Risky Business: Assessing the Generalizability of the PCAOB's Risk-Based Inspection Reports for Annually Inspected Audit Firms

Existing research has found that the PCAOB inspection results of small (triennially inspected) audit firms provide incremental information about audit quality, but research has not documented a similar finding for large (annually inspected) firms. I examine the generalizability of annually inspected firms' inspection findings to audit quality by investigating the association between account-specific findings and account-specific audit quality while controlling for the PCAOB's risk-based program. First, I create a selection model to approximate the risk-based inspection process. I then use its outputs to control for selection risk while examining the association between revenue-specific deficiencies and the audit quality of revenues. I find that after controlling for selection risk, revenue-specific deficiencies are generalizable to the audit quality of revenues for clients that are more likely to be inspected. These results provide some evidence that the PCAOB's inspection program is meeting its objective of providing relevant feedback to stakeholders about audit quality.