Audit Fees, PCAOB Sanctions, Sanction Risk, Sanction Risk Premiums, and Public Policy : Theoretical Framework and a Call for Research

The Sarbanes-Oxley Act of 2002 (SOX) was enacted to “protect investors by improving the accuracy and reliability of corporate disclosures made pursuant to the securities laws…” The Public Company Accounting Oversight Board (PCAOB) was created as part of SOX and given a duty to impose monetary sanctions on PCAOB registered accounting firms for intentional, knowing, or reckless conduct that results in violation of the statutory, regulatory, or professional standards of auditing, or for repeated instances of negligent conduct. This creates a new risk for both individual auditors and auditing firms separate and distinct from business, audit, and litigation risk — sanction risk. This paper establishes the legal and economic bases of sanction risk and proposes that research be conducted to determine whether sanction-risk premiums are being incorporated into audit fees and passed on to clients by registered accounting firms thereby subverting the intended purpose of the sanctions