Knowledge Transfer in Audit Firms

Audit firms are knowledge-intensive organizations, and they can derive competitive advantage by transferring knowledge internally. We utilize the setting of the rapid audit market consolidation in China over the past twenty years to study knowledge transfer in audit firms. We employ a difference-in-difference approach and examine whether industry-specific knowledge transfers from the more competent to the less competent units after the merger. For clients in an industry audited by both merging audit firms, those audited by the less competent audit firm in that industry belong to the treatment group, while all other clients belong to the control group. Consistent with the existence of knowledge transfer, we find an economically significant improvement in audit quality (as reflected in a reduction in misstatements and an increase in modified audit opinions) for the treatment group relative to the control group in the same merged audit firm