Customer-Base Concentration : Implications for Audit Pricing and Quality

What are the implications of major customer dependency, i.e., the degree of a supplier firm's dependency on its major customers, for external auditors? While the conventional view emphasizes the negatives of major customer dependency for client business risk, we find that suppliers with more concentrated customer bases spend less on audit fees. The negative association between audit fees and customer-base concentration holds after controlling for a wide array of client firm and auditor characteristics. The evidence is consistent with reduced audit effort due to efficiency gains in the audit process, especially when suppliers with more concentrated customer bases share the same auditors with their long-standing major customers. The audit fee discount we identify does not imply that audit quality declines with customer-base concentration. In fact, we find that suppliers with more concentrated customer bases are less likely to experience material restatements of previously audited financial statements, which implies a positive link between audit quality and major customer dependency. Overall, our study contributes to research in accounting and operations management on inter-organizational relationships by exploring the interplay of customer-base concentration with client business risk and audit complexity. Taking the external auditors' perspective, our study provides new managerial insights on the costs and benefits of major customer relationships for supplier firms