In a letter to the U.K.
Competition Commission on its audit
tendering proposal, the European Commission took the opportunity to reaffirm
its strong commitment to audit firm rotation as the best way to bring diversity
to the highly concentrated outside audit of financial statements market. While
noting that the Competition Commission proposed mandatory tendering on a
five-year basis, the European Commission said that it was addressing a wider
range of issues involving enhancing auditor independence and improving audit
quality.
In this regard, the
Commission views mandatory audit firm rotation as an essential step for
ensuring independence and professional skepticism. Audit firm rotation is
needed to ensure a ``fresh pair of eyes’’ and avoid the relationship between
management and auditors becoming too close. There is a real risk that incumbent
auditors would be unwilling to challenge their own past judgments where such an
act would be likely to either inflict reputational damage or where restatements
might result in potential legal liabilities. When an audit firm knows that it
will be replaced, reasoned the Commission, it will be incentivized to maintain
skepticism in its judgments since the incoming auditors will be reviewing those
judgments in detail.