As part of its ongoing review of regulation following the economic crash in 2008, the European Commission has just published a review into auditors, their structure and practices.It allows me to express some long-brewing personal thoughts on three of the topics raised in the consultation.

Auditors seem somehow to have escaped, Houdini-like, from blame for the financial disaster of two years ago. Maybe I am being simplistic, but what is the point of having auditors if they give clean bills of health to gigantic investment banks that crash a short while later? Would it have made any difference if they had not been audited at all? On the few occasions that I have discussed this with those responsible for their regulation, they have shrugged their shoulders and said that the auditors were just doing their jobs within the rules set. That seems to me an argument for mass redundancy of a whole profession.

The commission recognises this argument in its consultation paper when it says that for some stakeholders ‘… it may be difficult to understand that an institution’s financial statements may suggest "reasonableness" and "material soundness" even if the same institution was, in fact, distressed financially. Given that these stakeholders may be unaware of the limitations of an audit (materiality, sampling techniques, role of the auditor in the detection of fraud and the responsibility of management), this engenders an expectation gap.’ That’s me, I am the stakeholder with the expectation gap, because, poor me, I am unaware of the limitations of an audit. But people like me now have the opportunity to answer questions such as whether audits are fit for purpose, and whether we have suggestions for increasing the value of audits.

A second matter which concerns the commission is the ability of auditors to provide non-audit services at the same time. This was a huge question for the legal profession a few years ago, when the topic of multi-disciplinary partnerships was top of the agenda, and law firms feared being taken over (or overtaken) by one of the big accountancy firms with a law firm attached. The commission clearly states: ‘Since auditors provide an independent opinion on the financial health of companies, ideally they should not have any business interest in the company being audited.’ There is an article in the Directive on Statutory Audit (2006/43/EC) which prohibits non-audit services where ‘an objective, reasonable and informed third party would conclude that the statutory auditor’s or audit firm’s independence is compromised’. This has so far been implemented in a very divergent manner across the EU. For example, in France there is a total ban on the provision of non-audit services by the auditor to its clients. In many other member states, rules are less restrictive and the provision of non-audit services by auditors to their audit clients remains common.

If I have understood the origins of the economic crisis correctly, one of its fundamental sources was the conflict of interest at credit rating agencies, which rated products with one hand while receiving large amounts of cash from the institutions which produced those products with the other. Investors need sound credit rating agencies as much as they need sound auditors. Can there be anything other than one answer to ‘should the provision of non-audit services by audit firms be prohibited?’

Finally – at least for the purpose of this summary – the commission is concerned about the structure of the audit market. It worries that there are just four big players, with a huge gap between them and the rest of the field. For instance, in terms of the revenues or fees received, the total market share of Big Four audit firms for listed companies exceeds 90% in a vast majority of EU member states. Mid-sized players just cannot break into the magic circle (or maybe do not want to because of the liabilities involved). There are uncomfortable echoes of the big banks that were ‘too big to fail’, and so were bailed out with public money, with consequences with which we are all now living. The commission is desperately looking for solutions: mandatory joint audits (as happen in France), mandatory rotation and re-tendering, review of ‘Big Four only clauses’. The commission, which hammered the practices of the legal profession a few years ago, and even took on the might of Microsoft, seems strangely helpless when faced with the competitive problems posed by the Big Four.

So, all you lawyers desperate to give your views about the structure and practices of the audit market, seize your chance. It may not come around again quickly. The deadline is 8 December 2010.

Jonathan Goldsmith is the secretary general of the Council of Bars and Law Societies of Europe (CCBE), which represents over 700,000 European lawyers through its member bars and law societies

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