March 10, 2014

How Dead Is Mandatory Auditor Rotation? EU’s Mandatory Requirement’s Impact on Multinationals

Recently, a member asked how the EU’s mandatory auditor rotation might impact multinational companies based in the US (note that mandatory rotation appears dead (for now as noted in the item below) for US companies that operate only domestically). The EU rules have not yet been finalized – but here’s how they might impact multinationals:

The rotation requirement is limited to statutory audits of “public interest entities” (PIEs) in the EU. That could include some EU operations of US multinationals, with the biggest effect likely in financial services, because of the way PIE is defined, which is to include:

– EU companies listed on EU regulated markets (but not US companies just because they’re dual listed)
– Credit institutions (banks) and insurance undertakings (whether or not listed)
– Other entities that an individual EU Member State may choose to designate as a PIE (scope not yet known)

For example, a US company’s EU subsidiaries that have debt or equity listed on an EU exchange might have to change their statutory auditor, and so might a US company’s EU licensed banking or insurance entities. But it will vary by industry and company whether the requirement to rotate those statutory auditors will drive rotation of the auditor of the US consolidated entity.

The rotation interval is 10 years, but Member States may allow for an extension of up to 20 years if the company tenders the audit after the first term – or up to 24 years under a joint audit system (currently only required in France). And there are some transition periods. The EU is expected to finalize this in April.

The bottom line for US multinationals? I think that the EU’s mandatory requirement will come into play only if a large portion of their consolidated operations are in the EU. Some multinationals are already rotating statutory auditors in other countries that require rotation (eg. Brazil) without any effect on the consolidated audit. As for the EU’s phase-in, note that no company would need to rotate before 2020. Thanks to Bob Lamm for his help on this one!

This GAO report notes that Uncle Sam has material weaknesses in internal controls…

Mandatory Audit Firm Rotation is Dead in the US (For Now)

Here’s a note from former PCAOB Board Member Dan Goelzer, who is now at Baker & McKenzie:

On February 6, PCAOB Chairman James Doty told the SEC that the Board was no longer pursuing the idea of requiring mandatory audit firm rotation. Chairman Doty made his comments at a public meeting of the SEC at which the Commission considered and approved the PCAOB’s $258 million 2014 budget. In response to Commissioner questioning, he stated: “We don’t have an active project or work going on within the Board to move forward on a term limit for auditors.” He added that the Board was continuing to look at other ways of strengthening auditor independence and skepticism.

As described in the July 2013 Update, the PCAOB originally floated the possibility of requiring public companies to periodically change auditors (e.g., every 10 years) in a 2011 concept release. The idea attracted strong opposition, particularly from audit committees and public companies, and, in July 2013, the House of Representatives passed a bill that would have precluded the PCAOB from requiring rotation.

Comment: Mandatory rotation may not be completely dead. Chairman Doty appears to remain personally committed to the idea, and, in the event of a major U.S. audit failure, he might seek to revive it. Moreover, as discussed in the January 2014 Update, Europe is moving forward with a mandatory 10-year rotation requirement. U.S. policy-makers will likely closely follow the perceived success or failure of that initiative.

Webcast: “The Top Compensation Consultants Speak”

Tune in tomorrow for the webcast – “The Top Compensation Consultants Speak” – to hear Mike Kesner of Deloitte Consulting, Blair Jones of Semler Brossy and Ira Kay of Pay Governance “tell it like it is. . . and like it should be.”

– Broc Romanek