Journal of Business Ethics

, Volume 121, Issue 3, pp 441–449 | Cite as

An Economic Analysis on Overbilling Incentives and Auditing Programs

  • Chris KuoEmail author


An institutional auditing program typically consists of the following steps: a sample audit, the decision to move to the full audit, a settlement offer, and the full audit. Statistical sampling techniques are often used to estimate the overbilling percentage and amount. This paper discusses the optimal settlement offer, the net recovery through auditing, the condition for the auditors to move to the full audit, and how an auditing program can be truly cost-effective. This paper provides an evaluation for the statistical sampling techniques to an auditing program. The economic incentives of a contractor to overbill are also identified. Finally, it presents the key metrics and the managerial implications for auditing managers to design or enhance their auditing programs.


Asymmetric information Auditing Statistical sampling Settlement 


  1. Andreoni, J., Erard, B., & Feinstein, J. (1998). Tax compliance. Journal of Economic Literature, 36, 818–860.Google Scholar
  2. Bebchuk, L. (1984). Litigation and settlement under imperfect information. RAND Journal of Economics, 15, 404–415.CrossRefGoogle Scholar
  3. Bebchuk, L. (1996). A new theory concerning the credibility and success of threats to sue. Journal of Legal Studies, 25, 1–25.CrossRefGoogle Scholar
  4. Cooter, R. D., & Rubinfield, D. L. (1998). Economic analysis of legal disputes and their resolution. Journal of Economic Literature, 27, 1067–1097.Google Scholar
  5. Darby, M. R., & Karni, E. (1973). Free competition and the optimal amount of fraud. Journal of Law and Economics, 16(1), 67–88.CrossRefGoogle Scholar
  6. Daughety, A. F. (2000). Settlement. In B. Bouckaert & G. De Geest (Eds.), Encyclopedia of law and economics. London: Edward Elgar.Google Scholar
  7. Dulleck, U., & Kerschbamer, R. (2006). On doctors, mechanics, and computer specialists: The economics of credence goods. Journal of Economic Literature, 44, 5–42.CrossRefGoogle Scholar
  8. Emons, W. (1997). Credence goods and fraudulent experts. RAND Journal of Economics, 28(1), 107–119.CrossRefGoogle Scholar
  9. Franzoni, L. A. (1999). Negotiated enforcement and credible deterrence. Economic Journal, 109(458), 509–535.CrossRefGoogle Scholar
  10. Franzoni, L. A. (2004). Discretion in tax enforcement. Economica, 71, 369–389.CrossRefGoogle Scholar
  11. Franzoni, L. A. (2008). Tax compliance. In B. Bouckaert & G. De Geest (Eds.), Encyclopedia of law and economics. London: Edward Elgar.Google Scholar
  12. Hay, B., & Spier, K. (1998). Litigation and settlement. In P. Newman (Ed.), The new Palgrave dictionary of economics and the law. London: MacMillan.Google Scholar
  13. Kennan, J., & Wilson, R. (1991). Bargaining with private information. Journal of Economics Literature, 31, 381–399.Google Scholar
  14. Kritzer, H. (1991). The justice broker: Lawyers and ordinary litigation. New York: Oxford University Press.Google Scholar
  15. Lerman, L. G. (1990). Lying to clients. University of Pennsylvania Law Review, 138, 659–760.CrossRefGoogle Scholar
  16. Lohr, S. (1999). Sampling design and analysis. Pacific Grove, CA: Duxbury Press.Google Scholar
  17. Macho-Stadler, I., & Péres-Castrillo, J. D. (2004). Settlement in tax evasion prosecution. Economica, 71, 349–368.CrossRefGoogle Scholar
  18. McCluskey, J. J. (2000). A game theoretic approach to organic foods: An analysis of asymmetric information and policy. Agricultural and Resource Economics Review, 29, 1–9.Google Scholar
  19. Pitchik, C., & Schotter A. (1987). Honesty in a model of strategic information transmission. American Economic Review, 77, 1032–1036.Google Scholar
  20. Polinsky, A. M., & Shavell, S. (2007). The theory of public enforcement of law. In A. M. Polinsky & S. Shavell (Eds.), Handbook of law and economics. Amsterdam: Elsevier, North-Holland.Google Scholar
  21. Reinganum, J. F., & Daughety, A. F. (1994). Settlement negotiations with two-sided asymmetric information: Model duality, information distribution and efficiency. International Review of Law and Economics, 14, 283–298.CrossRefGoogle Scholar
  22. Richmond, D. R. (2008). For a few dollars more: The perplexing problems of unethical billing practices by lawyers. S.C.L. Review, 63–70.Google Scholar
  23. Schweizer, U. (1989). Litigation and settlement under two sided incomplete information. Review of Economic Studies, 56, 163–177.CrossRefGoogle Scholar
  24. Spier, K. E. (1992). The dynamics of pretrial negotiation. Review of Economic Studies, 59, 93–108.CrossRefGoogle Scholar
  25. Wolinsky, A. (1993). Competition in a market for informed experts’ services. RAND Journal of Economics, 24, 380–398.CrossRefGoogle Scholar

Copyright information

© Springer Science+Business Media Dordrecht 2013

Authors and Affiliations

  1. 1.Liberty Mutual Insurance CompanyBostonUSA

Personalised recommendations