Managerial learning from stock prices: some evidence from the audit-related services

Following the Sarbanes-Oxley Act, the SEC banned auditors from performing non-audit services that result in a direct conflict of interest while allowing them to provide tax and audit-related services (ARS). By reducing the concern on auditor independence, the mitigation of the conflict of interest allows us to focus on whether the ARS is informative about managers and their decisions. Specifically, we show that ARS improves the investment-Q sensitivity, consistent with managers placing greater weight on stock prices in learning about firm prospects. We further find that the relationship between ARS and investment-Q sensitivity is stronger when firms? internal information quality is poorer. This result follows from the argument that high ARS signals low internal information quality, forcing managers to substitute the information in market prices for
internal information. We also show that the ARS-investment-Q sensitivity is weaker in firms audited by industry-specialist auditors and Big 4 audit firms, consistent with the knowledge spillover effect.