Would It Help to Rotate the Auditors?

Critics of auditors say they go easy on clients that are providing big paychecks. So would it help if companies were made to periodically rotate the audit firm they used? The audit firms say rotation would be expensive and disruptive, and would not necessarily improve audit quality. Research focusing on the question for firms in the United States confirms it would be expensive.

Company audit committees choose their auditor every year, but the data reveal a strong tendency to rehire the previous year’s auditor. In 2008–10, two of the most disruptive in recent years due to the financial crisis, the probability of renewing an existing auditor relationship was about 95%, note Professors Joseph Gerakos and Chad Syverson, who say that rate is similar in other years.

India recently instituted a mandatory auditor rotation law, and countries such as Brazil, Turkey, Italy, Belgium, and the Netherlands have similar laws on the books. Mandatory audit-firm rotation was seriously contemplated by regulators and lawmakers in the US after Enron’s failure. The 2002 Sarbanes-Oxley Act stopped short of requiring that and instead prohibited some consulting services for audit clients. It also required audit firms to rotate the lead audit partner and quality assurance partner on each engagement every five years.

There have since been renewed calls for mandatory auditor rotation in the US, the UK, and the European Union. The Public Company Accountability and Oversight Board, the US industry regulator, issued a concept release on full audit firm rotation for discussion and public comment in 2011. In July 2013, however, the US House of Representatives passed the Audit Integrity and Job Protection Act, which prohibits the PCAOB from issuing any regulations that mandate audit-firm rotation.

UK regulators have opted for a periodic tendering mandate instead of mandatory rotation. UK reforms require companies to solicit bids for audit services every five years, although there’s no requirement to switch audit firms.