Impact of the SEC's public fee disclosure requirement on subsequent period fees and implications for market efficiency

This study investigates the impact of the U.S. Securities and Exchange Commission's (SEC) mandated public disclosure of audit fees on subsequent period audit pricing. Our theoretical model predicts that the initial public disclosure of fees will lead to greater precision and reduced dispersion (less variance) in subsequent period fees. Using the new fee disclosures in the first two disclosure years (2000 and 2001), we find significantly smaller variances in audit fees as predicted for 2001 relative to 2000. In addition, we document that those clients that were "overcharged" ("undercharged") in 2000 have significantly lower (higher) fees in 2001. However, there is greater downward fee adjustment than upward adjustment that suggests that clients have bargaining power over auditors. We also document that subsequent period fees appear to have completed the adjustment process by the second post-disclosure year (2002) with subsequent fees adjusting on average around 0.31 percent for each one percent of fee surprise in 2000. In sum, the evidence indicates that public disclosure has improved the precision of audit pricing (less variance) and this is a potentially more fundamental and lasting consequence of public disclosure, and transcends the SEC's original rationale, which was more narrowly premised on the conjectured adverse effect of nonaudit services on auditor independence.