HEC Research Papers Series,
HEC Paris

Abstract: Author's abstract. This study examines whether auditors are employed as a monitoring mechanism to mitigate agency problems between controlling shareholders and minority shareholders (named Type II agency conflict). In a context of ownership concentration and poor investor protection, controlling shareholders can easily expropriate minority shareholders and profit from private benefits of control. However, this agency conflict has been rarely studied, as the most commonly assumed agency conflict resides between managers and shareholders (Type I). Using an audit fees model derived from Simunic (1980), we study the impact of type I and type II agency conflicts on audit fees in high vs. low investor protection countries.

We then focus on two countries (Germany and France) providing a lower investor protection level, and two countries (the USA and UK) providing a higher investor protection level (La Porta et al. 1998, 2000). Our results show : 1) a negative relation between audit fees and managerial shareholding, which is stronger for strong than for low investor protection countries;

2) a curvilinear (concave) relation between audit fees and controlling shareholding for low investor protection countries;

3) a lower Type II conflict in the strong investor protection countries. These results illustrate the mixed effects of the legal environment and both agency conflicts on audit fees.

Keywords: audit fees; controlling shareholder; minority expropriation; agency conflict

38 pages, July 1, 2011

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