Audit Market Concentration and Audit Quality: Evidence from Analysts' Forecasts

SYNOPSIS: Audit market concentration remains a concern due to its potential impact on audit quality. We examine whether audit market concentration influences properties of analysts' forecasts. We find that analyst forecasts are more accurate and less dispersed when audit markets are more concentrated. Consistent with regulators' concerns, we find evidence of decreased auditor independence in concentrated markets but also increased auditor effort and a higher likelihood of a Big N auditor. This results in an overall net positive effect between audit market concentration, audit quality, and ultimately, analysts' forecasts. These results are concentrated in settings where analysts rely more on audited financial statements. Our findings support regulators' concerns regarding concentration in the U.S. audit market but also help to explain why audit market concentration leads to improved audit quality.