Non-Audit Services and Auditor Independence: Evidence from 1978-1980

Accounting research has extensively debated the impact of non-audit services (NAS) provided by auditors on auditor independence and on clients’ financial reporting quality. Most research on this debate uses data resulting from a SEC disclosure rule in 2000. We provide evidence on this controversy using data from the years 1978-1980 to re-examine the relation between fees for NAS provided by auditors and (i) their clients’ financial reporting outcomes; and (ii) the stock market’s perception thereof. Apart from providing a new setting to examine a long-standing concern, the 1978-80 data are especially relevant to the current debate because (i) information systems related fees (ISFEE) represent the largest component of NAS in our 1978-80 sample and were of particular concern to the SEC when the current ban on NAS was enacted; and (ii) similar to the SEC requirement of 2000, firms had to obtain prior director approval in 1978-80 to engage auditors for NAS. We find no evidence that financial reporting outcomes are compromised by NAS. In fact, our results suggest that both NAS and ISFEE are associated with higher financial reporting quality. In sum, data drawn from an earlier time period than that examined by recent research fail to support the SEC’s concerns that NAS provided by the auditor affects the quality of financial reporting.