CC BY
26
UDK 658.562 Wang Yun,
East China Jiaotong University, School of Economics and Management,
tel: 13707916736, e-mail: hwy991@ecjtu.jx.cn
RESEARCH ON PRICE COMPETITION STRATEGY
OF ACCOUNTING FIRMS BASED ON THE RESOURCE-BASED VIEW
Abstract. Price is the most fundamental competition method for enterprises. The price competitive strategy is the game result among enterprises. The paper inspects the competitive strategies of different types of accounting firms based on the resource-based view by analyzing the Chinese stock market data from 2004 to 2006. The research result shows that the resource superiority owned by the accounting firms can be transferred into competitive superiority. The firms which have human and brand resources can gain more audit excess profit. And also there exists price cutting competitive strategy among the successor auditors. They usually charge lower audit fees than the prior audit did to obtain more audit engagements.
Keywords: enterprise resource-based view; accounting firm; price competitive strategy.
1. Introdution
Competition is the eternal topic of enterprise. The traditional view is that the competitive advantage dues to the market structure and market environment of enterprise, and is mainly determined by some certain variables outside the enterprise. According to the competitive advantage theory which was put forwards by Porter (1985), that enterprise as a «black box», is a homogeneous technology input-output system, the resources may flow unrestrictedly in the enterprise and Porter advocated that enterprise should seek for opportunities from the external environment. He drew the conclusion that industrial attraction power was the chief and fundamental factor for the enterprise to increase its profit ability. Finally, he stressed that analysis of the industrial structure is the foundation of establishing the competition strategy. However, he can not explain why the various companies are different to each other? Why can some companies surpass their competitors and maintain competitive advantage? However more and more researches prove that competitive advantage of enterprise with cumulative abnormal return comes from some kind of special factor in the enterprise instead of external market power and the industrial reciprocity. Therefore, the fellows turn to focus
on the research within the enterprise, thus the resource-based view theory began to come into being and develop. Based on the resource-based view, this article attempts to inspect accounting firm's price competition behavior in our stock market, especially whether accounting firm can transform the resources superiority into the price competition superiority.
2. Literature review
The oversea and domestic scholars focus their accounting firm competitive strategy research on the following two types: price cutting and the reputation competitive strategies.
2.1. Price cutting competitive strategy
The oversea researches usually pay more attention to «low-balling» competition behavior. In the initial period of signing audit contract, the accounting firm charges the audit fee lower than the cost of continual audit or the audit cost itself. This is a kind of method to obtain the customer by price cutting which will impair the accounting firm's independence and audit quality. DeAngelo (1981) [1] is the first scholar who deeply researched «low-balling» competition behavior which exists universally in the audit market. Basing on the hypothesis that there exists contract cost between the accounting firm and the customer, she believed that there must be «startup cost» (for example learning cost) for the accounting firm in the initial period of accepting audit engagement and «transaction cost» when the client changed the accounting firm. Compared with its competitor, continuous audit accounting firm had more advantage in cost to gain «the quasi rents» when signing audit contract in the later period. That is to say, continuous auditor could use the technical superiority and the transaction cost superiority above to achieve future profit. Therefore, DeAngelo thought that «low-balling» competition behavior was caused by the transaction cost. Moreover, because of the contract cost between the accounting firm and the customer, «low-balling» competition behavior would exist in any kind of audit market. Sri-nivasan and Scott (2003) [2], who took the standard by dividing the accounting firms into two parts: «big six»
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and «non-big six» - and then divided the auditor changes into three types - «the upgrade change, the downgrade change and same level change». According to the audit charge information from 2000 to 2001, they studied the initial audit contract of 262 listed companies; the result demonstrated that a discount given mainly occured in the same level and the upgrade change (not the change from «non big six» to «big six»). After the elimination of price control in Florida, American 1993, Kevan and Jeff (2003) [3] researched the price competition and the audit quality trend in Florida audit market, using 1992-1998 years data. They found that the price competition resulted in the drop of audit fee and there was "low-balling" competition behavior in the audit market.
In our country, Wang Zhenlin (2002) [4] discovered that the audit fee was obviously lower than the average level in the accounting firm change year by using the China securities regulatory commission's internal investigation data. This indicated that audit firms were engaged in «low-balling» competition. Furthermore, with the market increasing competition, accounting firm developed and attracted customers by all kinds of means. Consequently, «low-balling» behavior became a universal phenomenon in our audit market. Liu Bin (2003) [5], Li Tiao (2005) [6] conducted the research separately to China A-share market's audit charge, and they have not discovered that the audit firms were engaged in «low-balling» competition. But Yang Yong Miao (2006)[7] researched on the data of A-share listed companies in Shenzhen from 2003-2004 year, he reached the conclusion that accounting firms were engaged in «low-balling» competition. Han Linghong (2006) [8] divided the CPA change into three kinds: the same level change, the upgrade change and the downgrade change. He researched on data of big 15 and non-big 15 accounting firms in A-share listed companies from 2002 to 2004 year, concluded that the small level change (not the change from big 15 to non-big 15) existed the discount phenomenon obviously.
The research on empirical literature obtained the conclusion that the prestige of large-scale accounting firm was obviously higher than the small firm. The audit charge of international «Big Six» was obviously higher than the small Accounting firm (Francis, 1984[11]; Firth, 1985[12]).
In our country, Wang Zhenlin (2002), Li Lian-jun (2004) [13], Qi Jiangna (2004) [14] and Li Tiao (2008) [15] discovered that domestic «Big Ten», international «Big Four» and domestic «Big Five» or domestic «Big Four» had gathered the audit charge premium and they had adopted the prestige strategy. They concluded that the scale size could affect the ability of accounting firm to obtain audit fee to a certain extent.
Differing from the above research, this article believes that the accounting firm's competition strategy is determined by resources accounting firm owns to a certain extent. The accounting firm size should be divided according to the resources accounting firm owns. Fang Qiao Ling (2005) [16] carried on the cluster analysis to the futures and securities qualified accounting firms, using the index of human resources, the quantity and quality of customer resources and capacity utilization of resources (Output level). Then she found out the «Big Nine» 1 accounting firms in our audit market. The classification approach of Fang Qiao Ling is similar to the definition of accounting firm resources in this article; therefore this article refers to Fang Qiao Ling's classification approach and the research results, and divides our stock market's accounting firm into two parts: «Big Nine» and «Non-Big Nine» to inspect the price competition strategies separately. And what needs to explain is that this article defines the behavior of charging initial audit fee lower than predecessor as the cutting price competition behavior. Considering that we can not obtain the audit cost exactly, it is unreasonable to define it as «low-balling» behavior.
2.2. Reputation competition strategy
Shapiro (1983)[9] believed that the reputation mechanism has the existence necessity under the situation of incomplete information market. When the consumer approved the product quality, then the prestige of seller had been established and the seller might gain the quality remuneration higher than the cost. Mayhew (2000) [10] testified the reputation theory of Shapiro. Namely, the market rewarded the high quality auditor promptly through the audit charge premium. This was the key to maintain prestige for the auditor.
1 Based on six indicators of the amount of annual securities auditors ,the amount of clients, the audit revenue of accounting firm, the client's total assets, the client's total equities, the revenue of main business of clients from 2001 to 2003, Fang Qiaoling used cluster analysis to draw a conclusion that there are the "big nine" firms in China audit market: Beijing Jingdu CPAs, Ernst & Young Huaming, KPMG, BDO China Shu Lun Pan CPAs, Ernst & Young Dhua, Price Waterhouse Coopers, Zhejiang Tianjian CPAs, Shenzhen Pengcheng CPAs, Deloitte.
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3. Theoretical analysis and research hypothesis
The enterprise resource-based view (RBV referred to Resource-Based View) was posed by Penrose firstly (Penrose, 1959). In his prior theory of business growth, he viewed enterprise as a collection of resources and believed that the seeking for the self-realization of unused resources in business and resource differences determined the enterprise's competitive advantage and growth. Wernerfelt (1984) developed this idea and explicitly put forward the concept of enterprise resource and thought that the firm's competitive advantage was rooted in corporate special resources (also known as heterogeneous resources) which could bring economic rent to the enterprise. [17]
Compared to those traditional theories, RBV includes two premises: (1) those resources owned by business are «heterogeneity»; (2) those resources are imperfect mobility among enterprises. Those resources, which can generate lasting competitive advantage, must have four attributes: valuable, rare, not entirely imitative and irreplaceable. Audit is a highly specialized activity. Accounting firm is an intermediary service institution, whose main resources include human capital and reputation and brand name (Yu Miao, 2002). On the whole, the accounting firm mainly relied on its human resources to pursue development in the early time, whose reputation was created by personal influence of the CPA individual. Reputation and brand name began to exist as a relatively independent resource when the firm grew up. Firm's brand name determines its ability to access customer resources continuously. The amount of customer resources owned by the accounting firm transfers a signal of its competitive strength to market. So accounting firm's human resources, brand name resources and the amount of customer resources which were determined by the former two types of resources are the key factors of competitive advantage. [18]
Due to the lack of effective demands for high-quality audit in China's audit market and the intense competition of audit supply, the audit market concentration degree is not high and there is the possibility of vicious price competition among accounting firms. However, since the resources and bargaining ability with customers of accounting firms are both different, the accounting firms with high-quality resources are more willing to adopt reputation competitive strategy in order to safeguard the audit quality and to gain high audit fees by virtue of their brand name and reputation. Accounting firms without high-quality resources are more inclined to adopt price-cutting competitive
strategy. Thus in this paper, we make some assumptions as follows:
Hypothesis 1: Compared to the «non-big nine» firms, the «big nine» firms are more inclined to adopt reputation competitive strategy in China audit market accounting firm.
Hypothesis 2: In China audit market, price competition strategy plays a driving role for accounting firms, and so the audit fees significantly are lower than the normal level when clients change the CPA firms.
4. Research Design
4.1. The sample and data sources
4.1.1. Sample selection
In order to ensure the significance and accuracy of research, we choose companies which make voluntary auditor change2 in the period from year 2004 to 2006 in China's A-share market as the research object. Because the character of voluntary auditor change is different from the character of change caused as the result of governmental regulation3 it will impair the accuracy of the research conclusion. This paper only analyzes the initial audit fees and therefore excludes IPO companies (these accounting firms had been engaged in their audit services before their clients enter the security market and therefore audit costs caused in the period do not conform to the definition of the initial audit costs in this study). Considering the listed companies in China implemented the new accounting standards in 2007, which may result in the incompa-rability of the accounting data, we select the data from year 2004 to 2006. Meanwhile, the sample selection is also subject to the following principles:
- Eliminating B-share companies and H-share companies. Considering the audit pricing character of B shares and H shares is different to A shares', we removed these B-share companies and H-share companies.
- Excluding financial enterprises. Considering the requirement of financial statement of the financial enterprise is different from other industries', which will cause the difference of the payment for CPA we excluded financial enterprises.
Voluntary auditor change usually refers that clients or accounting firms change their contract relationship voluntarily, (Li Shuang, Wu Xi, 2003).
3 Change caused as the result of governmental regulation refers that accounting firms subjected to administrative punishment have lost their capability of acceptance and completing the audit engagement basically or entirely and thus have to terminate the existing and executing contract relationship (Li Shuang, Wu Xi, 2003).
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- Eliminating those data incompletion companies or the companies which did not disclose audit fees.
Finally, we select the research data from 2969 listed companies. There were 998 samples of listed companies in 2004 among which 83 companies made voluntary auditor change; there were 1009 samples of listed companies in 2005 among which 114 companies changed accounting firms voluntary; there were 962 samples of listed companies in 2006 among which 133 companies changed accounting firms voluntary.
4.1.2. Data sources
Data used in this paper selected from the database provided by China Center for Economic Research (CCER), Peking University. To maintain the completeness of the data, we supplement some missing data through companies' financial statements provided by the cninfo website (http://www.cninfo.com.cn/) and the Shanghai Stock Exchange Web site (http://www.sse.com.cn/). In addition, some other data, including accounting firm's change information, come from the official website of the China Securities Regulatory Commission and the China Institute of Certified Public Accountants. The data processing and statistical analysis are mainly operated by EXCEL analysis tool and SPSS12.0 software.
4.2. Research Model and Research Method
Simunic (1980) conducted an initiative theoretical and empirical research on audit pricing.4 He developed an economic model to combine the audit pricing, marginal cost of product and the potential loss for the interrelated third-party together and drew a conclusion that influential factors of audit pricing comprise of enterprise's size, complexity of business and audit risk. Chinese scholars often conduct investigation into audit pricing in China audit market based on the above model and introduce some variables in line with the actual situation in China, such as company registration place and the major shareholders proportion. To test the existence of "low balling" activity, this paper develops a multiple regression model on the basis of the above model as follows by combining the actual situation of China audit market:
LnAF=P0+P:LnTA+P2Leverage+P3ROE+P4EPS+ +p5Opinion+p6Location+p7Auditor9 +p8Initial+s.
In the model above, the natural logarithm of total assets at the end of this year (LnTA) reflects the client's scale. Almost all studies at home and abroad
have found that the client's scale has a strong explanatory power on audit fees (the interpretation degree is 77 % in Simunic's model). That is, the larger the client's scale is, the more the audit fee is charged. There are some control variables to reflect the audit risk: the return on equity (ROE), earnings per share (EPS), asset to liability ratio (Leverage) and modified audit opinions (Opinion). ROE and Leverage are major indicators to reflect the operational risks that the clients faced with. It indicates that clients will be faced with the higher operational risk or financial risk and CPA need to perform more detailed audit procedures if ROE is too low or Leverage is too high. Similarly, CPAs need to put more efforts in gathering more evidences and thus charge more audit fee if CPAs issue modified audit opinion. Company registration Place (Location) reflects the clients' regional characteristics. Wang ZhenLin (2002), Zhang Qifeng (2006) and other scholars found that audit fee charge in China had the regional characteristics and listed companies in developed area paid more costs for audit. Based on prior researches and considering the impact caused by the difference of economic development level in different areas on audit fee, this paper uses the company registration place as dummy variable (1 = client registration place in Beijing, Shanghai, Guangdong; 0 = other place). To test the viewpoint, we use the type of accounting firms as dummy variable too (Audit9, that is 1 = the listed company choose the «big nine» firms as its auditor; 0 = other accounting firm).
The coefficient of LnTA is expected to be positive, because the larger client' s scale is and the more complex transactions are, the higher audit costs are required, the more audit fee is charged. Coefficient of ROE and EPS are expected to be negative, because the higher the ROE and EPS are, the lower operational risk which clients face is. The coefficient of Leverage is expected to be positive, because the higher the leverage is, the higher financial risk which clients face is. The coefficient of opinion is expected to be positive, because the firm's workload should be added if CPA issue modified audit opinion. The coefficient of location is expected to be positive, because clients in developed areas should pay more audit fee. The coefficient of Auditor9 is expected to be positive, because the «big nine» firms should charge more fees rather than «non-big nine». The coefficient of Initial is expected to be negative, because accounting firm may be engaged in price-cutting competitive strategy in the initial audit. Instructions and their expected coefficient are shown in table 1.
Simunic.1980.The Pricing of Audit Services:Theory and Evidence.Journal of Accounting Research,Vol. 18 No.1,Spring:161-190
Table 1
The variables and their coefficient in «low balling» model are defined__
The nature of variables The sign of variables The definition of variables Anticipated coefficient
Dependent Variable LnAF The natural logarithm of audit fees on Annual Financial Statement
Control variable LnTA The natural logarithm of total assets of client at end of the period +
Leverage Asset-liability ratio =(total liabilities/total assets) ><100 % +
ROE ROE = (net income/total assets) *100 % -
EPS EPS =net income at the end of period /total equity at the end of period -
Opinion Dummy variable, when auditor issued modified auditor opinion, Opinion=1, otherwise= 0 +
Location Dummy variable, when the client's registration place is Shenzhen, Shanghai, Guangzhou or Beijing, Location= 1, otherwise=0 +
Explanatory variable Auditor9 Dummy variable, if clients select the "big nine" firms, Auditor9 = 1, otherwise=0 +
Initial Dummy variable, if clients replace accounting firms, Initial=1, otherwise=0 -
5. Empirical Test
5.1. Descriptive statistics of data
Table 2 shows that the mean AF paid by 998 listed companies is 47,192 ten thousands yuan in 2004. While it was paid by listed companies which replaced accounting firms is 48,33 ten thousands yuan and is 1,138 ten thousands yuan somewhat higher than those that did not change accounting firms. However, the mean AF paid by listed companies which changed accounting firms 2005 and 2006 is lower than both those of whole sample companies and those of companies which did not change accounting firms. The difference mean AF amount in 2005 is 2,327 ten thousands yuan and 6,442 ten thousand yuan in 2006.
The analysis above shows that audit fees paid by listed companies which did not change accounting firms have the growing trend obviously from 2004 to 2006. Audit fees paid by listed companies which replaced accounting firms declined slightly in 2005 and even declined more obviously in 2006. However, for
those listed companies which did not change accounting firms, audit fees are higher than the whole sample to 0,178 ten thousands yuan in 2005 and to 0,891 ten thousands yuan in 2006.
5.2. Regression Results
Table 3 reports the regression results. In our model, the adjusted R2 coefficients are 0,372, 0,453 and 0,365 and the F are 74,774, 105,490 and 70,024 from 2004 to 2006 respectively which indicates that the explanatory power of our model is strong. Table 3 shows that the coefficients of LNTA are 0,296, 0,334 and 0,379 from 2004 to 2006 respectively. These coefficients are significant at 1 % level, positive and are consistent with the result what we had expected. This indicates that the scale of client's assets is a major factor for audit fee charging. In addition, in 2005 the coefficients of ROE, EPS and Location are 0,069, -0,028 and 0,060 respectively and are significant at 5 % level. In 2006, the coefficient of EPS is -0,40 and
Table 2
AF
LNAF
The price comparison between auditor change companies and non-auditor change companies
2004 (n = 998)
The whole sample group Mean (S.D)
47,192 (33,52)
12,934 (0,484)
The group of nonauditor change companies Mean (S.D)
47,089 (33,50)
12,932 (0,483)
The group of auditor
change companies Mean (S.D)
48,330 (33,8в)
12,952 (0,489)
2005 (n = 1009)
The whole sample group Mean (S.D)
48,733 (30,425)
12,963 (0,495)
The group of nonauditor change companies Mean (S.D)
48,911 (30,728)
12,966 (0,496)
The group of auditor
change companies Mean (S.D)
46,584 (27,460)
12,924 (0,489)
2006 (n = 962)
The whole sample group Mean (S.D)
55,027 (60,723)
13,030 (0,635)
The group of nonauditor change companies Mean (S.D)
55,918 (63,003)
13,044 (0,650)
The group of auditor
change companies Mean (S.D)
49,476 (43,695)
12,946 (0,521)
Note: AF (Audit Fee) stands for the amount of audit fees and unit is ten thousands yuan.
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Table 3
The regression results about audit fees (dependent variable: the natural logarithm of audit fees)
2004 2005 2006
Coefffici ents t P value coefficient s t P- value coefficient s t P- value
control variable
constant 6,524*** 21,537 ,000 5 854*** 20,754 ,000 5 059*** 13,363 ,000
LNTA ,296*** 19,293 ,000 ,334*** 23,149 ,000 379*** 19,704 ,000
Leverage ,107 1,324 ,186 ,037 ,496 ,620 -,107 -1,035 ,301
ROE ,090* 1,761 ,078 ,069** 2,783 ,005 ,21 1,266 ,206
EPS ,007 ,706 ,480 -,028* -2,733 ,006 - 40** -3,095 ,002
Opinion ,067 1,326 ,185 -,004 -,084 ,933 ,121 1,469 ,142
Location ,020 ,622 ,534 ,060** 1,999 ,046 132*** 3,186 ,001
explanatory variable
Big9 185 * * * 5,957 ,000 213*** 7,304 ,000 ,261*** 5,975 ,000
Initial ,008 ,189 ,850 -,039 -1,063 ,288 -,096** -2,022 ,043
AdjR2 ,372 0,453 ,365
F 74,774 105,490 70,024
Sig(prog>F) 0,000 0,000 0,000
Note: *** are significant at 1% level, ** are significant at 5 % level, * are significant at 10 % level.
is significant at 5 % level; the coefficient of Location is 0.132 and is significant at 1 % level.
The coefficients to explain variable Big Nine are 0,185, 0,213 and 0,261 from 2004 to 2006 respectively. These coefficients are significant at 1 % level and are positive. Thus indicates that the audit fees which the «big nine» firms charged are more than others' obviously, as it is showed in the empirical result which supports the H1. That is to say, the «big nine» firms, compared with «non-big nine», adopted reputation competitive strategy and obtained audit fee premium.
The coefficients of Initial are -0,039 and -0,096 from 2005 to 2006 respectively. This indicates that audit fees in the first period after clients changed accounting firms show declining trend. The coefficient of Initial is not significant (P = 0,288) in 2005 statistically and is significant at 5 % level in 2006. This indicates that the successor accounting firm adopted price-cutting competitive strategy in 2006. The empirical result proves the H2. That is, there are price-cutting competitive activities in China audit market.
6.Conclusion and suggestion
6.1. Research conclusion
This article inspects the price competition strategy of accounting firm in the security audit market, based on the stock market data from 2004 to 2006. We conclude that accounting firms are engaged in the reputation competition strategy. Accounting firm relies on the prestige to obtain continuous audit charge premium. They transform the resources superiority into the price competition superiority and obtain extra profit compared to the competitors. While in Chinese
audit market, the successor accounting firms usually adopt price-cutting competition strategy to obtain the audit market share in lower price than that of the prior competitors'.
6.2. Suggestions
From what we have discussed above, we can reach a conclusion that the accounting firm's resources determine the type of price competition strategy. Therefore, the accounting firm should focus on cultivating the core resources and transforming the resources superiority into the competitive advantage. The specific recommendations are as follows:
(1) Firstly, the accounting firm should regard the human resources as the core resources, make great effort to build up the accounting firm culture, absorb the external talent, and design reasonable performance evaluation and income distribution system. Moreover, the firm should pay more attention to incentive excellent staffs, for example, promote them to be the partner or absorb them into the management. As for the ordinary staff, it is better to use short-term incentive policy, but the incentive measures should be multiplied and also should provide them more learning and training opportunities to enhance their potential professional capabilities.
(2) Secondly, the Accounting firm should set up the quality and brand consciousness, give priority to audit quality and also should keep in mind firmly that quality is the basis for brand construction. Furthermore, the accounting firm must consist on audit quality to survive and maintain their reputation to develop.
(3) Finally, the accounting firm should cultivate the industrial specialized audit knowledge and tech-
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nology; strengthen the heterogeneity of human resources. Industrial specialized technology can help the accounting firm implement products difference strategy. The economic significance of products difference strategy is to manufacture scarceness. That is to say, the accounting firm may find out the differentiated demand by deeply mining the audit market, innovate the audit service to match the diversified demands in the supply-demand balanced market structure or over-supply market structure, and provide the scarce product to create short supply in some particular market. Only by these means can the accounting firm develop its own competitive advantage to obtain premium or excess profit.
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