Financial Constraints, Auditing, and External Financing

This paper investigates whether financially constrained firms use costly audit signals to facilitate their access to external financing. We document that when facing higher financial constraints, firms pay higher audit fees and have their audit opinion reports completed sooner. The higher audit fees observed in this case do not seem to be driven by greater reporting risk of financially constrained firms because these firms are associated with lower restatement likelihood and fraud risk. We then test whether paying higher audit fees and having shorter audit lags enable financially constrained firms raise more financing in the equity and debt markets. We find that costlier and timelier audits facilitate equity-seeking constrained, but not debt-seeking constrained, firms’ access to financing. Our findings suggest that while financially constrained firms feel pressure to make cuts across various expenditure categories, negotiating lower audit fees in the face of higher financial constraints may not be a wise strategy.