This article was first published in the October 2016 international edition of Accounting and Business magazine.

Small and medium-sized practitioners (SMPs) could be driven out of Europe’s audit market by new EU audit rules that came into force on 17 June. That was the message for a recent joint European Confederation of Directors’ Associations (ecoDa)/PwC conference. 

The Brussels meeting examined the impact of EU directive 2014/56 on statutory audit, and on the audit committees at the heart of the reform. The law, which came into force in June, is designed to prevent conflicts of interest between auditors and their clients. Its goal is to stop the development of overly cosy relationships whereby audit firms overlook discrepancies in order to keep hold of lucrative contracts. 


The directive covers all statutory audits, with a complementary EU regulation (537/2014) setting specific requirements for auditing public interest entities (PIEs) – listed companies, credit institutions, insurance companies and large organisations and businesses. The regulation requires PIEs to change audit firm after 10 years at most, and for auditors themselves not to rely too much on a single client for their revenues. 

This legislation makes it difficult for a single client to contribute more than 15% of an audit firm’s income in any three-year period, although there is no firm prohibition against this.

The unintended consequence, however, is that small firms could be squeezed out of the market. And this is something of an irony, given the reforms are meant to open up the audit of blue-chip companies beyond the traditional dominance of the Big Four accountancy firms – PwC, Deloitte, EY and KPMG. Many conference speakers forecast that the audit reform directive would be more likely to concentrate auditing work in the hands of these big players. 

Accounting and Business asked a panel of experts at the conference about this problem. Karin Bing Orgland, independent board member for numerous companies such as Norway’s Grieg Seafood and DNB Bank, said: ‘I think that might be an effect.’ 

Others agreed that audit contracts could increasingly just rotate around the Big Four, although one speaker from the floor rejected this scenario as ‘ridiculous’, adding: ‘Clearly there is a competition outside the Four, and size doesn’t equal quality.’

Not a ban

Alain Deckers, head of audit and credit rating agencies at the European Commission, stressed that the 15% fee threshold did not stop an audit firm working for a client. It merely triggered a procedure whereby the client’s audit committee has to discuss the matter with the auditor and consider whether there should be an engagement quality review by another audit firm before the audit report was issued, and whether the auditor can continue. ‘It’s not a ban as such,’ he insisted.

Gilly Lord, partner and head of regulatory affairs at PwC, argued for competition. ‘It would be a better-functioning market if there were more firms,’ she said. Lord had heard there was a reluctance to go outside the Big Four, but said that a ‘helpful element’ came in article 16 of the directive, which bars audit committees from excluding firms outside the Big Four when inviting tenders. 

Nevertheless, one participant said he spoke to a lot of audit committee chairs of FTSE 350 companies who reported asking for tenders from non-Big Four companies but found ‘they’re not interested’. In response, another attendee suggested: ‘You might need the largest audit firms to deal with the largest PIEs.’

Some panel members downplayed the emphasis in the legislation on the independence of audit committee members. For example, Inge Boets, who sits on several audit committees and is a non-executive director of financial services company Euroclear, said: ‘It’s an important condition, but not the key condition – you wouldn’t overly focus on independence.’ 

For Boets, independence ‘is a state of mind’. Far more important is that ‘there is a certain dynamic within the group’. But she agreed that an audit committee needed to have diversity in experience and that complementarities between members was ‘the key condition for that committee to be successful’.

Article 27

In his opening address Daniel Lebègue, chair of an ecoDa/PwC working group on the audit reform, said there were concerns, especially in France, about the regulation’s article 27, which requires national competition authorities to monitor developments in the market for providing statutory audit services to PIEs, particularly the performance of audit committees. Then, under article 30, regulators can sanction audit committees that fail to comply. 

However, Lebègue remained upbeat, telling the conference: ‘I’m sure we will find a pragmatic solution to combine this basic principle of good governance on one side and the objectives of the new regulations.’

PwC’s Lord was able to suggest how the new requirements would work in practice based on experience of audit reforms in the UK. In 2010, the UK’s Financial Reporting Council introduced a tendering requirement for companies to put their audits out to tender every 10 years, which has been ‘a really big change in the UK market’. Companies have gone from almost never changing their auditors to more than 120 since 2010 putting their audit out to tender.

The UK’s new tendering rules have boosted the role of audit committees, which now select auditors. Significantly, Lord said that the committees ‘have not been over-influenced by the cost of the audit. Instead we’ve seen audit committees get really interested in audit quality.’ She added that this meant the committee members came to ‘people like me’ and asked for advice about how best to judge the quality of auditors. The result was ‘a virtuous circle’, with auditors competing on quality.

Extended reporting

Another UK reform similar to the new EU rules is extended auditor reporting – individually tailored reports setting out risks and responsibilities for a particular audit. Lord told the conference that in the past audit committees did not question her audit plans, but that has changed in the three years since extended reporting was introduced. 

Audit committees have started to respond differently to audit plans as key elements are made public. For the first time the auditor’s view about the risks linked to a particular company was going to be exposed, Lord said.

She added: ‘Three years on we’re also starting to see some engagement from the shareholder community on the audit report.’ Lord said that this could mean an ‘awkward moment’ for the audit committee, adding: ‘But isn’t that a good thing?’

Perhaps the most questions to land in the European Commission’s audit inbox cover restrictions on non-audit services that firms can offer to clients they audit, Deckers told the conference. He acknowledged that this was ‘maybe something we need to do more work on’. 

Non-audit services

The legislation imposes a cap on non-audit services of 70% of average statutory audit fees paid for the past and future three years (so six years in total) not only by the PIE itself but also its parent company and subsidiaries. It also bans audit firms from providing tax, consultancy and advisory services. Deckers, however, stressed that as the law is brand new, it is too early to assess its impact.

Also new is a system of audit oversight bodies in the member states with at the top the Committee of European Auditing Oversight Bodies (CEAOB), which was due to hold its first EU meeting as this edition went to press. Deckers said the aim was to involve national authorities in CEAOB to ensure harmonised implementation in the member states. ‘We really can’t afford to have authorities across Europe taking conflicting decisions,’ he said.

He added that assessing audit committee performance was ‘not a legalistic, compliance, tick-the-box sort of approach’. Some countries have already done a lot of work, and, through the CEAOB, others could benefit from their experience. 

Sara Lewis, journalist based in Brussels