Direct and Mediating Effects of Auditor Quality on Auditor Size and Performance

In defining audit quality, DeAngelo (1981) assumes no variation in auditor’s technical competency in discovering a breach. Instead, we relax this assumption and utilize principal components analysis technique to extract auditor quality from human capital factors of an audit firm. With the auditor quality, this study examines the association between auditor size and performance. In terms of market segment, audit firms are divided into public company audit market firms (PCAMFs) and non-public company audit market firms (NCAMFs). Based on path analysis, we find that auditor size has direct effect on performance and indirect effect through auditor quality. Auditor quality associates with both auditor size and performance positively. In further, auditor size has more contribution to performance of PCAMFs than that of NCAMFs. Auditor quality of PCAMFs explains more variation of financial performance than do NCAMFs. The results indicate that PCAMFs earn more financial performance through the upgrade of auditor quality.