Holding Up the 'Deep Pockets'? An Investigation of Auditor's Liability

This paper investigates the settlement and litigation incentives of auditors under two legal regimes: the joint and several regime and the several only regime. The model's predictions are that if all defendants have full solvency, then auditors have lower expected liabilities under the joint and several regime than under the several only regime. This follows since securities law does not treat auditors and their codefendants symmetrically. That is, auditors are not liable if the financial statements are not materially misstated. However, as the codefendant's (firm's) wealth falls, auditors eventually have lower expected liability under several only liability. The reason is that as the wealth of the codefendant falls, the auditor bears an increasing fraction of total expected damages under joint and several liability. However, under several only liability, an auditor's liabilities do not depend on the solvency of codefendants