This study examines auditors' exhibit letters that are filed as part of reporting requirements for auditor changes. The two other reporting requirements (an initial 8‐K filing by the client and the AICPA notification letter sent by the auditor) have been the subject of prior work (Schwartz and Soo 1996a; Ettredge et al. 2001). The auditor's exhibit letter, in which the auditor is required to comment on client disclosures in the initial 8‐K, is intended to ensure accurate reporting by the client particularly on potentially troublesome conditions such as reportable events, disagreements, and resignations. I investigate the content, timeliness, and informativeness of the auditors' letters. The results indicate a low incidence of inconsistencies between the initial 8‐K and the auditor's letter, and a low degree of noncompliance with the timing requirements suggesting that the auditor's exhibit letter contributes positively to the monitoring of corporate disclosures concerning auditor changes. Importantly, a relatively high proportion of inconsistencies between the initial 8‐K and the auditor's letter are associated with reportable events and accounting disagreements. Delays in filings are associated with client size, auditor type, auditor resignations, and with the presence of inconsistencies between the initial 8‐K and the auditor's letter.
Market tests indicate that the market response to the initial 8‐K is negative for nonconcurrent filings (filings that do not contain the auditor's letter), but not for concurrent filings (filings that include the letter), suggesting that investors take an adverse view of the absence of the auditor's letter. Late letter filers and filers whose letters point out omissions or inadequacies in the disclosures made in the initial 8‐K experience a significant negative reaction from the date of the initial 8‐K filing to the date of the filing of the auditor's letter. This is consistent with the possible presence of information leakage prior to the actual filing of the auditor's letter, for example through analyst reports. However, despite this information leakage, late letter filings experience a significant negative reaction at the time of the letter filing. Filings involving inconsistencies between the auditor's letter and the initial 8‐K also experience a negative, albeit weaker, reaction on the date of the letter filing. Thus, investors react negatively to the absence of the letter at the time of the initial 8‐K filing, and negatively in the period following the initial 8‐K filing to late letter filers and filers with inconsistencies. Overall, the results provide support that the auditor's exhibit letter has information content.
