On the complex issue of mandatory auditor rotation, a journal of the gravitas normally expected of London’s Financial Times owes better treatment than its September 6 Lex column, which casually endorses maximum engagement terms of no more than five years.
The debate on whether rotation should be mandated has been over-discussed for thirty years – all as thoroughly reviewed in the August 16 release of the Public Company Accounting Oversight Board.
On the merits, as I have long said (here and here), the case is not made. There is not so much as a study, nor yet an evidence-based showing, that length of auditor tenure is at all coincidentally related to issues of audit quality – even less that there is any causal relationship between the two.
The assertion by Lex that a new pricing equilibrium based on the consequences of mandatory rotation would be “to the benefit of the entire financial system” fails to consider that any such new balance would include further diminishment in the opinion’s value and the profession’s esteem, going even beyond that already well-recognized by the regulators themselves (my take on the PCAOB’s concept release of June 21 on possible revision of the standard – and obsolete -- auditor’s report is here).
More importantly, the prior threshold question -- blithely ignored and never examined by Lex -- is whether auditor rotation can be mandated.
That’s because at least two separate and distinct reasons compel the conclusion that mandatory limits on auditor tenure cannot be achieved for large global companies.
The first is the absence of regulatory authority to address the multi-nationality of the audits of virtually all large global enterprises. No country-level audit regulator – whether the UK’s Financial Reporting Council, the PCAOB in the US or otherwise – is in a position to compel rotation for the assurance required outside its own borders – assurance that is legitimate and desired in those foreign jurisdictions, and in many cases required by statute, in geographies far beyond the reach of their remits.
Instead, there is ample evidence of the impotence of cross-border regulators:
- Since Sir David Tweedie left office as chair of the International Accounting Standards Board, the always-doubtful prospect of a single set of globally-accepted accounting standards has become only steadily dimmer – as nowhere better dissected than in Tom Selling’s Accounting Onion – e.g., here.
- Despite the recent surge in financial alarms among US-listed companies located in China, the PCAOB has been completely snookered in its attempted access and inspection efforts there – its personnel’s spring-break trip to that country having returned with no more progress than a reciprocal invitation for a Chinese junket to Washington.
- And although the PCAOB has known since non-US audit firms first began registering as required by Sarbanes/Oxley that foreign secrecy laws would be barriers to their production of documents beyond those borders, the SEC has just commenced subpoena-enforcement proceedings in the American courts against Deloitte’s Shanghai firm for its unwillingness to produce papers relating to its now-resigned engagement for Longtop Financial Technologies Limited (See Francine McKenna on September 9 at Forbes.com).
So – while there is no hope for agreement among the various regulators -- the second bar to the achievability of mandatory rotation is the assurance model’s self-inflicted inability to make successor choices available.
As the record in the UK itself would show to Lex, it has been known for years, as put by the Oxera report to the Financial Reporting Council in April 2006, that a number of large UK companies “have no effective choice of auditor in the short run.” Concentration having only increased in the last five years, this single-country example is even more acute globally, as I have expanded here.
The breezy insouciance with which Lex ignores the unsolvable issues of over-riding importance does a disrespectful disservice to the gravity of the topic. It is one thing to have minimal expectations of regulators or politicians – the likes of Mr. Doty or EU Commissioner Barnier – who are unrestrained in their follies by the limits of the realistic. It inheres in their DNA, rather, to play to the illusion that progress takes the form of lofty if fantastic pronouncements.
But those in positions of editorial authority, with the opportunity to shape the direction of serious debate, are chargeable with the obligation at least to acknowledge the scope of the full picture.
The cavalier Lex endorsement of auditor engagements no longer than five years adds no substance to the discussion, but only prolongs a noise level that should have been damped long ago.
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