Most models of auditing in the accounting literature may be classified as agency models or signaling models.' The emphasis in an agency model is on a single firm; the auditor is typically modeled as a utility-maximizing player who is hired by a firm's owner to better control a manager as well as to improve their risk-sharing arrangement. A signaling model, on the other hand, includes a larger set of players, and it focuses on the interrelationships among the various players in a market setting. The auditor is usually modeled as a mechanistic monitor; the output (report) of an auditor, and/or the act of hiring an auditor, is used by an informed party (e.g., an owner) to signal its private information (e.g., the firm's risk characteristics) to an uninformed party (e.g., an investor). In this paper we incorporate a utility-maximizing auditor, as found in agency models, into a simple signaling setting composed of firms of unobservable risk types requiring loans, lenders of capital to the firms, auditors, and a court system. We consider how litigation against auditors affects the prevailing equilibria as well as the resulting welfare of the different participants when the endogenously determined interest rates