Auditors’ Response to Controlling Shareholders’ Share Pledging: Evidence from Audit Opinions and Audit Fees

SUMMARY Share pledging is an important source of financing for shareholders in China. We investigate whether auditors respond differently in terms of audit reporting and pricing when client firms’ controlling shareholders pledge their shares to support their firms’ financing (business-pledging firms) or to increase their personal wealth (individual-pledging firms). Based on data from listed nonstate-owned Chinese firms, we find that auditors are less likely to issue modified audit opinions and more likely to charge lower audit fees to business-pledging firms than to individual-pledging firms. Additional evidence indicates that business-pledging firms have better financial reporting quality than individual-pledging firms. Taken together, our results suggest that auditors’ assessments of clients’ business and audit risks are associated with the objectives of controlling shareholders’ share pledging, which has significant policy implications for capital market participants. Data Availability: Data are available from the public sources cited in the text and from the corresponding author upon request. JEL Classifications: M42; O16.