control variables. 484 F. YE ET AL. Table 2. d efinition and source of variables. Variable Definition Data source Compaccr t he comparability of firm i is the average of the absolute value of the CSMar difference in total accruals between firm i and firm j, where firm j represents all firms in the same industry and year as firm i. t he method is described as � � following: Compaccr =−1 ∗ abs Total_Accruals − Total_Accruals it it jt j=1 Merge a dummy variable that equals one if a company is audited by a merger-involved Website of CSrC and accounting firm and zero otherwise CiCPa and eSnai After a dummy variable that equals one if the observation is in a post-merger year and Website of CSrC and zero otherwise CiCPa and eSnai Proportion of a ccounting firms i and j are merged in year t. Before merger, firms i and j have i CSMar and annual reassigned and j clients. a fter merger, the merged accounting firm can reassign the reports signing partners to these i + j clients from the enlarged pool of signing partners. if audit there are c clients whose one or both signing partners are changed, we define partners the proportion of reassigned singing audit partners as following: Proportion of reassigned audit partners = i + j Integration We divide all accounting firm mergers into two subsamples based on the median CSMar and annual degree of the proportion of reassigned signing audit partners after mergers. reports a ccounting firm mergers with above-median (below-median) proportion of reassigned signing auditor partners are classified as higher (lower) degree of integration subsample Big 4 a dummy variable indicating an international Big 4 firm CSMar FirmTenure a uditor firm tenure, is the duration of auditor-client relationship in years CSMar Size t he natural logarithm of total assets CSMar Leverage t he debt ratio, equals to total liability divided by total asset CSMar OCF Cash flow from operations scaled by total asset CSMar MTB t he market-to-book ratio CSMar Age t he number of years the company has been listed CSMar Table 3. d escriptive statistics. N Mean P50 P25 P75 Std. Dev Compaccr 4,228 −0.12 −0.10 −0.13 −0.08 0.07 Big 4 4,228 0.08 0.00 0.00 0.00 0.28 FirmTenure 4,228 5.61 5.00 3.00 8.00 3.83 Size 4,228 21.46 21.28 20.63 22.10 1.19 Leverage 4,228 0.50 0.49 0.35 0.64 0.21 OCF 4,228 0.05 0.05 0.00 0.10 0.08 MTB 4,228 1.74 1.43 1.14 1.95 0.99 Age 4,228 8.21 8.00 4.00 11.00 4.49 note: See t able 2 for the definitions of all the variables. 4.4. Correlation analysis Table 4 presents the Pearson correlations among the main variables in the model. The first column of the table shows that the correlation between Merge and CompAccr is positive but insignificant. This means that the comparability of the merger group is not significantly higher than that of the control group. However, the coefficient of the correlation between Merge*After and CompAccr is positive and significant at the 5% level, which implies that, compared with the control group, the merger-involved company’s comparability is signifi- cantly higher than before the merger. In terms of the other variables, FirmTenure, Lev, MTB, and Age are significantly negatively correlated with CompAccr while OCF and CompAccr are significantly positive correlated, which means that comparability will decrease with a longer audit tenure, a higher debt ratio, and a higher market-to-book ratio and will increase with CHINA JOURNAL OF ACCOUNTING STUDIES 485 Table 4. Correlation matrix. (1) (2) (3) (4) (5) (6) (7) (8) (9) (10) (1) Compaccr 1.00 (2) Merge 0.02 1.00 (3) After 0.00 0.02 1.00 (4) Merge*After 0.03** 0.61*** 0.58*** 1.00 (5) Big 4 0.01 0.10*** 0.03** 0.09*** 1.00 (6) FirmTenure −0.03** 0.03* 0.11*** 0.10*** −0.00 1.00 (7) Size −0.02 0.01 0.15*** 0.09*** 0.36*** 0.17*** 1.00 (8) Leverage −0.23*** −0.06*** 0.00 −0.03** 0.01 0.08*** 0.24*** 1.00 (9) OCF 0.14*** 0.00 0.00 0.00 0.08*** 0.04*** 0.12*** −0.15*** 1.00 (10) MTB −0.13*** 0.04*** 0.13*** 0.11*** −0.12*** 0.08*** −0.30*** −0.14*** 0.09*** 1.00 (11) Age −0.14*** −0.00 0.14*** 0.07*** −0.01 0.57*** 0.22*** 0.22*** −0.00 0.19*** notes: See the t able 2 for the definitions of all the variables; *p < 0.10, **p < 0.05, ***p < 0.01. 486 F. YE ET AL. the company’s cash flow from operations. The correlation analysis ignores other control variables, so we further analyse the impact of accounting firm mergers on comparability in the regression analysis. 5. Empirical results 5.1. Univariate analysis Table 5 shows the results of the univariate analysis of comparability. Panel A shows that, in the merger group, the means of the pre- and post-merger CompAccr values are −0.12 and −0.11, respectively. The difference is significant at the 10% level, which suggests that post- merger comparability is significantly higher than pre-merger comparability. Panel B reports the results for the control group. The mean of the pre-merger CompAccr is −0.12 and the mean of the post-merger CompAccr is −0.12 and the difference is not significant. These results above imply that accounting firm mergers can improve comparability and that this improve - ment is mainly driven by the merger of the accounting firms rather than a time trend. Panel C of Table 5 reports the means of the control variables before and after the mergers: The proportion Big 4, auditor tenure (FirmTenure), and the market-to-book ratio (MTB) are signif- icantly increased after a merger, while the debt ratio (Leverage) is significantly decreased. We control for these variables in the following regressions. 5.2. Multiple regression analysis: accounting firm mergers and comparability Table 6 reports the ordinary least squares regressions of model (1). To control for heterosce- dasticity, all regressions are based on robust t-statistics. The first column of Table 6 reports the results without any control variables, in which the coefficient of Merge*After is positive and significant at the 5% level. The second column reports the results with the control var - iables added and shows that the coefficient of Merge*After is significantly positive at the 1% level. These results support H1 and imply that accounting firm mergers could lead to the improvement of comparability. From this point of view, the bigger and more competitive policies pushed by the Chinese government do play a role in the improvement of audit quality. Table 5. univariate analysis: pre- and post-merger. Pre-Merger Mean Post-Merger Mean Difference Panel A: Merger group (Merge = 1) Compaccr −0.12 −0.11 −0.01* Panel B: Control group (Merge = 0) Compaccr −0.12 −0.12 0.00 Panel C: Full sample Big 4 0.06 0.11 −0.06*** FirmTenure 5.51 5.70 −0.20* Size 21.45 21.47 −0.02 Leverage 0.51 0.49 0.03*** OCF 0.05 0.05 −0.00 MTB 1.70 1.78 −0.08*** Age 8.22 8.20 0.02 notes: See t able 2 for the definitions of all the variables; *p < 0.10, **p < 0.05, ***p < 0.01. CHINA JOURNAL OF ACCOUNTING STUDIES 487 Table 6. a ccounting firm mergers and financial reporting comparability. (1) High-integration group (2) Low-integration group Dep. Var: Compaccr Coefficient t-Value Coefficient t-Value Merge −0.003 (−0.91) 596.502 (−1.58) After −0.005 (−1.48) −0.005 (−1.10) Merge*After 0.011** (2.37) 0.011*** (2.82) Big 4 0.001 (0.30) FirmTenure 0.001* (1.87) Size 0.003** (1.99) Leverage −0.057*** (−7.26) OCF 0.070*** (2.69) MTB −0.007*** (−3.73) Age −0.000 (−1.04) Constant −0.117*** (−52.08) −0.122*** (−3.99) Industry & Year no Yes observations 4,228 4,228 R 0.002 0.233 notes: See t able 2 for the definitions of all the variables; t-statistics are in parentheses; *p < 0.10, **p < 0.05, ***p < 0.01. In terms of the control variables, FirmTenure, Size, and OCF are significantly positively correlated with CompAccr, suggesting that the longer the auditor tenure, the larger the company’s size, and the higher the operating cash flow, the higher the financial reporting comparability. In addition, Leverage and MTB are significantly negatively correlated with CompAccr, suggesting that the higher the debt ratio or the higher the market-to-book ratio, the lower the comparability. 5.3. Accounting firm mergers, the degree of integration, and comparability In this section, we use the proportion of clients having reassigned signing audit partners after the merger to measure the degree of integration after the merger of accounting firms (as explained in the Appendix A) and investigate how the integration of mergers affects the improvement of comparability. We split the sample into a high-integration subsample and a low-integration subsample and regress model (1) separately. The results are shown in Table 7. As shown, the coefficient of Merge*After is only significantly positive (at the 1% level) in the high-integration subsample. The results imply that if there is a merger but no sub- stantial integration afterward, comparability will not be significantly increased. Integration is important in achieving merger synergy. 6. Robustness tests 6.1. Comparability measure In the main analysis, we use the difference in total accruals between pairs of firms to measure comparability. To check the robustness of the results, we replace total accruals with abnormal accruals. We measure abnormal accruals through four methods: (1) using CompAbnAccr1, calculated using the modified Jones model, (2) using CompAbnAccr2, calculated based on the Jones model adjusted for performance (Kothari, Leone, & Wasley, 2005), (3) using CompAbnAccr3, calculated with Ball and Shivakumar’s (2006) model, and (4) using CompAbnAccr4, calculated with Dechow and Dichev’s (2002) model. Panel A of Table 8 pre- sents the results and the coefficient of Merge*After is significantly positive for three of the 488 F. YE ET AL. Table 7. a ccounting firm mergers, the degree of integration, and comparability. (1) High-integration group (2) Low-integration group Dep. Var: Compaccr Coefficient t-Value Coefficient t-Value Merge −0.006 (−1.56) −0.002 (−0.58) After −0.009 (−1.26) −0.002 (−0.27) Merge*After 0.017*** (2.88) 0.008 (1.44) Big 4 −0.006 (−1.27) 0.016* (1.93) FirmTenure 0.000 (0.75) 0.001 (1.11) Size 0.003 (1.36) 0.002 (1.12) Leverage −0.075*** (−6.42) −0.043*** (−4.11) OCF 0.119*** (2.91) 0.040 (1.25) MTB −0.011*** (−3.92) −0.005* (−1.83) Age 0.000 (0.82) −0.001 (−1.45) Constant −0.115*** (−2.82) −0.120** (−2.58) Industry & Year Yes Yes Observations 2,115 2,113 R 0.248 0.256 notes: See t able 2 for the definitions of all the variables; t-statistics are in parentheses; *p < 0.10, **p < 0.05, ***p < 0.01. Table 8. robustness tests. Panel A: Measure of comparability: Abnormal accruals (1) (2) (3) (4) Comp abnaccr1 Comp abnaccr2 Comp abnaccr3 Comp abnaccr4 Merge −0.002 −0.001 −0.000 −0.003* (−0.84) (−0.60) (−0.10) (−1.83) After −0.005 −0.005* −0.001 0.000 (−1.43) (−1.65) (−0.49) (0.05) Merge*After 0.007** 0.005* 0.003 0.006** (2.09) (1.78) (1.03) (2.53) Controls Yes Yes Yes Yes Panel B: Window period [T − 1, T + 1] Coefficient t-Value Merge −0.009** (−2.07) After −0.013 (−1.52) Merge*After 0.020*** (3.27) Controls Yes Panel C: Keeping the first merger of multiple mergers Coefficient t-Value Merge −0.003 (−1.27) After −0.003 (−0.86) Merge*After 0.007** (2.00) Controls Yes Panel D: Measure of integration: eliminating non-merger reasons (1) h igh-integration group (2) l ow-integration group Coefficient t-Value Coefficient t-Value Merge −0.006 (−1.42) −0.006 (−1.36) After −0.010 (−1.25) −0.004 (−0.58) Merge*After 0.016*** (2.59) 0.010* (1.78) Controls Yes notes: t able 2 for the definitions of all the variables; t-statistics are in parentheses; *p < 0.10, **p < 0.05, ***p < 0.01. four alternatives. These regressions demonstrate the robustness of our results and a signif- icant increase in post-merger financial reporting comparability. CHINA JOURNAL OF ACCOUNTING STUDIES 489 6.2. Research period We compare the comparability two years before and two years after the merger in the main test of section 5. In this section, we use one year prior to and one year after the merger to control for confounding effects due to the long event window. The results are presented in panel B of Table 8. Consistent with our hypothesis, the coefficient of Merge*After is still positively significant. 6.3. Keeping only the first of multiple mergers We delete mergers in which at least one of the accounting firms engaged in two or more mergers, to rule out confounding effects. For example, ShineWing CPA merged with Zhong Xing Yu CPA Firm in 2006 and then merged with Sichuan Jun He CPA in 2009. When we compare the changes in comparability two years before and two years after the merger, ShineWing CPA data for 2007–2008 constitute post-merger data for the first merger and pre-merger data for the second merger, which confuses the definition of the windows. To control for this overlap, we constrain our sample to the first mergers in robustness tests. Panel C of Table 8 shows that the regression results are consistent with those in Table 6. 6.4. Measurement of the degree of integration Using the proportion of reassigned signing auditor partners after the merger to measure the degree of integration, Table 7 shows that the degree of merger integration of the accounting firm has an eec ff t on the positive relation between auditor firm merger and financial reporting comparability. However, we did not eliminate the signing audit partner reassignment due to non-merger reasons in the main test. For example, a mandatory rotation policy requires sign- ing audit partners to rotate after they have audited a firm for five consecutive years; therefore, the results we find in the previous analysis may be due to this mandatory rotation effect. We therefore eliminate reassignment due to non-merger reasons, including the signing audit partner’s mandatory rotation, job-hopping, leaving the audit industry, and retirement (Xue, Ye, & Hong, 2013). The regression results are presented in Panel D of Table 8. In the high-in- tegration group, the coefficient of Merge*After is positive and significant at the 1% level, while, in the low-integration group, it is only significant at the 10% level and untabulated statistical test results show that the difference is significant. Therefore, our results are robust when eliminating the reassignment of the signing audit partner due to non-mer ger reasons. 7. Conclusions Using a sample of Chinese A-share firms listed from 1998 to 2012, we investigate the impact of accounting firm mergers on financial reporting comparability. We find that the compara- bility of financial reports audited by merged accounting firms is significantly increased after merger. Furthermore, the degree of post-merger integration has a positive effect on this relationship; that is, the association between auditor firm merger and financial reporting comparability is stronger when auditor firm merger has a higher degree of integration. 490 F. YE ET AL. Many studies have focused on the effect of accounting firm mergers on the reliability of accounting information, with mixed evidence. In this paper, we try to illustrate the impact of accounting firm mergers on a new dimension, that is, on the comparability of accounting information. The empirical results may offer a support for the bigger and more competitive policy of the Chinese government. Specifically, we find that accounting firm mergers can improve financial reporting comparability. Further, the effect of a merger is largely deter - mined by the post-merger integration. It is important for accounting firms involved in merg - ers to reconfigure their human resources according to customer characteristics and the personal characteristics of the signing auditor partners, such as professional expertise or audit style. The integration and unification of the management and control systems are the foundation of a substantive consolidation. The Chinese government therefore needs to not only encourage the mergers of accounting firms but also guide their effective integration after mergers. Our research has some limitations. First, we measure comparability mainly with the accru- als method adapted from Francis et al. (2014) and more comparability measurement methods are needed. The measure of comparability is far from mature and other measures of the comparability are expected in the future. Second, although this research is conducted on the Chinese audit market, we do not dig deeply into the Chinese institutional background, which could be an opportunity and direction for follow-up research. Acknowledgments We appreciate the helpful comments and suggestions from reviewers and editors. Shuang Xue acknowledges financial support from the National Natural Science Foundation of China (Project No. 71572102 and Project No. 71172143), MOE Project of Key Research Institute of Humanities and Social Science in University (14JJD630005 and 16JJD790038) and Program for Innovative Research Team of Shanghai University of Finance and Economics. Feiteng Ye acknowledge financial support from the National Natural Science Foundation of China (71502107), the MOE Project of Humanities and Social Sciences (13YJC790183). 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(2) In year t−1, accounting firm i has its own clients, say companies A , A , … A ; accounting firm 1 2 i j has its own clients, say companies B , B , … B . 1 2 j (3) Each accounting firm arranges signing partners for its own clients. Signing partners for A are partners a and a , for A are a and a …; Signing partners for B are b and b , for 11 12 2 21 22 1 11 12 B are b and b … 2 21 22 (4) After the merger, say at the end of year t, firms i and j become one accounting firm , whose clients include companies A , A , … A ; and B , B , … B . Also it has all partners which belong 1 2 i 1 2 j to pre-merger i and pre-merger j. (5) At the end of year t, the merged accounting firm can reassign the partners for its clients in two possible ways: (a) keep the par tners a and a for clients A ; keep the partners b and b for clients B . In i1 i2 i j1 j2 j this case there is no reassignment and no change of partners for clients A and B . i j (b) change one or both of the sig ning partner since there are now more partners available to be assigned compared with the pre-merger single accounting firm. That is, it can choose more appropriate or matching partners for clients from a larger pool of partners. Say for company B , it can send a (from accounting firm i) and b (from accounting firm j). It j m1 n2 can also send a and a (both from accounting firm i) for B (from firm j). m1 n2 j If (a) happens, we say there is no reassignment since both the signing partners for clients A are kept unchanged after the merger. If (b) happens, we say there is a reassignment since at least one of the signing partners change after the merger. For the post-merger accounting firm, it has (i + j) clients. If there are c clients with reassign- ment, we can compute a ratio of reassignment (= c/(i + j)). (6) For each merger event of an accounting firm, we get one ratio of reassignment. We use it to proxy the degree of integration. (7) Then we can compute the median ratio of reassignment for all merger events. Integration of merger with ratio of reassignment greater than (less than) the median is regarded higher (lower). (8) All the clients (A , A , … A , B , B , … B ) for this merger event with higher integration, we 1 2 i 1 2 j define as being audited by a higher integration merged audit firm. (notice: among these clients, only some of them are reassigned partner(s)). (9) Similarly, all the clients (A , A , … A , B , B , … B ) of a merged accounting firm with lower 1 2 i 1 2 j integration, we define as being audited by a lower integration merged audit firm. (notice: among these clients, only some of them are reassigned partner(s).
China Journal of Accounting Studies
– Taylor & Francis
Published: Oct 1, 2016
Keywords: Financial reporting comparability; accounting firm merger; post-merger integration; reassignment of signing audit partner