Communication from the Commission on the statutory audit in the European Union: the way forward (98/C 143/03)

1. INTRODUCTION AND SUMMARY

1.1. The requirement to have the annual and consolidated accounts of certain companies audited by a qualified professional, which was introduced for the Community as a whole by the Accounting Directives, is designed to protect the public interest. The assurance offered by audited accounts should enhance the confidence of all parties that have dealings with the companies concerned. Audited financial statements of a company established in one Member State are used by third parties in other Member States, such as investors, creditors and employees. The increased transparency resulting from the harmonisation of the financial information published by companies, together with the increased reliability of that information as a result of the audit by an independent and qualified professional, are an important contribution to the establishment and the functioning of the Single Market.

1.2. These objectives are undermined if third parties cannot assume a certain level of reliability and a certain coverage of the audit. The regulatory framework which surrounds the statutory audit at EU level is however incomplete. There is no common view at EU level on the role, the position and the liability of the statutory auditor. The absence of such a common view has a negative impact on audit quality and hence on the confidence that is placed in audited accounts, as well as on the freedom of establishment and freedom to provide services in the audit field.

1.3. The lack of a harmonised view at EU level concerning the statutory audit could become a serious handicap in the negotiations that are taking place at international level with a view of improving the access of European companies to the international capital market. There is a significant risk that the accounts and consolidated accounts prepared by European companies will not be accepted in international capital markets unless these accounts have been audited by an independent and qualified professional in accordance with auditing standards which are accepted worldwide.

1.4. The approach proposed in the present communication consists of institutionalising a discussion of auditing matters at EU level. An important task will be the review of the existing international standards on auditing developed by the International Federation of Accountants (IFAC). The EU will have to decide whether it wants to support these standards and if so, how and on what basis European influence in the development of these standards can be assured and a high level of respect for these standards throughout the EU be guaranteed. Discussions will also concern the subjects of auditor independence, quality control, professional competence, the position of the statutory auditor within the company and the role of internal audit.

1.5. With the possible exception of a sectoral Directive concerning the freedom of establishment and the freedom to provide services in the audit field, it may be possible to carry out this reform without proposing new legislation or legislative change at EU level. However, the Commission will not hesitate to propose legislation if the need for this becomes apparent in the course of the ongoing discussions.

2. BACKGROUND

2.1. In accordance with the Fourth Council Directive 78/660/EEC of 25 July 1978 on the annual accounts of certain types of companies, all companies covered by the Directive must have their annual accounts audited by a qualified professional. The statutory auditor must also see to it that the annual report is consistent with the annual accounts for the same financial year. Member States may exempt small companies as defined in the Directive from the obligation to have their accounts audited.

2.2. The Seventh Council Directive 83/349/EEC of 13 June 1983 on consolidated accounts extended the audit requirement to all entities that draw up consolidated accounts on the basis of the Directive. Similarly, the Council Directives 86/635/EEC of 18 December 1986 on the annual accounts and consolidated accounts of banks and other financial institutions and 91/674/EEC of 19 December 1991 on the annual accounts and consolidated accounts of insurance undertakings introduced a requirement for all entities covered by those Directives to have their annual accounts and consolidated accounts audited by a qualified professional.

2.3. Member States may only approve as auditors the persons who satisfy the conditions of the Eighth Council Directive 84/253/EEC of 10 April 1984 on the approval of persons responsible for carrying out the statutory audits of accounting documents. The conditions of approval concern professional qualifications on the one hand and personal integrity and independence on the other.

2.4. While the Eighth Directive defines the minimum qualifications of the statutory auditor, it does not contain any specific guidance concerning the independence requirement. Other issues, such as the appointment and dismissal of the statutory auditor, the audit fee, the audit report and the liability of the statutory auditor are dealt with in the Proposed Fifth Directive concerning the structure of public limited companies and the powers and obligations of their organs (1), which remains however unadopted by the Council. Some of these issues are regulated at national level or are the subject of self-regulation through the accountancy profession, but there are inevitably differences in the way they are dealt with and there is often no legislative backing.

2.5. Several studies launched by the Commission, notably on 'Competition in European accounting` (1992) and on the 'Role, the position and the liability of the statutory auditor` (1996), have shown that there is not yet a European market in audit services and that important differences remain between the national laws and regulations of Member States which deal with the statutory audit.

2.6. Against this background, the Commission considered it useful to organise a wide-ranging reflection on the scope and the need for further action at EU level on the statutory audit. As a first step, the Commission published a Green Paper (2) on the 'Role, the position and the liability of the statutory auditor within the EU`, which was intended to raise the awareness of all interested parties concerning the issues at stake and to elicit their comments. The Commission received over 100 written contributions in response to the Green Paper. Most commentators welcomed the Green Paper and expressed the view that action at EU level was necessary.

2.7. To complete this consultation process, the Commission organised on 5 and 6 December 1996 a Conference on the role, the position and the liability of the statutory auditor within the EU. The objective of this Conference, which gathered some 200 representatives of professional institutes and public authorities responsible for the audit profession, was to discuss the future of auditing in Europe and the role of the EU. There was general agreement at the Conference that the EU should have a common framework for auditing and that such a framework should preferably take as its base the international standards on auditing. The tentative conclusions that the Commission drew at the final session of the Conference were discussed and broadly supported at a meeting of the Contact Committee for the Accounting Directives on 10 March 1997.

2.8. On 26 February 1997, the Economic and Social Committee adopted an opinion on the Green Paper. The Committee welcomed the Green Paper as provoking much needed discussion on the way forward, with a view to ensuring high and compatible standards in auditing and providing the basis for the EU's approach towards international standard setting. The Committee urged the Commission to establish priorities and an action plan in terms of minimum requirements for the EU. The Commission should encourage as far as possible the accounting profession itself to unify its procedures across the EU through effective self-regulation, but a wider range of interested parties such as shareholders and company directors should be involved in the discussion, which should be carefully monitored by the Commission.

2.9. On 15 January 1998, the European Parliament approved a resolution broadly supporting the Green Paper. The Parliament stressed the important role of the auditor in giving credibility to companies' financial reports, something that is an essential underpinning of the Single Market. The Parliament also stressed the importance of removing any barriers at national level that may be restricting auditors' freedom of establishment and their freedom to provide cross-border services.

2.10. The main issues raised by the Parliament were:

- auditor independence requirements. The Green Paper calls for the establishment of a common core of essential principles on independence, which would be formulated by the profession itself. The European Parliament's resolution calls for the definition of non-audit services in the context of the need for the introduction of Community rules on independence,

- the need for new legislation. The Green Paper envisages achieving the required changes as far as possible without new legislation. The European Parliament calls on the Commission to consider whether or not it will be necessary to introduce new legislation to achieve greater harmonisation.

3. PROPOSED ACTION

3.1. In preparing its proposed actions, the Commission has paid particular attention to respecting the principles of subsidiarity and proportionality, as enshrined in the Treaty. New legislation or amendment of existing legislation at EU level is not necessarily envisaged. However, in response in particular to the recommendation of the European Parliament, the Commission confirms that it will not hesitate to propose new legislation where it believes it is necessary. It is also desirable to avoid the creation of an additional layer of standards on top of those already existing or in preparation, at national and international level. A flexible framework is needed which can respond rapidly to current and future developments. Priority must be given to areas where current national legislation and practice is an obstacle to the operation of the Single Market.

Committee on auditing

3.2. In line with the new approach successfully followed in the area of accounting since 1995 (3), the Commission intends to set up a Committee on auditing, which will have special responsibilities for auditing matters. The Committee on auditing will be composed of government experts nominated by the Member States. The Commission would welcome the presence of representatives of the bodies that elaborate auditing standards at national level. Moreover, it is important that the accounting profession, which has the primary responsibility for the technical aspects of auditing standards and which shares with public authorities the responsibility for ensuring that the basic requirements for auditing (professional qualifications and independence) are met, be closely involved in the Committee's work. The European accounting profession should therefore be represented in the Committee on auditing.

3.3. The European Parliament also calls for the Commission to study the role that internal audit can play in relation to external audit, and the Commission will welcome the participation of the European internal audit profession in the Committee on auditing. The European Parliament and the Economic and Social Committee call for the Committee on auditing to have a wide involvement of audit report users. The Commission proposes that the Accounting Advisory Forum should be associated with the work of the Committee on auditing to ensure that a wide range of end users is involved. The Accounting Advisory Forum was set up in 1991 as an advisory body comprising representatives of accounting standard-setting bodies and users and preparers of accounts.

3.4. Through the Committee on auditing, the profession will be continuously challenged to live up to its commitment to deal with auditing matters on the basis of self-regulation. Ideally, the Committee on auditing will be able to recommend endorsement of the results of the profession's work. The profession will be expected to provide much of the raw material which will be the basis of the Committee's deliberations. The principal tasks of the Committee on auditing will include:

- a review of existing international standards on auditing and their application in an EU context with the objective of determining whether the application of these standards meets the full need for auditing standards in the EU or whether there are gaps to be filled,

- contributing to the work of the International Auditing Practices Committee of the International Federation of Accountants, including coordination of views on exposure drafts,

- an examination of the audit quality monitoring systems in the Member States and of possible proposals for improvement,

- an examination of a set of core principles on independence developed by the European accounting profession.

3.5. On all matters the Committee on auditing will report to the Contact Committee on the Accounting Directives. This is particularly the case for issues of a more political nature, such as the definition of the statutory audit and the contents of the audit report.

3.6. The Commission proposes holding the first meeting of the Committee on auditing in May 1998.

Auditing standards

3.7. The review of existing international standards on auditing (ISA) in an EU context will be undertaken as a matter of priority, on the basis of papers prepared by the Commission in consultation with the auditing profession at the European level. The aim is to have a first substantive discussion at the second meeting of the Committee on auditing in the latter part of 1998.

3.8. One issue to be addressed is the extent to which current ISAs provide adequate guidance to European auditors to help them with the issues raised by the significant developments in accounting standard setting. As accounting standard setting develops it may be that auditing standards will naturally need to evolve further. In particular, guidance may be required on how auditors satisfy themselves that financial statements comply with relevant laws, where the statements have been prepared using accounting standards different from those normally applicable under national law.

Quality control for compliance with standards and the independence principle

3.9. In accordance with the Eighth Directive, Member States must ensure that auditors carry out their tasks with due care and in full independence. Although it is necessary that the supervision of the audit profession is carried out in the first instance by the profession itself, the ultimate responsibility for ensuring respect for these fundamental public interest requirements, enshrined in Community law, remains with the governments of Member States. Not all Member States have set up systems of quality control. Some Member States have systems that tend to make supervision more a matter of form than of substance.

3.10. In order to ensure equivalent and high audit quality, it is important first to do further research in this area and to examine how the systems of quality control in the auditing field operate in practice. The European accounting profession has agreed to carry out this examination as a matter of priority and to report their findings to the technical subcommittee. It is expected that at least a first report will be ready for discussion by the subcommittee in May 1998. On the basis of the report of the Committee on auditing to the Contact Committee, the Commission will consider whether any further initiative at EU level is required in this area.

3.11. The profession has undertaken to review its earlier work on independence with a view to establishing a set of core principles for the guidance of auditors in the EU. The results of this work will also be examined by the Committee on auditing with the objective of enhancing the reliability of accounts through a stronger assurance of independence on the part of the auditor. Following the recommendation of the European Parliament, the Commission will ensure that particular attention is paid to determining which non-audit services do or do not risk impairing auditor independence.

Corporate governance

3.12. The role of the auditor must be seen in the wider context of corporate governance. There is general agreement that there is scope for strengthening the position of the statutory auditor within the corporate structure. Suggestions include the creation of audit committees and the institutionalisation of the internal audit function. There is also general agreement that corporate entities themselves should place more emphasis on their own systems of control for managing and reporting risk. In this context it is particularly relevant that companies manage the risks inherent to related party transactions.

3.13. At the same time, it is necessary to keep in mind the wide differences that exist in corporate structures across the Member States and the difficulties which previous efforts to arrive at a common view in this area have encountered. This aspect of the statutory audit will be pursued in the light of the follow-up to the consultation that the Commission's services launched in 1997 on company law.

Professional liability

3.14. A large majority of the respondents to the Green Paper expressed the view that harmonisation of the rules on the professional liability of the statutory auditor is impossible and unnecessary. The Commission however received strong representations from the accounting profession to initiate action on this matter. It was argued that, from a Single Market point of view, it is important to ensure that different national rules and practices on liability do not create barriers between Member States and that unreasonable claims do not endanger the audit function.

3.15. The Commission will examine in more detail the various concepts that play a role in the determination of the civil liability of the statutory auditor in Member States. Once the results of this examination are known, the Commission will be in a better position to judge whether an initiative in this area is necessary.

Professional qualifications

3.16. The Eighth Directive aims to ensure that auditors are highly qualified professionals. The further development of the competence requirements listed in the Directive could help to ensure higher and more closely equivalent standards. To this end it is proposed to organise a closer coordination of the curricula for the training of auditors. This should be primarily a task for the accounting profession and for those who are directly involved in the educational process. The Commission will provide a platform for discussion of this issue, making appropriate use of existing programmes, notably Socrates and Leonardo da Vinci.

Freedom to provide auditing services

3.17. The European Parliament strongly supports the effective implementation in practice of the general Directive on mutual recognition (4) in relation to auditing. The Commission believes that the promotion of the freedom of establishment and the freedom to provide services is particularly important for smaller firms of auditors and individual practitioners. The Commission will discuss with Member States and the Contact Committee on the Accounting Directives the practical difficulties that have arisen in the context of freedom of establishment and freedom to provide services in the auditing field. The European accounting profession will be closely associated with this exercise, in particular to report on the practical difficulties they have encountered with the implementation of existing mutual recognition legislation. The group of coordinators for the general system of mutual recognition will also be consulted.

3.18. The Commission regards the effective implementation of the general Directive on mutual recognition as an essential component of the freedom to provide auditing services. The Commission will also further examine with the accounting profession the feasibility of a sectoral Directive for auditors. This would be envisaged if it becomes clear that it would constitute an improvement over the general Directive for both audit firms and individual practitioners, and that it would have the support of the profession and the Member States. As regards improvement for individual practioners, the Commission has suggested to the European accounting profession to agree on a rule which would ease or even exempt from the aptitude test that Member States require under the Directive, creating a general system for the recognition of diplomas in order to obtain the host professional title. These facilities would be granted by taking into consideration the experience that would be gained by the migrant in working under his home title with an auditor (accountant) having the host title.

Small and medium-sized companies

3.19. The Commission believes, and responses to the Green Paper confirm, that there is no need to change the present system whereby small companies may be exempted from the obligation to have their accounts audited by a qualified professional. The European Parliament supported this view. However, it would appear useful to examine to what extent the accounting profession can play a more active role in assisting SMEs. The Commission will ask the European accounting profession to come forward with proposals in this area.

4. CONCLUSION

4.1. The wide consultation which has taken place on the matter of the statutory audit has shown general agreement that the audit function is important, that the EU needs a framework of reference in the auditing field and that such a framework should be based as far as possible on existing international standards.

4.2. The overall goals of the approach which the Commission proposes are to contribute to a general raising of the quality of auditing in the EU, which will ultimately benefit all parties concerned with the life of companies and to improve the situation as regards the freedom to provide auditing services.

4.3. It is clear that this approach will require the active support of the Member States and of the European accounting profession if it is to be effective. The consultation exercise that has recently been concluded provides a strong assurance that this support will be forthcoming.

(1) OJ C 240, 9.9.1983, p. 2.

(2) OJ C 321, 28.10.1996, p. 1.

(3) Communication from the Commission on accounting harmonisation: A new strategy vis-à-vis international harmonisation, COM(95) 508, November 1995.

(4) OJ L 19, 24.1.1989, p. 16.

ANNEX

LIST OF RESPONSES TO THE GREEN PAPER

In addition to the official comments of the Member States, the following organisations/institutions/companies/private individuals have provided comments on the Green Paper.

European/international organisations

Association des chambres de commerce et d'industrie

Centre for European Policy Studies

Council of the Bars and Law Societies of the European Community

EU Committee of the American Chamber of Commerce in Belgium

European Confederation of Institutes of Internal Auditing

European Contact Group

European Federation of Accountants and Auditors for SMEs

European Federation of Financial Executives Institutes

European Savings Banks Group

Fédération bancaire de l'Union européenne

Fédération des experts-comptables européens

International Auditing Practices Committee of the International Federation of Accountants

Moores Rowland International Europe

Union of European Accountancy Students

Union of Industrial and Employers' Confederations of Europe

Commentators from Member States

Austria

Bundeskammer für Arbeiter und Angestellte

Prof. Dkfm. Dr. Helmut Samer

Wirtschaftskammer Österreich

Belgium

Institut des experts-comptables/Instituut der Accountants

Institut des réviseurs d'entreprises/Instituut der Bedrijfsrevisoren

Denmark

Anne Loft og Miles Gietzmann (Handelshøjskolen i København)

Prof. Højsløv (Handelshøjskole Syd)

Ph. D. Bent Warming-Rasmussen

Finland

HTM - Tilintarkastajat ry (Association of Approved Accountants)

Sisäiset tarkastajat ry (Institute of Internal Auditors)

France

Compagnie nationale des commissaires aux comptes

Germany

Bundesverband der vereidigten Buchprüfer eV

Bundesverband deutscher Banken eV

Deutscher Genossenschafts- und Raiffeisenverband eV

Deutscher Gewerkschaftsbund

Deutscher Industrie- und Handelstag

Deutscher Sparkassen- und Giroverband

Institut der Wirtschaftsprüfer

Steuerberaterkammer Rheinland-Pfalz

Wengert AG

Wirtschaftsprüferkammer

Greece

Association of Certified Accountants and Auditors of Greece

Hellenic Auditing Company AE

Italy

Consiglio nazionale dei dottori commercialisti

Consiglio nazionale dei ragioneri e periti commerciali

Instituto nazionale revisori contabili

Associazione bancaria italiana

Spain

Comisión nacional del mercado de Valores

Ilustre Colegio de Abogados de Barcelona

Prof. Fernández Rodríguez (Universidad Nacional de Educación a Distancia)

Sweden

Svenska Revisorsamfundet (Swedish Association of Approved Auditors)

The Netherlands

Drs. J. H. J Achten RA

Nederlandse Orde van Accountants-Administratieconsulenten

A. P. Schipper, Registeraccountant

United Kingdom

Auditing Practices Board

Chartered Association of Certified Accountants

Imperial Chemical Industries plc

Institute of Chartered Accountants of England and Wales and Institute of Chartered Accountants of Scotland

Law Society of England and Wales and Law Society of Scotland

Christopher Humphrey and Josephine Maltby (Sheffield University)

Prof. David Hatherly (University of Edinburgh)

Prof. Ashley Burrowes (University of Glamorgan)

Vivien Beattie (University of Stirling), Richard Brandt and Stella Fearnley (University of Portsmouth)

Other countries

Hungary

Chamber of Hungarian Auditors

Norway

Norges Registerte Revisores Forening

Switzerland

Bundesamt für Justiz