The effect of mandatory audit partner rotation on (perceived) earnings quality of Dutch publicly listed companies

This study examines the effect of audit partner rotation on earnings quality in a Dutch, mandatory setting. I also investigate whether this association is moderated by audit firm tenure and shed some light on the individual effect of audit firm tenure on (perceived) earnings quality. Earnings quality is assessed in two ways: actual and perceived. Actual earnings quality refers to the accounting correctness of the reported earnings in the financial statements (=financial reporting quality) and perceived quality refers to the way investors on the stock market assess the quality of earnings. The quality of reported earnings is proxied by Abnormal Working Capital Accruals, determined by using the model of DeFond and Park (2001). The perceived quality of earnings is measured by determining the Earnings Response Coefficient, or value relevance of earnings as perceived by investors on the stock market. Using a sample of Dutch publicly listed companies in the period 2006-2011, for which audit partner rotation was a legal requirement, I find that audit partner rotation does not have a significant effect on both the quality of reported earnings and the perceived quality of earnings. Furthermore, I find that audit firm tenure does not moderate this association. Lastly, my empirical results suggest that the individual effect of audit firm tenure does not influence earnings quality, both the quality of reported earnings and perceived earnings quality. This study extends prior literature on the effect of audit partner rotation and tenure, by investigating partner rotation in a mandatory, Continental European setting. Prior studies only investigated audit partner rotation in Taiwan and Australia, which have different institutional settings than the Netherlands. Second, I extend the literature regarding the effect of audit firm tenure on (perceived) earnings quality. Furthermore, I contribute to the literature by examining the interaction between partner rotation and audit firm tenure.