EU seals agreement on audit sector shake-up

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Proposals forcing companies to change accountants every ten years were agreed yesterday (17 December) as part of a wider EU package to reform the audit sector.

The move to reform book-keeping practices came three years after auditors were widely criticised for giving banks a clean bill of health just before they needed taxpayer bailouts in the financial crisis.

The changes seek to stop auditors becoming too cosy with clients, make them challenge what they are told and inject more competition into the market.

“This is a first step towards increasing audit quality and re-establishing investor confidence in financial information, an essential ingredient for investment and economic growth in Europe,” said Internal Markets Commissioner Michel Barnier, greeting the news.

Long debate over rotation

In one of the most strongly contested provisions, listed companies will be required to rotate after an engagement period of 10 years. This term can be extended by a further 10 years following a tender, and by up to 14 years where companies are audited by more than one firm.

Auditors will be strictly prohibited from providing non-audit services to their audit clients, including limits on tax advice and advice on the financial and investment strategy of their clients, in an attempt to ensure their relationship remains at arm’s length.

The reform also bans clauses in bank loans to companies that stipulate their accounts must be audited by one of the so-called "Big Four" (Deloitte, PwC, Ernst & Young and KPMG). Auditors would also have to give an overall assurance over the accuracy of company accounts.

The European Parliament’s legal affairs committee originally wanted to allow companies to keep the same accountant for up to 25 years, significantly diluting the Commission’s original proposals calling for a switch every six years.

The six-year proposal ran into a barrage of criticism from companies and investors claiming that such a provision would cost companies in time and manpower involved in the re-tendering process.

Coordination of supervision of auditors at EU level

“Despite the extension of the rotation period, this principle will have a major impact in reducing excessive familiarity between the auditors and their clients and in enhancing professional scepticism,” said Internal Markets Commissioner Michel Barnier.

The new rules will also cap at 70% of total billing the fees firms are permitted to generate for non-audit services.

Cooperation between national supervisors will be enhanced at EU level, with a specific role devoted to the European Markets and Securities Authority (ESMA) with regard to international cooperation on audit oversight.

The political agreement still requires some technical finalisation and formal approval by the co-legislators.

“ACCA  congratulates the European Parliament, the Lithuanian Presidency and the European Commission  for the preliminary  agreement  reached this morning on the reform of the audit framework , after months of tough negotiations,” said Sue Almond, the technical director at the Association of Chartered Certified Accountants (ACCA).

“In particular, we have moved substantially closer to the adoption of a single set of international standards – whether for financial reporting, audit or ethics – which is critical for businesses  operating in a global environment,” said Almond, adding: “The challenge for the audit profession will be  to implement these changes in a way that helps restore public confidence in the audit, and in auditors. Audit plays a critical role in supporting global business and it is important that we do not overlook its value.

 “We are pleased that the decision makers have managed to come to an agreement, as there is now hope for all the required follow-up work to be completed before, rather than be stalled by, the EU elections next year,” said Michael Izza, the chief executive of the Institute of Chartered Accountants of England and Wales (ICAEW).

“It is important not to underestimate the considerable practical impact the reform package will have - not only on the auditing profession but also on companies across the European Union. It will take time for everybody involved – the profession, businesses, regulators – to work through the details and get to grips with all the changes,” said Izza.

"This week's trilogue on the audit reform package has been truly encouraging with constructive efforts from all sides to find a way forward,” said British Conservative MEP Sajjad Karim – the rapporteur on the paper for the legal affairs committee in the Parliament.

"The key objective of the European Parliament to improve audit quality and audit reporting was secured in the proposed package and the strong involvement of the audit committee throughout the process, in particular for non-audit services was guaranteed. On the controversial issue of rotation a 20-year timespan was agreed, which is a workable compromise and a considerable improvement on the Commission's original proposal. The European Parliament is optimistic that the proposal can be approved by a majority of Member States and MEPs, considering it is a balanced compromise that will go a long way towards restoring confidence in the audit market,” Karim concluded.

The European Commission tabled a draft regulation in November 2011, requiring that audit firms rotate their work regularly and spin off consultancy work, measures that would favour smaller audit outfits.

>> Read: Commission braced for battle with big audit firms

The European Union adopted a directive in 2006 which aimed to restore confidence in capital markets by strengthening the quality and independence of auditing of company accounts.

The directive came in the aftermath of international accounting scandals involving US firm Enron and which brought to collapse one of the top global auditing firms, Arthur Andersen.

In 2008, Brussels reviewed for the first time the auditing directive. But immediately after the entry into force of the new rules, and on the wake of the US subprime crisis, the Commission started a new review of the sector which ended up in December 2010 with the collection of responses to a wide public consultation aimed at changing again the key piece of EU legislation on auditing.

  • Jan. 2014: formal agreement to the proposed audit rule changes expected

European Commission

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