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Apr 07

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EU Requires 10-Year Auditor Rotation Amid Other Efforts to Improve Audit Quality

The European Parliament has adopted new rules regarding the statutory audit of public-interest entities in an effort to

considerably improve audit quality across the European Union and … ensure that auditors are key contributors to economic and financial stability….by strengthening of the independence of statutory auditors, making the audit report more informative, and improving audit supervision throughout the Union”.

The new requirements will attempt to “reduce risks of excessive familiarity between statutory auditors and their clients, encourage fresh thinking, and limit conflicts of interest”.  Key measures include:

I. A clarified societal role for statutory auditors

1. Increased audit quality: In order to reduce the ‘expectation gap’ between what is expected from statutory auditors and what they are bound to deliver, the new rules will require that audit reports be more detailed and informative, and include meaningful data for investors.

2. Enhanced transparency: Strict transparency requirements will be introduced for statutory auditors with stronger reporting obligations vis-à-vis supervisors.

3. Better accountability: The work of auditors will be closely supervised by strengthened audit committees within audited entities. In addition, the new rules will introduce the possibility for 5% of the shareholders of a company to initiate actions to dismiss the auditors. An improved set of administrative sanctions that can be applied by the competent authorities is also foreseen.

II. A strong independence regime

1. Mandatory rotation of audit firms of public-interest entities (PIEs): Public-interest entities will be required to change their statutory auditors after a maximum engagement period of 10 years. Member States can choose to extend the 10-year period up to 10 additional years if tenders are carried out, and by up to 14 additional years in case of joint audit, i.e. if the audited company appoints more than one audit firm to carry out its audit. Calibrated transitional periods taking into account the duration of the audit engagement are also foreseen to avoid a cliff effect once the new rules apply.

2. Prohibition of certain non-audit services to audited PIEs: Audit firms will be prohibited from providing certain non-audit services to the PIEs they audit, including tax advice and services linked to the financial and investment strategy of the audit client. The aim is to limit risk of conflicts of interest, when statutory auditors are involved in the making of decisions impacting the management of the PIEs they audit. This will also substantially limit the likelihood that statutory auditors « self-review » their recommendations to the PIEs they audit.

3. Cap on the provision of non-audit services to PIEs: To enhance the independence of statutory auditors, the new rules will establish a cap on the fees generated for non-audit services to PIEs.

III. A more dynamic and better supervised EU audit market

1. A Single Market for statutory audit: The new rules will provide a level-playing field for statutory auditors at EU level through enhanced cross-border mobility and the Commission’s empowerment to adopt International Standards on Auditing (ISAs) at EU level.

2. More choice: In order to promote market diversity, the new rules prohibit restrictive ‘Big Four only’ clauses. Incentives for joint audit and tendering, as well as the prohibition of certain non-audit services to audited PIEs are among some of the measures that will contribute to providing new market opportunities. Tools to monitor the concentration of the audit market are also reinforced.

3. Enhanced supervision of the audit sector: Cooperation between national audit oversight bodies will be strengthened at EU level through the establishment of the Committee of European Auditing Oversight Bodies (CEAOB). A specific role will also be conferred on the European Securities and Markets Authority (ESMA) with regard to the cooperation between Member States and third countries on audit oversight.”

 

About the author

Renee Howdeshell

Renee Howdeshell is a founding member of Fulcrum Inquiry, an accounting, finance and economic consulting firm that performs damage analyses for commercial litigation, forensic accountings, royalty & distribution audits, financial investigations, and business valuations. Ms. Howdeshell holds a degree in Finance and Marketing from the University of Virginia's McIntire School of Commerce and is a Certified Public Accountant (CPA) and a Certified Fraud Examiner (CFE). She has testified as an expert witness in federal court, CA state court and arbitration regarding the results of her work. She can be reached at (213) 787-4112 and her resume is available at www.fulcrum.com.

Permanent link to this article: http://betweenthenumbers.net/2014/04/eu-requires-10-year-auditor-rotation-and-other-efforts-to-improve-audit-quality/

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