Using the setting of hedge funds, we document two important merits of external audits. We find that incentive fee rates (i.e., performance-based compensation to fund managers) are higher for audited funds than for unaudited funds. In contrast, management fee rates (i.e., fund-size-based compensation to fund managers) do not differ depending on audit status. We also find some evidence that audited funds attract more capital inflows from investors than unaudited funds do after funds report high performance. Our findings indicate that hedge fund investors appreciate the value of external audits.
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We appreciate the helpful comments from two anonymous reviewers and Gopal V. Krishnan (editor). We thank Hyejin Ahn, Ahrum Choi, Sunhwa Choi, Simon Fung, Wonsuk Ha, Yujin Lee, Yinghua Li, Bing Liang, Tae-Young Paik, Catherine Hyejung Sonu, Nancy Su, Luo Zuo, and other workshop/ conference participants at Donga University, Seoul National University, Sungkyunkwan University, The Hong Kong Polytechnic University, the 2015 Korean Accounting Association Winter Conference, the 2016 FARS Midyear Meeting, and the 2016 MIT Asia Conference in Accounting for other helpful comments. Jong-Hag Choi and Woo-Jong Lee gratefully acknowledge the financial support provided by the Institute for Management Research at Seoul National University.
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- Fund capital flows
- Hedge funds
- Incentive and management fees
- Voluntary audit