EN    EN EN 
 
EN    EN  COMMISSION OF THE E UROPEAN COMMUNITIES 
Brussels, 5.6.2008 
SEC(2008) 1975 
  
COMMISSION STAFF WORKING DOCUMENT 
Accompanying document to the 
 
COMMISSION RECOMMENDATION CONCER NING THE LIMITATION OF THE 
CIVIL LIABILITY OF STATUTORY AUDITORS AND AUDIT FIRMS  
  
IMPACT ASSESSMENT  
 
{C(2008) 2274 final} 
{SEC(2008) 1974} 
 
EN 2   EN TABLE OF CONTENTS 
1. Introduction ................................................................................................................. 4 
2. Procedural issues and public consultation ............................................................ 4 
2.1. EU Directive on Statutory Audit and its follow-up ................................................. 4 
2.2. Study on civil liability systems of statutory auditors in the EU ........................... 6 
2.3. Inter Services Steering Group ................................................................................. 6 
2.4. Impact Assessment Board ....................................................................................... 6 
3. Problem definition ...................................................................................................... 7 
3.1. The public interest ..................................................................................................... 7 
3.2. Issues in the international audit market ................................................................. 8 
3.2.1.  The demand side: listed companies ....................................................................... 8 
3.2.2.  The supply side: the type of players ..................................................................... 11 
3.2.3.  The supply side: the Big 4 – too few players? .................................................... 12 
3.2.4.  Failures preventing the entry of new players ...................................................... 15 
3.3. Risk exposure for the audit profession ................................................................. 16 
3.3.1.  The liability regimes ................................................................................................ 16 
3.3.2.  Deep pocket syndrome ........................................................................................... 17 
3.3.3.  Predictability of litigation costs .............................................................................. 18 
3.4. Lack of insurance capacity ..................................................................................... 19 
3.4.1.  Professional indemnity insurance for smaller audits ......................................... 19 
3.4.2.  Self-insurance .......................................................................................................... 20 
3.4.3.  Reducing audit risks by imposing higher audit fees? ........................................ 21 
3.4.4.  Financial capacity of the audit firm and the individual audit partner ............... 21 
3.5. Which market participants are affected? ............................................................. 24 
3.6. Does the EU have the right to act? ....................................................................... 27 
4. Objectives ................................................................................................................. 27 
5. Policy options ........................................................................................................... 27 
5.1. No EU action (Option 1) ......................................................................................... 27 
5.2. Possible options in substance ............................................................................... 28 
5.2.1.  Compulsory insurance for all auditor liability risks ( Option 2 )......................... 28 
 
EN 3   EN 5.2.2.  Establishing “safe harbours” ( Option 3 ).............................................................. 29 
5.2.3.  Limiting auditors' liability ( Option 4 )..................................................................... 30 
5.3. Screening of the options ......................................................................................... 33 
5.4. Legal instruments .................................................................................................... 34 
6. Analysis of impacts ................................................................................................. 35 
6.1. No EU action at the EU level (Option 1) .............................................................. 35 
6.1.1.  Impact of market forces in the future .................................................................... 35 
6.1.2.  The Big 3 scenario and its consequences for the capital markets .................. 36 
6.1.3.  Current situation in  the Member States ............................................................... 37 
6.1.4.  Current situation in the United States .................................................................. 39 
6.2. Impact of option 4a on the objectives (Capping liability by a Directive) ......... 40 
6.3. Impact of option 4b on the objectives (Int roducing proportionat e liability by a 
Directive) ................................................................................................................... 41 
6.4. Impact of option 4c on the objectives (convergence of liability limitations) .... 42 
6.4.1.  Reaching convergence by a Recommendation .................................................. 43 
6.4.2.  Reaching convergence by a Directive  (option 4 c implemented via a 
Directive) ................................................................................................................... 45 
6.5. Impact on Audit Quality .......................................................................................... 46 
6.5.1.  General impact of a liabili ty limitation on audit quality ....................................... 46 
6.5.2.  Impact of each of t he options on audit quality .................................................... 47 
6.6. Positive impact mainly for the Big 4? ................................................................... 48 
6.7. Possible up- and down-sides for stakeholders outside audit firms ................. 49 
6.8. Other impacts (for options 4a, 4b and 4c) ........................................................... 50 
7. Comparing the options ........................................................................................... 51 
7.1. Criterion 1: Effectivene ss regarding the objectives ............................................ 51 
7.2. Criterion 2: Efficiency .............................................................................................. 53 
7.3. Criterion 3: Audit quality ......................................................................................... 53 
7.4. Criterion 4: Acceptability ......................................................................................... 53 
7.5. Overall comparison ................................................................................................. 55 
7.6. Conclusion ................................................................................................................ 56 
8. Monitoring and evaluation ...................................................................................... 57 
 
EN 4   EN 1. INTRODUCTION  
European legislation1 requires a company’s financial statements (i.e. annual or 
consolidated accounts) to be audited ("stat utory audits"). Statut ory audits must be 
conducted by independent, registered auditors  and audit firms ("statutory auditors"). 
Statutory auditors should provide an  independent opinion about a company's 
financial position, as reflected in the financ ial statements – this opinion is important 
as investors will rely on it when making decisions2. 
Corporate failure (particularly bankrupt cy), and the exposure of previously 
undetected cases of management deception, of ten lead to accusations  of audit failure, 
which in turn can lead to law suits. Indi vidual shareholders, creditors and prospective 
purchasers of the audited company may suff er damages for which statutory auditors 
may be held liable. In the case of listed and large unlisted companies, whether national or multinational, liability risks ar e high and can quickly rise to several 
million Euros. These liability risks combined  with insufficient insurance threaten the 
sustainability and competitiveness of the stat utory audit market structure, since they 
may deter statutory auditors from providi ng audit services for such companies. 
European capital markets, which have become  much more integrated in the last few 
years and which collectively represent the s econd largest capital market in the world 
(after the US), need a sustainable and co mpetitive market for audit services, where 
audits for multinational companies can still be provided. Auditors' liability is the 
subject of debates not only in Europe, but also in the US. 
2. P
ROCEDURAL ISSUES AND PUBLIC CONSULTATION  
2.1. EU Directive on Statutory Audit 3 and its follow-up 
Although the Commission did not include the issue of liability  in its initial proposal 
for the EU 2006 Directive on Statutory Aud it, the European Parliament requested 
that this issue be addressed in the Direct ive. Accordingly Article 31 of the Directive 
invited the Commission to  present a report on: 
• the impact of the current national liability  rules for carrying out statutory audits on 
European capital markets; and  
                                                 
1 Fourth Council Directive 78/660/EEC of 25 July 1978 on th e annual accounts of certain types of companies; 
Seventh Council Directive 83/349/EEC of 13 June 1983 on consolidated accounts; Council Directive 86/635/EEC 
of 8 December 1986 on the annual and consolidated account s of banks and other financ ial institutions; Council 
Directive 91/674/EEC of 19 December 1991 on the annual an d consolidated accounts of insurance undertakings.  
2 85% of investors assert that the annual audit adds valu e to them, see: ICGN (Internat ional Corporate Governance 
Network; representing main international investors) / GPPC (Global Public Policy Committee; representing 6 
major audit networks): "Survey of i nvestor attitudes on financial reporting and auditing", 2007 (hereafter, referred 
to as the ICGN/GPPC survey).  
3 Directive 2006/43/EC of the European Parliament and of the Council of 17 May 2006 on Statutory Audits of 
Annual Accounts and Consolidated Accounts, amending Council Directiv es 78/660/EEC and 83/349/EEC and 
repealing Council Directive 84/253/EEC  
 
EN 5   EN • the insurance conditions for statutory au ditors and audit firms, including an 
objective analysis of the limitati ons on financial liability.  
In the light of the above report, the Commission may submit recommendations to 
Member States.  
Against this background, the Commission ma ndated, as a preparatory step, London 
Economics to conduct an independent study4 on the economic impact of auditors' 
liability regimes. The study also focused on the insurability of major audit firms. 
Simultaneously, the Commission set up a Eur opean Forum of market experts (the 
Auditors' Liability Forum5) in November 2005 in order to assist in the preparation of 
the study, as data on this issue was not read ily available in all Member States. The 
Forum comprises twenty market experts,  with varying professional backgrounds, 
(e.g. auditors, bankers, investors, companies, insurers and academics), with particular 
experience and knowledge of the s ubject. The London Economics study was 
completed and published in October 2006. Th e study considers the different options 
for limiting auditor liability. 
In January 2007, the Commission Services la unched a public consultation process to 
ascertain whether there is a need to reform  auditors' liability and to examine possible 
ways forward for reforming auditor liability rules in the Member States. On the draft 
consultation document, SG, LS, DG CO MP, DG ECFIN, DG SANCO and DG JLS 
were consulted. The Commission services invi ted stakeholders to give their views on 
the issues involved by March 2007 and presen ted four possible options for a potential 
reform. The four options were: 
• One single monetary cap at EU level 
• Cap depending on the company’s size 
• Cap depending on the audit fees  charged to the company 
• Proportionate liability 
The Commission Services also presented an overview of the legal situation in 
Member States.  
85 replies were received from various stakeh olders located in 15 Member States, and 
included replies from the audit profession, insurers, companies, investors, academics, banks and regulators (see Annex 1 ). 66% of all respondents (of which 35% come 
from audit profession, representing all re spondents from audit profession, and 31% 
from outside the audit profession) support a limitation on auditors' liability, whereas 
29% rejected the possibility. Most of re spondents also expressed a deep concern 
about lack of choice in th e international audit market
6.  
                                                 
4 London Economics in association with Professor Ralf Ew ert, Goethe University, Frankfurt am Main, Germany: 
"Study on the Economic Impact of Aud itors' Liability Regimes", September 2006 (hereafter, referred to as the 
London Economics study): http://ec.europa.eu/inte rnal_market/auditing/liability/index_en.htm  
5 For further information on the composition and role of  the Forum, see press release on DG MARKT website: 
http://europa.eu/rapid/pressReleasesAction.do?ref erence=IP/05/1420&format=H TML&aged=0&language=EN&gu
iLanguage=en  
6 For further information on the results of the public  consultation, see summary report on DG MARKT website: 
http://ec.europa.eu/internal_market/a uditing/docs/liability/summary_report_en.pdf  
 
EN 6   EN In parallel to the public consultation, the Commission mandated OXERA to carry out 
a further study. The study focussed more on other topics, such as ownership and 
capital structures of audit firms evalua ting the current situation. One of its 
conclusions is also relevant for this imp act assessment: it confirmed that liability 
risks for audit firms acts as barrier for mid- tier audit firms entering the market for the 
audit of listed companies at international level.  
2.2. Study on civil liability systems of  statutory auditors in the EU 
From a legal side, the issue of auditors' lia bility was already ex amined in a study for 
the Commission7 in 2001. The purpose of the study was to determine to what extent 
the different civil liability systems for a uditors, which exist in the Member States 
could constitute an obstacle to the development of a Eu ropean single market for 
auditing services. The study f ound the differences between the legal regimes to be 
significant, but did not recommend that cha nges be made at that time. However the 
audit market has changed since the publica tion of the study (in particular, Arthur 
Andersen, one of the then five audit networks, collapsed in 2002), and these 
conclusions may no longer  be appropriate.  
2.3. Inter Services Steering Group 
An Inter Services Steering Group was convened. The following services were 
consulted: SG, SJ, DG JLS, COMP, EC FIN and DG SANCO. DG COMP and SG 
made contributions which have been ta ken into account. In addition, DG COMP, DG 
ECFIN and JLS were consulted on the dr aft terms of reference for a study on the 
economic impact of auditors' liability re gimes and the draft report of the London 
Economics study. 
2.4. Impact Assessment Board 
This Impact Assessment was reviewed by the Impact Assessment Board (IAB). The 
recommendations for improvements have been accommodated and a revised version of the report was resubmitted to the Board. The following changes were made: 
• The problem statement was amended to present more the market barriers and 
public interest issues be ing addressed (changes made to sections 3.1 and 3.2).  
• More references have been added to in clude evidence of relevant experiences 
from Member States and also from the USA (changes made to sections 6.1.3 and 
6.1.4. Sections 6.2, 6.3, 6.4 and 6.5 also include  evidence of such experiences).  
• Developing the options in greater de tails. Section 5.2 has been expanded. 
Additional text was added to section 6.4.2 to make the legal and institutional 
differences between implementing option 4c  via a Directive or a Recommendation 
clearer.  
                                                
 
7 Thieffry & Associates: "A study on systems of civil liability of statutory auditors in the context of a Single Market 
for auditing services in the European Union", Report to the European Commission. Update by DG Internal Market 
and Services in January 2007.  
 
EN 7   EN • The section on Monitoring and Evalua tion has been expa nded to provide 
indicative timing and more detail on the so rt of data which it would be useful to 
monitor. The Commission would propose th e collection of information every 4 
years.  
• The Commission will review this informati on and discuss it with Member States. 
Further debate with private stakeholders  (audit firms, investors, companies, 
insurers) will take place on th e basis of this information.  
In general, the opinion on the revised draft of the Impact Assessment was positive, 
and the amended version was welcomed fo r having identified the market failures, 
presented the public interest in question and for having well defined the objectives.  
3. PROBLEM DEFINITION  
3.1. The public interest 
It is in the public interest to ensure a sustainable audit f unction and accordingly a 
competitive market for audit firms. Invest ments or divestments on European capital 
markets would otherwise be seriously constrained. Many decades ago, it became 
mandatory for companies to have their financial statements audited. It was decided in many jurisdictions, including those in the European Union, that audit services should 
be supplied by private audit firms and not  by public authoritie s or regulatory 
agencies.  
The purpose of a statutory audit is to gi ve reasonable assurance that financial 
statements are free from material misstatements and provide a true and fair view of the company’s financial position. Regulat ors acknowledge that  the opinion of a 
statutory auditor cannot provi de an absolute assurance but should offer reasonable 
assurance to the public, notably to sh areholders or other investors.  
The market for the provision of audit servi ces is based on two simple premises. On 
the one hand, companies should be able to choose their auditors according to their 
needs and at a reasonable cost. On the othe r hand, investors shoul d have the benefit 
of an independent audit opinion based on a high quality audit
8. On balance, private 
audit firms should therefore be offered a workable framework for providing high 
quality audit services, in particular for capit al markets where investors invest in large 
multinational companies.  
Listed companies often demand (and need) an auditor present or represented in more 
than 50 jurisdictions in the world or even mo re. However, there is a market failure on 
the supply side as they are just four networks (the so-called Big 49) capable of 
meeting the demand for international audit se rvices for listed companies. Compared 
to 2000/2001, there is an increas ing real risk that one of these networks disappears 
for many reasons. Prospects that another ma jor player on the supply side enters the 
market are however very low. It take s time and resources to build a large 
                                                 
8 85% of investors assert that the annual audi t adds value to them, see: ICGN/GPPC survey  
9 PWC, KPMG, Deloit te, Ernst & Young  
 
EN 8   EN international network able to respond to the demand of listed companies. Networks 
of audit firms are not global internationa l companies but rather associations of 
independent local audit firms. The reason for such organisation is the unwillingness 
of local audit firms to share unpredictable liability risks for which no insurance cover 
is available with other audit firms in other jurisdictions.  
Existing networks or new pl ayers are unwilling to invest  in the audit firms and 
develop new networks structur es able to compete with one of the Big 4. One of the 
reasons might be strict ownership rules for audit firms, requiring that majority of the 
voting rights in an audit firm is held by the auditors. The prevailing reason is that 
high liability risks render a ny new investments into audi t firms not attractive.  
As a consequence, there is a fear that the international audit market for listed 
companies might not be sustainable over time.  
3.2. Issues in the international audit market 
3.2.1.  The demand side: listed companies 
Capital markets10 can no longer be viewed purely from a domestic perspective. A 
much more integrated European capital market is about to emerge due to the successful implementation of the Financia l Services Action Plan between 2001 and 
2005 as part of the Lisbon agenda. Investor s today invest in mu ltinational companies, 
the securities of which are list ed and traded at different stock exchanges in the EU or 
around the world
11. To this end, investors rely on audited financial statements to 
assess the merits of investing in multinational companies12.  
Confidence in the financial statements is esse ntial for investors to be able to decide 
where to allocate their capital to listed companie s across borders. In 2005 
international financial reporting standards (IF RS) were introduced in the EU for the 
financial statements of all listed comp anies in Europe. They establish a common 
accounting framework enabling investors to compare financial statements throughout 
the European Union and even at a global level.  The role of the statutory auditor is to 
contribute to the credibility of  these financial statements. 
As at June 2006, the number of large co mpanies listed on Europe's prime stock 
exchange indexes was 58513. The number of companies listed on Europe's main 
national stock exchanges is es timated at between 7.000 and 8.00014 in 2008. The 
                                                 
10 A capital market is the market for s ecurities, where companies and the gove rnment can raise long-term funds. A 
capital market includes the stock market and the bond market.  
11 The most important stock exchanges worldwide are the NYSE Euronext (market value:  US$ 20.7 trillion, Tokyo 
Stock Exchange (market value: US$ 4.63 trillion), NAS DAQ (market value: US$ 4.39 trillion) and London Stock 
Exchange (market value: US$ 4.21 tr illion), figures as of October 2007, see World Federation of Exchanges – 
Statistics/Monthly.  
12 Financial analyses based on financial stat ements are often used by investors and are prepared by financial analysts, 
thus providing them with the basis in making investment decisions.  
13 London Economics study  
14 As regards the importance of those companies for the EU economy (in terms of market capitalization and turnover) 
see annex 3  
 
EN 9   EN market capitalisation of listed entities in the EU-25 countries  amounts to nearby € 11 
trillion in 200715 (for details see Annex 2 ).  
Although there are several thous and audit firms existing in  the EU, only a few audit 
firms are appointed by these thousands of lis ted companies as their statutory auditor. 
Moreover, these companies rarely switch from one audit firm to another so that audit 
firms have few opportunities to gain client s. Due to the organisational structure and 
the international reach of the Big 4, capital markets ar e effectively dependent on 
them to supply the required statutory a udits for multinational companies with 
subsidiaries, in some cases operati ng in more than 100 countries (see 3.2.2.). 
According to London Economics, on average around 4% of listed companies change their auditor per year in Europe. Often, co mpanies keep their audit firms for decades. 
The following findings established by L ondon Economics show that 1/3 of 
interviewed companies keeps their audito rs for more than 10 years and 1/2 of 
companies for more than 7 years.  
Number of years the current auditor has served as auditor of the 
company 
Number of years Share of respondents 
1 to 3 years 13% 
4 to 6 years 33% 
7 to 10 years 20% 
11 to 15 years 2% 
More than 15 years 31% 
Source: London Economics survey of companies 
The international companies in essence c hoose their auditors according to two main 
criteria:  
• The first criterion  relates to the client’s actual need for its auditor to have a 
multinational presence and a corresponding capacity to handle large audit 
assignments. This has also been one of th e main drivers for mergers of audit firms 
over the last twenty years. As a result, the Big 4 networks16 cover more than 100 
countries.  
                                                 
15 Stock market capitalisation  of the most representative stock exchanges in EU-25 Member States in September 
2007, see European Central Bank:  
 http://epp.eurostat.ec.europa. eu/portal/page?_pageid=1996,39140985&_da d=portal&_schema=PORTAL&screen=
detailref&language=en&product=EU_MAIN_TREE&root =EU_MAIN_TREE/economy/main/shorties/euro_mf/mf
090 
16 The Big 4 are by far the largest auditors both globally and in most individual jurisdictions. They are followed by a 
group of audit firms loosely referred to as the ‘mid-tier’ firms, some of whic h also have significant international 
networks, but are overall  much smaller in size . 
 
EN 10   EN • The second criterion  relates to the acquired reput ation of the auditor. Many 
studies show that listed companies c hoose the auditor on the basis of its 
reputation17. This is particularly true for large listed companies (defined in terms 
of turnover exceeding € 100m, see columns 2-4 in the following table). In contrast, the reputation of th e audit firm is less important for smaller companies 
(defined in terms of turnover less than  € 100m, see column 1 in the following 
table). Large listed companies effectivel y tend to favour the Big 4 firms because 
their reputation makes such a choice easier to explain and defend towards investors and capital markets in general.  
A company survey organised by London Economics in 2006 supports these two 
findings:  
Importance of factors in choice of a provider of audit services in a 
company’s home country - company responses18 broken down by turnover 
in 2005–  
average rating from 1 (least important) to 5 (most important)  
 Breakdown by company turnover 
Factors <€100m €100m-
€1,000m €1,000m-
€10,000m >€10b 
Size of the audit firm 3.8 2.9 4.1 3.7 
Multinational presence of the 
audit firm 3.2 3.9 4.4 3.8 
Reputation of the audit firm 3.7 4.3 4.7 4.3 
Previous experience of the audit 
firm 4.0 3.7 3.9 3.8 
Audit firm’s knowledge of the 
company 3.8 3.5 3.6 3.5 
Audit firm’s knowledge of the 
company’s sector(s) 3.6 3.4 3.4 3.7 
Previous experience of the 
company with the audit firm 3.3 3.9 3.6 3.3 
References from other about the 
audit firm 2.6 2.4 2.4 2.8 
Source: London Economics survey of companies 
At present, it does not appear that listed and international companies see any other 
audit firms as a possible alternative to th e Big 4 networks. The following survey in 
the largest audit market in the EU (the UK) also indicates that mid-tier audit networks are not viewed by comp anies as a real  alternative. 
                                                
 
17 Oxera Competition study ; London Economics study  
18 For each of the EU-25 Member States the survey sample in cludes all companies included in the main index of the 
main domestic stock exchange as well as a random sample of other companies listed on the stock exchange. In 
addition, in case of Euronext and the London Stock Ex change, a number of firms listed on the "unregulated 
markets" (Alternext and AIM) were also  surveyed. Furthermore, a number of unlisted European companies with an 
annual turnover in excess of € 500m were also surv eyed. Altogether, 146 responses from companies from all 
Member States (except of Czech Republic, Estonia, Cy prus, Latvia, Slovenia and Slovakia) were received.  
 
EN 11   EN  
 Likelihood of considering a mid-tier audi t firm network for the company’s audit  
(number of companies, based on UK survey) 
123719
051015202530
Very likely Fairly likely Neither likely nor unlikely Fairly unlikely Very unlikelyFTSE Small Cap companies FTSE 350 companies
43245
 
Base: 50 responses by UK audit committee chairs for the whole sample, 32 for FTSE 350 companies and 18 for FTSE Small Cap compa nies. 
Source: Oxera (2006), op. cit., Figure 3.9. 
3.2.2.  The supply side: the type of players 
a) Need for multinational players operating in an integrated structure 
Audit firms willing to address the demand of  international companies forge networks 
at international level under a common bra nd, such as the names used by the Big 4. 
These international network st ructures bring together indi vidual member firms which 
are located in many jurisdictions. The in tegration of a network is in practice 
implemented by an umbrella organisation. Su ch an umbrella organisation is a legal 
entity typically owned by member (individua l) audit firms. Where firms participate 
in such an umbrella organi sation, they are asked to prov ide a financial contribution. 
However, the umbrella organisation does not provide any audit services to any 
outside clients. Instead, it co-ordinates  the overall business development and 
manages liability risks across all audit firm s belonging to its network. Such networks 
are the response to the demand of companies,  but imply due to their nature a high 
degree of fragmentation. Effectively, audito rs do not operate on the basis of large 
multinational companies, but a puzzle of  local firms within a common network. 
The 2006 Directive on Statutory Audit (in pa rticular Article 2 No 7) provides a 
definition for such a network meaning a "larger structure: 
– which is aimed at co-operation and to which a statutory auditor or an audit firm 
belongs, and 
 
EN 12   EN – which is clearly aimed at profit- or cost-sharing or shares common ownership, 
control or management, common quality control policies and procedures, a 
common business strategy, the use of a common brand name or a significant part 
of professional resources." 
Network definitions exist in other jurisdictions in the world. The network definition 
has become necessary to reach two objectives:  
• First, the coordination of all business activities across an international network 
should not impede the independence of the individual auditor auditing the 
financial statements of a company. Artic le 22 of the 2006 Directive on Statutory 
Audit implements this objective; 
• Second, local audit firms use the internationa l brand to gain new clients. For this 
reason, Article 40 of the 2006 Directiv e on Statutory Audit provides for 
transparency by requiring audit firms of listed companies to provide a description 
of the network to which they belong as well as of the le gal and structural 
arrangements in the network. 
b) Unwillingness to share liabi lity risks with other audit fi rms at international level 
There is a contradiction in the current international audit market caused by an 
important market failure on the supply side: on the one hand, the demand side 
requires the presence of an auditor in all countries where a company has subsidiaries 
in order to provide an integr ated service. On the other hand, the supply side structure 
is fragmented: independent ownership of domestic audit firms seems to prevail because of the unwillingness of such firms to  share liability risks with other audit 
firms in other jurisdictions. This even seem s to apply to the Big 4 firms, which do 
not set up transnational firms offering aud it services to multinational companies. 
However, the more the networks are integrated, the better they satisfy the companies demand for international audits. 
In addition, differences in liability regimes at international level are an important 
barrier to cross-border integration of the networks of audit firms
19. These differences 
can make risk management within an in ternational network (i.e. by an umbrella 
organisation) a very costly task. However, su ch a cost is easier to manage for the Big 
4 than for the mid-tier audit firms. The high level of inte gration amongst their 
network partners allows the Big 4 ne tworks to cover audit risks by captive 
insurances.  
3.2.3.  The supply side: the Big 4 – too few players? 
a) The market share of the Big 4 
Although there are several thousand audit fi rms operating under different names and 
brands, the statutory audit market for comp anies listed on capital markets is highly 
                                                 
19 Oxera Ownership Study page 102 and further  
 
EN 13   EN concentrated in major economies in the world20 such as the US21, Japan22, 
Germany23, France24, Italy25 and the UK26.  
Similarly, the results of London Economics' survey show that the statutory audit 
market for companies listed on the European  capital markets is highly concentrated 
and dominated by the Big 4 networks in all the Member States. In 2004 the market share of the four largest audit firms, for companies of the main stock exchange index 
across Member States
27, ranged between 83% and 100% (see table in Annex 3 ). In 
the EU financial services sector, the Big 4 hold around 90 % of the statutory audit 
mandates of financial institutions (banks  and insurance servic e providers). In a 
number of countries, the Big 4 firms hold all  statutory audit mandates from financial 
institutions. 
The market has become significantly more concentrated over the last ten years. 
Specifically, the merger between the second- largest audit firm (Coopers & Lybrand) 
and the fourth largest audit firm (Price Wa terhouse) in 1998 reduced the then Big-6 
audit firms to the Big 5. Subsequently, the demise of Arthur Andersen in 2002 
(following bankruptcy of the energy comp any Enron in the US) reduced the number 
of global networks to the current Big 428.  
b) The risk of a Big 3 scenario 
The limited number of players might shrink further for different reasons. The Big 4 
assert that a catastrophic claim could lead to the collapse of one of them. Another 
risk might be that major audit firms c ould implode due to an immediate loss of 
confidence and reputation by c lient companies who become aware of a major audit 
failure by an individual audit partner inside the international network, as is 
commonly held to be the reason for the colla pse of Arthur Andersen in 2002. A third 
                                                 
20 For a general overview, see International Accounting Bull etin, 21.12.2005, IAB survey, "A common interest in the 
future", p. 6ss  
21 The Big 4 firms audit over 78% of all U.S. public compan ies and 99% of all U.S. publ ic companies with sales 
greater than US$ 5 billion; see:  US General Accounting Office (GAO): "Pub lic Accounting Firms. Mandated Study 
on Consolidation and Competition. Report to the Senate  Committee on Banking, Housing, and Urban Affairs and 
the House Committee on Financial Services", July 2003  
22 According to Daiwa Secu rities SMBC, the market share of the Big 4 amounted to 94% in 2005.  
23 Grothe, J.: "Branchenspezialisier ung von Wirtschaftsprüfungsgesellschafte n im Rahmen der Jahresabschluss-
prüfung. Ergebnisse einer empirisc hen Untersuchung des deutschen Prüfungs marktes", IDW Verlag, Düsseldorf 
2005. A study published in September 2007 by Luenendonk on  the German audit market  shows the 5th largest 
audit network BDO far behind the smallest Big 4 network in terms of turnover: PWC: € 1.2 billion; KPMG: € 1.1 
billion; E&Y: € 0.9 billion; Deloitte: € 0.5 billion; BDO: € 0.1 billion, see : http://www.luenendonk.de/presse.php  
24 Study of the Autorité des Marchés Financiers (AMF) in 2005  
25 M. Longo/A. Macchiati, Quality in Corporate Auditing, Banca, Impresa e Societa, 1999, p. 259 i  
26 Oxera: "Competition and choice in th e UK audit market. Report prepared for Department of Trade and Industry and 
Financial Reporting Council", April 2006 (hereafter referred to as the Oxera Competition study)  
27 For instance, in 2004, 971 companies listed in  Germany were audited by 198 audit firms; see 
Wirtschaftsprüferkamme r: "Anbieterstruktur und Mandatsverteilung im Wirtschaftsprüferm arkt", WPK-Magazin 
1/2006. Meanwhile, the number of audit firms present in  this market has dropped to 150; see WPK-Magazin 
2/2007.  
28 Oxera Competition study  
 
EN 14   EN risk might be an indictment or removal fr om a register in a major country harming 
the brand of the entire network. 
Other recent examples confirm the thr eat of a Big 3 s cenario. KPMG, under 
investigation in the US for selling questiona ble tax shelters, was at the brink of an 
indictment action by the US Department of Justice, but finally paid a fine in 2005 
and accepted an outside monitor of its opera tions under terms of an agreement that 
heads off prosecution. In 2006, ChuoAoyama, the former PwC representative firm in 
Japan had its auditing license  suspended for July and August as punishment for its 
involvement in the accounting scandal at Kanebo; ultimately PwC decided to leave 
the Japanese market and to wind up ChuoAoyama.  
At the international level, the Internati onal Organisation of S ecurities Commissions 
(IOSCO) initiated a debate in 2007 around issues related to  audit quality and audit 
market, including scenarios for contingenc y planning should one of the major audit 
firms fail. Along the same line, the new In ternational Forum of Independent Audit 
Regulators (IFIAR) has been discussing si nce 2007 if and what emergency planning 
should be put in place to deal with a situ ation where one of the Big 4 audit networks 
is no longer available for large internationa l audit assignments. This means that these 
organisations believe that the risk of a Bi g 3 Scenario is sufficiently tangible as to 
warrant further consideration. 
c) Choice can be even more limited due to independence rules In the last decades, audit networks have developed a wide range of additional non 
audit services (business consulting, IT serv ices, bookkeeping …) in order to increase 
their profitability. This is a natural development for private business. However, regulators intervene where the independence of an individual auditor towards the 
company to be audited might be impa ired. The auditor's opinion on financial 
statements should in particular not be biased  by conflicts of interests due to the fact 
that they also provided other services, such as IT or consulting, to the same 
company: in such a case the auditor could ev en be obliged to st ep down and not carry 
out the audit for the company in questi on. As audit business activities are co-
ordinated across a network, independence rule s have been extended to the networks 
to which auditors belong. 
Independence rules have been reinforced in the last years both in the European Union 
(under the 2006 Directive on Statutory A udit) and in the US (under the 2002 
Sarbanes-Oxley-Act) in order to prevent au ditors to provide non audit services to 
their audit clients.  
The consequence however is that compan ies in practice do not have a choice 
between four major suppliers but between even fewer. International companies also select Big 4 firms for the provision of these non audit services (tax advisory, consulting, …) and are theref ore prevented from appointing the same firm as their 
auditor. If more networks were availabl e on the supply side, there would be fewer 
problems. Again, this is a ne w development since the legal situation was reviewed in 
2001 when the Commission decided not to take action on auditor liability (see chapter 2.1) 
 
EN 15   EN Opening up the independence rules would certainly promote wider choice amongst 
the Big 4 audit networks. However, it is not likely to be an acceptable (nor appropriate) way of addressing the mark et failure. Independence rules were 
strengthened in 2002 to respond to major public  concerns arising in recent years that 
too flexible independence rules effectiv ely led to audit failures and corporate 
scandals such as Enron in the US.  
3.2.4.  Failures preventing the entry of new players 
a) Ownership rules and capital structures  
In order to develop well inte grated network structures able to compete with the Big 
4, mid-tier audit firms or completely new entr ants would need to significantly invest. 
One of the key findings of the OXERA study
29 is that external ownership (owners 
which are not auditors) might contribute pos itively to a decision by a mid-tier audit 
firm to expand into the larger audit ma rket for international listed companies. 
However, Article 3 of the Directive on Stat utory Audit requires that the majority of 
the voting rights in audit firms should be he ld by statutory aud itors. The Directive 
also requires that auditors control the management body in their firms. Accordingly, 
under these rules, outside investors could only ever hold less than 50% of the voting 
rights in an audit firm and would be prevented from controlling the firm's 
management body. 
One particular solution for mid-tier audit fi rms might be to open  up ownership rules 
and control structures within an audit firm . This would also require modification of 
the 2006 Directive on Statutory Audit, to allo w external parties throughout the EU to 
invest and provide the necessary capital for sharing liability risks whilst increasing 
profits when auditing listed companies. However, there are si gnificant potential 
downsides, relating to issues such as the independence of auditors and the need to 
attract and retain human capital in such a udit firms. DG Internal Market has therefore 
decided to launch a public consultation on the issue of ownership rules for audit firms.  
b) Negative impact of liability risk and insurance conditions on investment in mid-
tier audit firms 
Another finding of Oxera was that any ch ange of ownership rules would however 
still be dependent on how liability risks fo r new investors are a ddressed. If these risks 
are not insurable, investments in an aud it firm will not be attractive for investors 
coming both from outside and inside the audit profession. 
The Oxera study stresses that liability risk is  a barrier to audit fi rms raising external 
and internal capital. To the extent that large statutory audits are associated with 
substantially greater liability risks, potential investors and partners in mid-tier audit 
firms would judge liability ri sks to be too high. The imp act of liability risks on the 
cost of capital might be significan t and lead to ca pital rationing.  
                                                
 
29 Oxera Ownership study  
 
EN 16   EN London Economics30 also found that liabili ty risks, combined with the very limited 
insurance capacity are barriers for major mid-tier firms seeking to enter the statutory audit market for large companie s listed on capital markets. 
The barriers to entry to the market for larg e audits have also b een at the centre of a 
recent debate about choice in the audit ma rket, launched by the regulator for audit 
firms in the United Kingdom, th e Financial Reporting Council (FRC)
31. Their first 
recommendation was to encourage opening up ownership rules. This debate was only 
launched after the UK's decision in 2006 to  introduce under its national company law 
act a possibility for auditors to limit their liability by contract. 
To conclude, the risk exposure of the a udit profession and the lack of insurance 
coverage are key for explaining the curr ent shortages on the supply side. These 
issues are explained in more detail below. 
3.3. Risk exposure for the audit profession 
Both London Economics32 and Oxera33 found that liab ility risks combined with a 
very limited insurance capacity are barriers for major mid-tier fi rms or other players 
seeking to enter the statutory audit mark et for large companies listed on capital 
markets.  
3.3.1.  The liability regimes  
The statutory auditor is liable to his cl ient for damages caused by the auditor's 
negligence or even wilful misconduct. In gene ral, liability actions might be either in 
contract34, tort35 or both. However, auditors might al so be liable to other parties. 
Auditors are liable for their audits in case of  fault. Strict liabil ity for auditors does 
not apply in relation to their audit wor k. In the overwhelming number of claims 
against auditors, the issue is whether the a uditors have been negligent. Accordingly, 
the discussion in this impact assessment does not seek to address the question of 
limiting liability where there has been w ilful misconduct of an  auditor (which 
includes collusive behaviour with management in committing corporate fraud).  
a) Liability towards third parties 
                                                 
30 London Economics study, P.xxviii  
31 Financial Reporting Council: "Choice in the UK Audit Mark et. Final Report of the Market Participants Group", 
October 2007  
32 London Economics study, P.xxviii  
33 Oxera Ownership study, section 7.2.5., P. 174  
34 A contract is a legally binding exchange of promises or agreement between parties that the law will enforce. Breach 
of contract is recognised by the law and remedies can be provided. Under c ontractual law, a statutory auditor is 
liable for a breach of his duties under a contract (e.g. of the audit contract concluded between the statutory auditor 
and the audited company).  
35 The tort law applies, when one harms another's legal rights,  or breaches a duty owed unde r statutory law. Under tort 
law, a statutory auditor is liable for a breach of his dutie s under statutory or common law of individual jurisdictions 
(e.g. breaches of the professional standa rds set under Community  or national law).  
 
EN 17   EN Individual shareholders, cred itors and prospective purchasers of an audited company 
rely on the statutory auditor’s report a nd may, as a result, suffer damages.  
In a majority of Member States, any third party could seek to recover damages from 
the statutory auditor upon proving the elements of the liability claim, usually fault (intentional conduct or negligence in any de gree), damage and cau sation. This causal 
link between the damage and the fault might  sometimes be difficult to establish for 
the third parties. In a minority of Memb er States, actions by third parties are 
restricted: the statutory auditor has to ow e a duty of care to the third party in 
question, i.e. the auditor knew or ought r easonably to have known that his work or 
report would be relied on by the claimant for a particular purpose. (The different 
regimes relating to third party claims  are presented in more detail in Annex 4 ).  
b) Joint and several liability  The liability of the auditor and the audited company towards third parties 
(shareholders, creditors) and of the advi sors of the company (auditors and other 
advisors) towards the company is joint and se veral in almost all Member States (see 
Annex 4 ). Under the system of joint and several liability, the auditors might be held 
financially liable "in solidum" with other parties, towards the victim for the whole 
damage. In the case of a failed company, th erefore, third partie s may decide to sue 
the directors of the company (who carry legal responsibility for the financial 
statements of the company). They may al so sue the statutory auditors, who have 
provided an unqualified audit report for the comp any prior to its colla pse, even if the 
auditor's fault and contribution to the dama ge is of minor importance. In contrast, 
under proportionate liability, damages are only allocated among wrongdoers in 
proportion to their leve l of responsibility.  
c) Liability risks in a cross-border context Cross-border liability risks stem primarily from client companies: multinational 
companies are commonly organised as a group having separate subsidiaries in many 
countries. The auditor of the group financial st atements is required to co-operate with 
other auditors, who perform the audit work on the fina ncial information of many 
foreign subsidiaries. The group auditor may therefore face risks arising not from the 
work at the group audit, but as a result of  being accountable in certain circumstances 
for the audit of those foreign subsidia ries spread over 50 to 100 countries. 
A further liability risk at international le vel comes from the investor side: investors 
are located in different jurisdictions and th erefore may not be in the same jurisdiction 
where the company and its auditor are located. Accordingly, there is a risk that auditors can be sued in different jurisdictions by different plaintiffs in relation to the same audit and the same company.  
3.3.2.  Deep pocket syndrome  
Unlimited liability is often considered by potential plaintiffs as insurance against any 
and every deficiency detected in financial statements. Yet, aud itors can only give a 
reasonable, and not an absolute assurance to the public that the company's financial 
statements provide a true and fair view of  the company’s financial position (see Art. 
51 1 (a) of the 4
th Company Law Directive). This is due to the fact that financial 
 
EN 18   EN statements, which are prepared by the audited companies, include inherent 
limitations36 which cannot be overcome by the statutory auditor. 
A liability regime under which a statutory au ditor is perceived to be liable for any 
damage caused by the failure of the audi t client creates the expectation amongst 
potential plaintiffs that stat utory auditors are gatekeeper s against any corporate fraud 
or other corporate malpractice. Joint and se veral liability reinforces this “expectation 
gap” for plaintiffs. Thus, statutory audit fi rms frequently risk being viewed as having 
“deep pockets”37.  
3.3.3.  Predictability of litigation costs  
In the 59 cases concluded between 1998 and 2005 for which relevant information is 
publicly available, the average settlement was slightly less than 12% of the damages 
sought by a plaintiff. In almo st one fifth of the cases, th e award or settlement ratio 
ranged from about 25% to almo st 40% of the initial claim38. This could imply that 
plaintiffs simply attempt to claim large amount s, but are restricted to more "realistic" 
amounts in the actual settlements.  
It is however not only the final settlement costs whic h are significant. The costs 
involved in dealing with claims  are also considerable, as liability claims may take a 
very long time to be resolved. It is not uncommon for larger claims to take between 
five to ten years to finalise. Litigati on costs increase over time and may fluctuate 
considerably from year to year. 
Between 1999 and 2004, the gross costs of awar ds and settlements incurred by Big 4 
firms in the U.S. (where data is available)  rose from 7.6% to about 11% of total audit 
revenues. Net costs in the US, including in surance premiums and recoveries from 
insurance companies, rose even more shar ply, almost doubling from 7.7% of total 
audit fee revenues in 1999 to 14.2% in 200439.  
The London Economics Study40 stated that it had not  been possible to obtain 
comparable data for the European audit firm s in individual countries. On the basis of 
interviews with audit firms41, it has been estimated however, that the total costs of 
                                                 
36 The preparation of financial statements in accordance w ith the entity’s applicable financial reporting framework 
involves judgement by management in ap plying the requirements of that fram ework to the facts and circumstances 
of that entity. Further, certain financial statement assertions  may be of such a nature that the related audit evidence 
available can only be persuasive ra ther than conclusive, or involve s ubjective decisions or assessments by 
management or a degree of uncertainty relating to the reliability of their measurement. For example, the estimation 
of the outcome of uncertain events that may only be conf irmed in the future, as may also be the case with the 
estimation of amounts reported on the basis of fair value.  
37 Under the “deep pocket” syndrome, the audit firm is typically viewed by plaintiffs as having the largest resources 
and is therefore the target of complaints irrespective of the contribution and responsibility of the firm to the event 
giving rise to the complaint. Similarly, wealthy individuals  or large corporations are often referred to as having 
"deep pockets", since it is assumed that their wealth will  not be affected materially if the risk event occurs.  
38 London Economics Study, p. 83  
39 London Economics Study, p. 83  
40 London Economics Study, pages 84 and 85  
41 The survey sample includes firms belonging to the Big 4 ne tworks as well as 20 mid-tier networks. In addition, a 
number of larger independent audit firms in France, Germ any, Italy, Netherlands, Sweden and UK were surveyed. 
 
EN 19   EN awards and settlements as per centage of revenues is probabl y lower in the EU than in 
the US. Over the period 1981 to 2003, th e average cost of individual claims42 against 
EU firms amounted to € 3.9 m (US$ 4.8 m). However, the total cost for liability 
claims faced by the major EU audit firms by policy year shows a very slight upward 
trend and considerable fluctuations in this  period, reaching a peak of almost € 400 m 
(US$ 600 m) in 1991: 
Total cost of claims against Big543/4 in the EU by policy year  
–millions of US$ at 2005 prices 
0100200300400500600700
1975
1977
1979
1981
1983
1985
1987
19891991
1993
1995
1997
1999
2001
2003
Years
 
Source: AON 
3.4. Lack of insurance capacity 
The extent of liability risks can best be measured by assessing th eir insurability. Any 
unlimited civil financial liability claim is ba sically manageable if the parties who are 
potentially liable can obtain adequate in surance coverage. However, statutory 
auditors do not have access to  such insurance coverage.  
3.4.1.  Professional indemnity insurance for smaller audits  
In nearly all Member States, professional indemnity insurance is required by law or 
under the membership rules for professional as sociations of statut ory auditors (see 
Annex 5 ). Such mandatory insurance is coupled  with additional voluntary insurance. 
Such insurance remains widely available but only for statutory audit mandates for entities which are not listed on a capital ma rket. Statutory audito rs do not appear to 
have major difficulties in finding insurance cover for these audits. However, this category of insurance does not offer effectiv e cover against the risks associated with 
                                                                                                                                                        
 
In total, 154 responses were received, of which 90 eman ate from firms belonging to the Big 4 networks and 64 
from mid-tier firms and a few large, independent firms.  
42 Such costs cover both actual payments and the reserve set aside by insurance companies in Europe to cover claims 
of audit firms which have not been yet been resolved (figures at 2005 prices).  
43 Comprises the existent Big 4 firms (Deloitte, E&Y,  KPMG, PwC) and Arthur Andersen (demised in 2002)  
 
EN 20   EN statutory audits for large and listed co mpanies, particularly those involving 
international audits. 
3.4.2.  Self-insurance 
For large audit assignments, the Big 4 a udit networks organise insurance cover 
themselves inside each of the networks. Th e difficulty in obtaining insurance cover 
from outside began in the mid 1980s when  the re-insurer (Munich Re) who had 
provided most of the reinsurance capacity for the auditors' professional indemnity 
insurance market (especially the then Big 644), withdrew from the market following 
big losses.  
From 1981 to 1992, there were only two years during which underwriting auditor 
liability, in the world (excluding the U.S.), was profitable. In the U.S., there was only 
one profitable year  during this period45. The commercial insurance market, having 
sustained losses in excess of US$ 3 bill ion up until 1992 alone, no longer provided 
adequate professional indemnity insuran ce cover for statutory auditors in the 
international audit market on a conventional "risk transfer" basis. The main reason 
has been that liability claims have  become impossible to predict.  
In the 1990s, the then Big 5 (including Art hur Andersen), faced with this situation, 
established "captive" insurance companies to cover international audit mandates. 
"Captives" are mutual insurance entities  owned by the member firms of an 
international network, who share risk by poo ling premiums to meet their individual 
claims over a long period of time. The cap tives are licensed and regulated by 
recognised EU (e.g. Ireland a nd Malta) and international (e.g. Bermuda and Cayman 
Islands) insurance regimes which are amongs t the principal insurance domiciles in 
the world. Each individual firm insured by the captive covers the lower levels of 
risks itself, through its own contributions to the captive. At higher levels of liability 
all the participating firms help meet clai ms from other firms belonging to the same 
network. Thus, significant claims adversely impact all member firms regardless of 
their individual record of claims. Howe ver, even these cap tives can no longer 
provide the levels of insurance cover needed  in today's international audit market.  
Previous studies carried out in the U.K. confirm such two-tier phenomenon, with the 
larger audit firms receiving only limited insura nce cover for particular bands of risk 
and a second tier for which the audit firms can receive effectively full insurance46. 
Today, the current level of comm ercial insurance is such that it would cover less than 
5% of the larger claims which some firms face in some EU Member States47. 
Moreover, the lack of predicta bility of future claims - in terms of both probability 
and magnitude – makes it difficult to asse ss the risk that would be assumed by 
insurance companies potentially interested in  this market. Given these characteristics, 
                                                 
44 Deloitte, E&Y, KPMG, Price Waterhous e and Coopers and Lybrand (which me rged in 1998: it is called PwC after 
the merger), and Arthur A ndersen (demised in 2002)  
45 Information received from AON, s ee: London Economics study, p. 101  
46 Moizer, P., Hansford-Smith, L.: " UK Auditor Liability: An  Insurable Risk?", in: International Journal of Auditing 
197-213, 1998  
47 Information received from Swiss Re Si gma, see: London Econom ics study, p. xxi  
 
EN 21   EN insurers have difficulty in pricing audit liability risk and, he nce, in providing 
adequate insurance coverage.  
3.4.3.  Reducing audit risks by im posing higher audit fees?  
One might assume that higher audit fees  would allow audit firms to pay higher 
insurance premiums to obtain the require d insurance coverage. Insurance premiums 
have to be sufficient to cover the expected cost of claims and all other overheads of 
the insurer and still leave a small profit. Insurance capacity might be possible, even 
for high sums, if the liability situation is clear and the price a ppropriate. But in the 
case of auditors, due to the long tail exposure of the underwritten risk (i.e. the risk of 
a claim can exist for many years after the au dit was carried out), insurers would have 
to provide an extremely long commitment  of equity. The loss data of auditing 
companies relating to litigation are help ful only to a limited extent. Although the 
number of claims is low, the severity of  the settlement is very high. There is an 
absence of reliable statistics with a clear sp lit between the manage ment cost (legal & 
appraisal fees) of claims and the pure liability  costs. Indeed, in many historical cases, 
the insurance cover has been used to pay additional audit and legal fees in order to demonstrate that the original (insured) auditors were not liable rather than to 
compensate the actual loss as a result of negligence. 
In particular, new players willing to enter the international audit market would not be 
in a position to charge such high fees, corr esponding to the liability risks, to their 
clients. There would have to be a tailored pricing system for each client to reflect the 
level of business risk that an audito r assumes when taking on a new client. 
Otherwise, in the absence of risk-adjus ted billing rates, low-risk clients must 
subsidise high-risk clients
48. German insurers estimate that if the remuneration asked 
by auditor was adjusted to include the co mpensation for risks incurred, this would 
require such an increase in audit fees  that it could not/would not be borne by 
principal clients. German insurers estimate that the volume of all audit fees would need to be increased by at leas t 30%, which is not realisable. 
Accordingly, it is not feasible to obtain a premium that truly reflects the loss 
exposure or the premiums are disproportiona te to the work undertaken by the auditor. 
3.4.4.  Financial capacity of the audit firm and the individual audit partner  
The limited company structure for audit firms is allowed in Europe
49 and audit firms 
in general use this structure. An exception is the UK, where the large firms are set up 
as limited liability partnerships. Neverthele ss, partnership-like corporate structures 
are also commonly adopted by audit firm s across the EU Member States. For 
example, a firm having a limited liability company legal form often have ownership 
distributed among senior managers with no outside shareholders, as in the case of 
                                                 
48 Moizer, P., Hansford-Smith, L.: " UK Auditor Liability: An Insurable Risk?", in: Intern ational Journal of Auditing 
197-213, 1998  
49 See Annex 1 to the 2007 OXERA study on ownership st ructures which provides an overview for 18 Member 
States: Austria, Belgium, Cyprus , Czech Republic, Denmark, France, Germany, Greece, Hungary, Italy, 
Luxembourg, Netherlands, Poland, Port ugal, Ireland, Spain, Sweden, United  Kingdom; Oxera Consulting Limited, 
Oxford, UK: "Ownership rules of audit firms and their c onsequences for audit market concentration ", October 
2007 (hereafter, referred to as the Oxera Ownership study)  
 
EN 22   EN partnerships. In fact the majority of audit firms in the EU are employee-owned50. The 
ownership of audit firms is typically evenly  distributed between the senior employees 
of the firm. 
However, the limited company structure only  helps in protecting the personal assets 
of individual auditors. It is not a means fo r ensuring that an audit firm and even a 
network can survive a major audit claim. 
Audit firms have limited financial resources51. They do not possess a capital base for:  
• coping with significant liability claims; and  
• building a financial buffer against the volatile liab ility exposures. 
Instead, firms may have to ultimately rely  on contributions by in dividual partners. 
However, would such partners still ha ve an incentive to pay contributions, 
particularly if there were to be a very si gnificant claim or would partners let the audit 
firm collapse? London Economics conclude d that the risk that such a catastrophic 
claim  could wipe out an audit firm is real. Whilst an audit network might be able to 
deal with one claim, a second claim of sufficient magnitude might not be covered 
soon afterwards, as it would take time to build up the necessary reserves and hence 
the audit network might fail. London Economics presented the following 
simulation52:  
                                                 
50 Oxera Ownership study  
51 See Oxera ownership study.   
52 London Economics Study section 17, page 106  
 
EN 23   EN  
Estimates of award/settlement threshold above which a major UK firm53 
would fail – in € millions 
Threshold 
assumptions54 Deloitte E&Y KPMG PwC Hypothetical 
firm with €200m 
in turnover 
15% cut in 
Partner income 
over 3 years 
and 10% 
reduction in profitability  
 
325  
 
170  
 
240  
 
365  
 
28 
20% cut in 
Partner income 
over 4 years and no 
reduction in 
profitability  
 
480  
 
255  
 
355  
 
540  
 
42 
Source: London Economics 
Against this background, audit firms in the EU report that  they face a considerable 
number of high-value, actual or potential claims for damages ar ising from statutory 
audits. These claims would put  audit firms at risk if th ey materialise. As of 31st 
October 2005, EU audit firms from the six biggest networks (the Big 4 as well as Grant Thornton and BDO) indicated that thei r risk managers were dealing with 28 
outstanding matters that could give rise to  individual claims each in excess of € 75 
million; 16 of these claims each exceeded € 160 million and in five cases, the individual amounts being demanded were in excess of € 750 million. According to the audit firms, six of the 28 outstandi ng matters fell under US jurisdiction. The 
remaining matters originated from cases within the EU
55. 
                                                 
53 Representatives of the Big 4 firms informed London Econom ics that it would be reas onable to assume that the 
capacity of absorption of each firm is broadly proportional to the number of part ners in the firm. Thus, for example, 
in case of PwC, the capacity of absorption of the German fi rm would be about half of that of the UK firm and that 
of the French firm about a tenth of the UK firm.  
54 In the first scenario, in which the part ners accept to take an income cut of 15% for 3 years and the profitability of 
the firm falls by 10%, estimates of the capacity of absorption of a Big 4 firm range from € 170m to € 365m 
depending on the firm. This would be the maximum amount  (either one single claim or multiple claims not 
exceeding this amount in total) which a firm could a fford to pay in award or settlement without gravely 
endangering its survival once the limited insurance cover provi ded through the captive is e xhausted. It would not be 
able to sustain a second claim of such size in the imme diate period following the settlement  of the first claim, as its 
resources and that of the captive would need to be rebuilt  over a number of years. In the second scenario in which 
partners make a greater contribution, the absorption cap acity ranges from € 255m to € 540m. Such funds would be 
available to settle any number of claims, but obviously, the larger the number of claims to settle, the smaller the 
amount per claim a firm can afford. Curre ntly, in the UK, there are six claims or potential claims in excess of € 
250m.  
55 AON – Actual Claim Data by policy year – 1975- 2005, EU figures by policy year 1975-2005, 2005  
 
EN 24   EN Significant claims against European audito rs reported in the pa st were Lernout & 
Hauspie (KPMG Belgium)56, Postabank (Deloitte and Andersen Hungary), Finance 
Credit (KPMG Norway), Banque Cantonale  de Genève (E&Y Switzerland) and 
Equitable Life (E&Y UK) and th e Parmalat case (Deloitte Italy57). 
Respondents to the Commission consultation paper were much more divided on the 
existence of the risk of catastrophic cl aims facing audit firms. Some of them 
accepted the issue, noting that catast rophic claims can drive settlements58, which is 
clearly an unattractive featur e for insurers. However, othe rs were not convinced that 
catastrophic claims might actually lead to th e failure of an audit firm. For instance, in 
their opinion the ultimate failure of Arthur Andersen resulted not from its financial 
liabilities, but because companies switche d to other major audit firms as they 
immediately lost confidence in Ar thur Andersen a nd its reputation59. But either 
which way, loss of reputation or  catastrophic claim, or a mix of both could reduce the 
Big 4 to Big 3 and that would affect the choice of some international companies.  
3.5. Which market participants are affected? 
Audit profession  The high audit risk exposure, combined with a lack of insurance cover for statutory 
audits of large companies makes the audit profession less attractive
60. In particular 
the major audit firms, which are exposed to high audit risks, have experienced 
                                                 
56 In October 2004 it was reported that KPMG US and its Be lgium affiliate had agreed to pay US$ 115m to settle a 
shareholder lawsuit related to the audit of Lernout & Hauspie Speech Products (L&H), a once high-flying global 
speech recognition software firm which was based in Belgium but traded on the Nasdaq. When the settlement was 
announced, it was reported that two other suits remained pending. KPMG's US and Be lgian firms have reportedly 
been sued in the US Bankruptcy Court in Delaware fo r US$ 340m by the trustee charged with helping L&H's 
creditors pursue legal claims. Also still pending was a se parate claim by L&H's Belgian liquidator for US$ 427m 
against KPMG's Belgian affiliate.  
57 Parmalat, an Italian dairy group, filed for insolvency in December 2003, with about US$ 17.3 billion of debt, after 
realizing there was a massive US$ 4.9 bi llion discrepancy in its books. Its audito r, Deloitte, was facing four claims 
in connection with allegations that they  helped to prolong fraud at Parmalat prior to its collapse. In January 2007, 
Deloitte reached an accord with Parmalat, agreeing to pay US$149m (€115m) to settle  those allegations. see: 
http://search.ft.com/ftArticle?que ryText=parmalat&page=2&id=070113005661&ct=0  
58 Settlements are often higher than they might be because it is safer for audit firms to agree a large amount than run 
the risk of losing in court and being fined a much larg er amount or, even more impor tantly, a firm may settle to 
avoid further reputational damage.  
59 Morley Fund Management: "Bringing Audi t Back from the Brink (Auditor liability and the need to overhaul a key 
investor protection fra mework)", February 2004.   
60 According to a MORI survey, recruitment and trust are se en as the top two challenges facing the profession. When 
asked to rate a number of issues on a one to ten s cale, 90% gave a rating of seven or above to the 
recruitment/retention of high quality staff. This was closely followed by 85% who placed similar emphasis on 
restoring trust/confidence in the audit profession. Of part icular concern to partners was the question of unlimited 
liability. Almost half (45%) gave this a rating of ten.  
 Two-thirds (67%) of auditors saw a career as an auditor as less attractive than it was two years ago, a particular 
concern among more senior staff, with 78%  of partners and directors stating this  was the case. Just 6% of partners 
said it was more attractive. The survey  results cast some light on the reasons  for this concern. Two-thirds (68%) – 
and 83% of partners – believed potenti al liability in cas es of corporate wrong-doing was making the profession less 
attractive, while half (49%) disagreed that changes to the regulation of the profession would not affect the ability to 
recruit quality auditors.  See results of MORI, Auditor career and working life survey, January 2005.  
 
EN 25   EN difficulties in retaining talented professional staff, who can then go on to become 
partners61.  
Companies 
For companies listed on European capital markets, the principal influence in the 
selection of the statutory auditor is the Board's Audit Committee62. However, in 
practice, the company's Finance Director  (CFO) also plays an important role63. 
Therefore, it is these two pa rties that are most directly affected by the limited choice 
of statutory auditors64. In certain sectors (primarily in the banking and insurance 
sector) companies have littl e/no effective choice of st atutory auditors. Companies 
feel that this increased concentration re duces competitive pressure in the statutory 
audit market for large listed companies65. As a result, the limited choice may impair 
the ability of audit committees/boards to cha nge statutory auditors and their ability to 
effectively negotiate audit fees with statutory auditors66.  
Currently statutory auditors and manage ment can be (in most European legal 
regimes) jointly and severally liable for a company's failure. Whereas management 
can limit their risks by obtai ning Directors and Officers Liability Insurance (D&O 
insurance), statutory auditors face a lack of insurance cover for audits of large 
companies. In contrast to the situation faci ng major audit firms, the liability risk of 
directors and officers can be spread am ongst many D&O policy holders in several 
thousand listed companies in the EU67.  
Investors 
Investors (shareholders, bondholders) rely on the independent audit opinion on a 
company's financial statement68. Therefore, investors are affected by the lack of 
                                                 
61 According to the U.S. Bureau of La bour Statistics, the demand for accounting graduates is predicted to grow 18-
26% through 2014, see: US Advisory Committee on the Aud iting Profession, Working Di scussion Outline, October 
2007 
62 According to Art 41 of the 8th Direc tive, the decision to appoint an audito r will be based on the recommendation of 
the Audit Committee. Based on this recommendation, the auditor will be appointed by the company's board or 
shareholders.  
63 London Economics study, P. 54  
64 For instance, over one-third of the FTSE 350 audit comm ittee chairs in the UK do not feel that their company has 
sufficient choice of auditor. See Oxera: "Competition and choice in the UK audit market. Report prepared for 
Department of Trade and Industry and Financial Reporting Council", April 2006  
65 Oxera Competition study, P. V  
66 For instance in the US, audit fees have increased 271%  between 2001 and 2006; However, this increase was also 
driven by the implementation of the requirements under the Sarbanes-Oxley Act. The figures stand in stark contrast 
to the UK, where audit fees for major companies (ranked in the FTSE 100) increased by just under 1% between 
2003 and 2006. See : 
 http://www.accountingweb.co.uk/cgibin/item .cgi?id=171453&d=1025&h=1024&f=1026&dateformat=%25o%20
%25B%20%25Y 
 In France, audit fees for companies listed in the CA C 40 increased in the period 2005-2006 by 11%. However, a 
major part of this increase was related to US-listed Fren ch companies, which were obliged to apply Sarbanes Oxley 
requirements the first time in 2006. See: 
 http://www.amf-france.org/ documents/general/7874_1.pdf  
67 London Economics study, P. 102  
68 85% of investors perceive the annual st atutory audit adds value; 73% of inve stors believe that the added value is 
due to the independent process and opinion thereb y reducing investor risks;  see: ICGN/GPPC survey  
 
EN 26   EN choice between statutory auditors in the international audit market69. Lack of choice 
could affect investor confidence in the eff ective operation of the audit market, due to 
a perception that the major play ers have too much market power70. On the other 
hand, institutional investors cons ider the “Big 4” audit ne tworks as a guarantee and 
even as an insurance of last reso rt against corporate malpractice.  
An even more significant impact on inve stor confidence may come from concerns 
that the current level of concentration is undesirable.  The experience following the 
dissolution of Arthur Andersen  has led to a perc eption that the audit market is close 
to the point where the loss of another large audit firm is possible. Such a loss would 
compound existing market dynamics and could lead to a crisis of confidence in the financial status of a large num ber of ‘high-risk’ companies
71. As a consequence, the 
potential damage to investor confidence, in particular to institutional investor 
confidence, could result in an increase in the cost of capital72.  
Insurers 
Insurers are unwilling to offer insurance cove r in the international audit market due 
to the potentially high risks associated with statutory audits for large listed 
companies, and the fact that this risk cannot be adequately  diversified (i.e. a portfolio 
comprising of only four audit networks).  
Public Oversight 
The new Directive on Statutory Audit requi res Member States to establish and 
organise independent public oversight of the audit prof ession. These new European 
audit regulators have to monitor statutory audits for compliance with the professional 
duties73 thereby ensuring adequate audit quality. In the past, audit quality was 
controlled by the audit profession through pro cesses such as peer review, or was not 
controlled at all. Therefore, the risk of lia bility law suits and investigations were two 
of the principal mechanisms for ensuring audit quality.  
Other stakeholders 
In general, an increase in the cost of capital, due to a loss of investor confidence in 
capital markets, could lead to less efficient li sted companies, which in theory at least, 
would have a negative effect on employment.  Obviously, should one Big 4 audit firm 
disappear for whatever reason, the impact on the firms' employees would be direct 
and substantial74.  
                                                 
69 80% of investors assess the level of choice to be insufficien t; 65% of investors perceive the level of competition to 
be insufficient; see: ICGN/GPPC survey  
70 Oxera Competition study, P. V, 86  
71 Oxera: "Competition and choice in th e UK audit market. Report prepared for Department of Trade and Industry and 
Financial Reporting Council", April 2006, P. V, 86  
72 In contrast, it is rather unlikely that cost of capital is af fected by even a sharp increase in audit fees, as the share of 
audit fees in company's total operating costs is relatively small.  
73 In particular the 4th and 7th Company Law Directives as well as the banks and insurance companies Directives.  
74 The Big 4 member firms employ in total mo re than 500.000 professionals around the world . 
 
EN 27   EN 3.6. Does the EU have the right to act? 
The market for the provision of audit serv ices and the related liability risks has 
global significance, given the importanc e of the audit function to the smooth 
functioning of capital markets.  
The major audit networks not only lack adequate international insurance cover for 
their activities, but there is also a question of "lack of choice" wh ich cannot be solved 
solely by individual Member States. There is  a need to assess what action - if any - 
should be taken at the EU level. In Eur ope, only a few Member States have some 
form of limitation on auditors' liability and only seven Member States offer mechanisms mitigating the current excessi ve unlimited litigation risks, and the 
consequential difficulties that major audit fi rm networks face in obtaining insurance. 
The European Parliament requested the Co mmission to address the liability aspect 
under the 2006 Directive on Statutory Audit. Article 31 of the Di rective accordingly 
invited the Commission to prep are a further analysis and, if appropriate, take action. 
Any action on auditors' liability should be li mited to the cases of a statutory audit of 
the consolidated or the annual accounts of  a company which is registered in a 
Member State and the securities of which are admitted to trading on a regulated 
market in a Member State. 
4. O
BJECTIVES  
Trust in capital markets is a necessary condition to enable those markets to allocate 
capital efficiently. It is necessary to en sure the efficient functioning of financial 
markets and to preserve investor confidence in financial statements. The general objectives for this impact assessment are: Reduce the risk to capital markets that 
statutory auditors might no longer be av ailable to audit listed companies; and 
• Facilitate access to the international stat utory audit market (in order to encourage 
more auditors to audit large and listed companies) 
To achieve these general objectives, the fo llowing specific objec tives are defined: 
• Achieve fairer liability risk e xposure for statutory auditors  
• Facilitate access to professional indemnity insurance for statutory auditors  
• Encourage investments into the expansion of audit firms  
• Reduce differences in liability regimes across the EU.  
5. P
OLICY OPTIONS  
5.1. No EU action (Option 1 ) 
This option would leave it to market forces  and Member States to take autonomous 
action thereby addressing also any cross-border problems within the EU. 
 
EN 28   EN Keeping the status quo means that Commissi on would be of the view that liability 
risks are considered to be a purely domestic problem. However, the insufficient level of professional insurance available for intern ational audits is not expected to improve 
considerably in view of th e existing litigation risk exposure. Thus, statutory audit 
firms would continuously face ri sks of large claims that would have to be covered by 
themselves, either through their network captives or, once such limited cover has 
been exhausted, by the partners within the audit network. Without any EU action 
towards limiting liability, mid-tier audit firms would continue to be reluctant to enter the international audit market. Other play ers would also conti nue to refuse to 
consider investing in audit firms. Major clai ms could even threaten the survival of an 
audit firm thus reducing the number of few players on the supply side. 
Accordingly, the structure in the intern ational audit market would continue to 
solidify.  
5.2. Possible options in substance 
A reform in this area is primarily aimed at  facilitating access by (n ew) entrants to the 
international audit market. Policy action will not deal with competition regulation issues, since the Commission has already examined the impact of previous mergers 
between audit firms on European markets, for example the merger of Price 
Waterhouse and Coopers & Lybrand in 1998
75 and the mergers between Arthur 
Andersen and Ernst & Young / Deloitte Touche in 200276. The following options are 
put forward as possible steps which coul d be taken to achieve the objectives: 
5.2.1.  Compulsory insurance for a ll auditor liability risks ( Option 2 ) 
As outlined above, commercial insurers cu rrently do not provide sufficient insurance 
cover for statutory auditors in the internati onal audit market. This is due to the lack 
of mutualisation (diversification) of audit lia bility risks (since there are only a limited 
number of participants in this market), the la ck of predictability of such liability risks 
(in terms of both probability and magnit ude) and the differences between liability 
rules. Given these characteristics, insurers  have difficulty in pricing the risks at 
international level and as a result in providing adequate insurance cover77.  
Since the insurance market is not able to  close this "insurance gap", one policy 
option could be to make insurance of a ll liability risks compulsory using new 
legislation at EU level. As the risk e xposure for statutory auditors would remain 
unchanged, the audit profession would not be  able to pay the necessary premiums. 
                                                 
75 On 1st July 1998, the merger between Price Water house and Coopers & Lybrand received formal regulatory 
clearance from the Commission. See COMMISSION DECISION of 20 May 1998 declaring a concentration to be 
compatible with the common market and the functioni ng of the EEA Agreement (Case No IV/M.1016 - Price 
Waterhouse/Coopers & Lybrand).  
76 Following the demise of the Arthur Andersen audit network,  most of its country practices around the world were 
sold to members of other Big 4 audit networks, notably  Ernst & Young globally and De loitte & Touche in the UK. 
In 2002, the Commission examined the impact of such merger s in several important Member  States, in particular in 
UK, Germany and France. After examining these cases, the Commission concluded that the mergers did not raise 
serious doubts as to their compatibility with the co mmon market and the EEA Agreement. See: Commission 
Decisions on Deloitte & Touche / Andersen (UK) of  1 July 2002, Ernst & Young / Andersen Germany of 27 
August 2002, Ernst & Young France / Ande rsen France of 5 September 2002.  
77 London Economics study, P. 102  
 
EN 29   EN The economy at large would be called upon to  finance such a compulsory insurance 
system. As a consequence, the insurance risk s would be transferre d to and diversified 
over a much broader base. The following possibilities are conceivable: 
• investors might be required to pay a levy on every security transaction78, or 
• companies could be forced to buy insurance cover for the auditor79.  
The premiums could be allocated to a compensation fund or an insurance pool at 
international level. An alternative route could be to securitise audit failure risk; 
securities could hence be packaged in a way to reflect underlyi ng cash flows – e.g. 
premiums and the related risks of audit failure.  
As a last resort, one might even consid er the possibility that governments (and 
effectively tax payers) take over liabilities for the part of any claim exceeding a pre-
agreed threshold80. 
A governmental scheme would reinforce even  further the moral hazard argument for 
the audit profession, whilst taxpayers, comp anies and the investor community would 
not appear to derive any benefit.  
5.2.2.  Establishing “safe harbours” ( Option 3 ) 
Another option could focus on reducing the risks of auditing activities by excluding 
certain activities with a higher risk profile  from the auditors' liability. A mechanism 
to achieve this outcome would be to in troduce so-called safe harbour provisions. A 
safe harbour is a provision that reduces or e liminates a party's liab ility under the law, 
provided that the party has acted in good faith. Legislators in clude safe harbour 
provisions to protect legitimate or excusable violations. For instance, in the US safe 
harbour provisions were introduced in 1995 for certain forward-looking information 
provided by companies in the management's  discussion and analys is ("MD&A") that 
is included with filings with the US Security Exchange Commission (SEC) containing a financial statement
81.  
Another example in the EU of a safe harbour type provision is the limited 
responsibility of the statutor y auditor for information c ontained in the annual report 
("Management Report") under the 4th Directive82. The statutory auditor has to verify 
only whether the management report is consis tent with the financial statements for 
the same financial year. The auditor is not  obliged to conduct a full scope audit on 
                                                 
78 London Economics study, p. 113/4  
79 London Economics study, p. 114; Lawrence  A. Cunningham, Securitizing Audit Fa ilure Risk: an alternative to caps 
on damages, 49 William&Mary Law Review 3 (2007), http://ssrn.com/abstract=1012919  
80 Terrorism insurance and nuclear insurance are or  were provided under sc hemes in similar form.  
81 The US Private Securities Li tigation Reform Act of 1995 adopted a statutor y "safe harbour". In order to minimize 
an auditors' exposure to legal liability, the safe harbour prot ects "any reports issued by an outside reviewer retained 
by an issuer who address a forward-looking statement by the issuer". See: Paul Munter: "Safe Harbor" under the 
private securities lit igation reform act of 1995; in : The CPA Journal, August 2000  
82 According to the Fourth Council Directive 78/660/EEC of 25 July 1978, the annual report must include a fair 
review of the development of the company's business and of its position. It must also provide information on any 
important events that have occurred since the end of th e financial year, the company's likely future development 
and activities in the field of research and development.  
 
EN 30   EN the management report. Consequently, the a uditor can only be held liable in cases 
where the management report contains inc onsistent or contradictory information 
compared to the financial statements. 
Minimising audit risks associated with ma nagement reports can be justified by the 
fact that they include predominantly forward-looking information, which can be 
verified only to a ve ry limited extent by external aud itors. Safe harbour provisions 
encourage companies to disclose more usef ul information to i nvestors which would 
otherwise (i.e. under full liability risk exposure) not be disclosed. 
By way of contrast, financia l statement assertions are determined fundamentally on 
the basis of objective and verifiable facts (i.e. historical info rmation). Introducing 
safe harbour provisions for the application of the audi tor's professional judgement 
with regard to certain, "risky" financial statement assertions83 (e.g. fair value based 
assertions) would create a situation of moral hazard. The auditor would no longer 
feel fully responsible for the correctness of financial statement assertions. This 
"responsibility gap" could not be adequately  closed by other part ies (e.g. regulators), 
leaving investors with the concern that particular assertions in financial statements might not be reliable.  
An important downside would be that inte rnational standard setting in accounting 
and auditing could no longer be based on pr inciples which companies and auditors 
should apply on the basis of sound professi onal judgment. Instead, standards would 
become a target for liability driven “s afe harbour” provisions  containing a great 
degree of detail and working as arbitrar y shields for preparers and auditors of 
financial statements. Furthermore, such a re sult would defeat th e overall policy of the 
European Union to follow international standards in accounting (introduced by the 
IAS-Regulation in 2002) and to perhaps in troduce international standards on auditing 
(an option foreseen under Article 26 of the Directive on Statutory Audit). 
5.2.3.  Limiting auditors' liability ( Option 4 ) 
Two main methods for limiting liability are cu rrently in force in the Member States - 
a cap and proportionate liabil ity (liability proportionate  to the extent of the 
contribution of the auditor to the damage caused). The main difference between these 
methods is that a cap (the maximum settlement amount) is known in advance whereas under proportionate liability th ere is no maximum and the actual amount 
remains unknown until a final decision is taken by courts. However proportionate 
liability is linked directly to the degree of  fault associated with each “guilty” party, 
whereas a cap can be seen as a more arbitrary figure allo wing predicting the 
maximum to be paid by an audit firm. 
An initiative for limiting liability could be  therefore approached in three main 
different ways: 
                                                
 
83 E.g. financial projections, future management plans and objectives, or statements of the future economic 
performance  
 
EN 31   EN 5.2.3.1.  Harmonisation on the basis of capping liability ( Option 4a ) 
This option focuses on introducing liability caps throughout the EU. The most radical 
solution would be to introduce a uniform fixed monetary cap at EU level (for 
example a cap up to €10m or €100m). Nevertheless, it would be difficult to set an amount of cap or a method to calculate a cap which would suit all the Member 
States. Due to different economic conditions and legal traditions in Member States, 
the "fairness" of a uniform liability cap on EU level might be perceived by Member States and market players unequally. Whils t countries with a cap for many decades 
might prefer keeping "their cap" at a more modest level of €4m or €12m
84, other 
Member States might want to have a mu ch higher fixed cap of perhaps €100m or 
even more. 
Alternatively, one could accordingly fix a range of methods for limiting liability 
amongst which the Member States should choo se (e.g. determining a liability cap by 
a formula, depending on the company's size or on the audit fees charged to the company). 
If liability were to be capped by an EU  instrument, the results of the public 
consultation show a preference within the audit profession to determine a cap that 
would be based on a multiple of audit fees. Nevertheless, there are arguments against 
this option. The main fears of mid-tier aud it firms and investors would be that a cap 
based on audit fees could lead to "fee dumping" as it would be an incentive for audit firms to negotiate fees down in order to minimise liability. Auditors could charge 
lower audit fees and recove r their costs from fees for non-audit services. Imposing 
such a method might therefore be unacceptable for many Member States. It would also oblige Member States who already have a cap to change their system.  
Therefore this option would consist of in troducing a cap but would not set a fixed 
amount of cap at EU level nor a single method for calculating one. 
Liability caps might be either implemen ted by law (as in Germany, Austria or 
Belgium) or possibly by contract ual arrangements (like in the UK
85). However, an 
EU-wide harmonisation by contractually arrang ed caps would not be feasible, as in 
many Member States the liability of auditors  is based on tort law and not on contract. 
Moreover, such contractual solutions would not be effective everywhere, as unlike in 
the UK case law, shareholders which are not bound by the contract, can introduce claims against statutory auditors in the majority of Member States
86. Consequently, a 
harmonisation of liability regimes could effectively be implemented only by law and not by contracts allowed under national law.  Harmonisation on the basis of statutory 
caps would address all the objectives described in section 4. A cap would reduce the magnitude of potential settlements for audito rs and thereby achiev e reduced liability 
risk exposure for auditors. Furthermore, capping the magnitude of potential claims 
                                                
 
84 For example Germany or Austria  (see Annex 3)   
85 See FRC consultation paper of December 2007. However, the consultation paper notes that a cap might probably 
not obtain the required shareholder c onsent as UK investors oppose a cap.  
86 The contractual solution is workable in the UK where, in  the case of statutory aud it of annual accounts, claims 
against auditors can be introduced only by the company and not by the individual shareholders or other third 
parties.  
 
EN 32   EN would enable insurers to better ascertai n liability risks and t hus improve insurance 
coverage. Finally, the introduction of a cap at the EU level would reduce differences 
of the liability regimes across the EU. However, it depends on the individual cap 
whether the risk exposure w ould be sufficiently reduced and partners of mid-tier 
audit firms or new players would feel enco uraged to invest into the expansion of 
audit firms. 
5.2.3.2.  Harmonisation on the basis of proportionate liability ( Option 4b ) 
This option focuses on introducing a uniform liability "principle" i.e. proportionate 
liability throughout the EU. If proportionate liability we re to be applied audit firms 
would be only liable to the extent of th eir contribution to the damage caused, without 
being financially liable "in solidum" with other parties. 
In theory, proportionality might be implem ented either by law (like in Hungary) or 
possibly by contractual arrangements (lik e in UK). However, as described under 
Option 4a, an EU-wide harmonisation by contractual limitations would not be feasible in many Member States.  
Harmonisation on the basis of proportional ity would address all the objectives 
described under section 4. Some stakeholders  (in particular investors) might even 
perceive proportionality to be  a "fairer" method to limit li ability, compared to a fixed 
liability cap, because the liability risk of auditors would not be limited to a certain 
amount, but to the proportion of their contribution to the damage. Whilst 
harmonisation based on proportionate liability could not fully address the concerns of 
insurers in terms of the magnitude and pr edictability of potential claims, it would 
reduce differences in the liability regimes across the EU. 
5.2.3.3.  Convergence of national liability regimes ( Option 4c ) 
To date, cap and proportiona te liability are the methods  used in Member States. 
Other methods for limiting liability could also be appropriate under some circumstances. For example, the UK ha s allowed under its company law for a 
limitation of liability of auditors by cont ract in 2006 and is currently considering 
giving guidance to the markets how to appl y the new law in practice. Contractual 
arrangements limiting liability will be possible as from June 2008 onwards. One 
possibility considered is a general test of fairness that would be performed by a court. 
A mix of different methods of limitati on of liability (for example cap plus 
proportionality) is also conceivable.  
(1) Therefore as an alternative to harm onisation (options 4a and 4b), Member 
States could be first encouraged to introduce a limitation into their liability regimes. The EU measure would only fix the objective of having a limitation 
but not the precise method of achieving the limitation. This objective could be 
implemented by introducing high-level principles to ensure that the limitation is fair both for the auditors and for the other stakeholders. 
(2) Member States would have the choice between measures such as a cap or 
proportionate liability or ot her methods as they see f it. This could include the 
possibility for auditors to negotiate th e limitation of their liability by contract 
or by a mixture of different methods. In  this way, every Member State would 
 
EN 33   EN be invited to introduce a liability limitation, taking into account their own 
systems and circumstances. Limitations should again not apply in cases of intentional misconduct by the auditor. 
This solution, which should encourage the co nvergence of national liability regimes, 
would address the first three specific objec tives for the same reasons as described 
under options 4a and 4b. However, since Me mber States might opt for different 
solutions, the impacts on the objectives might  vary. This option would give Member 
States the opportunity to converge over tim e and learn from each other (evolutionary 
approach). It would reduce differences of th e liability regimes across the EU to some 
degree, as all Member States would ha ve some limitation, but this could be 
calculated by different methods. 
5.3. Screening of the options 
Under section 5.2, a number of policy options  have been presented. However, some 
of the options will not satisfactorily achiev e the objectives as set out in section 4. 
• Option 2:  focuses on insuring liability risks by parties other than auditors. This 
would certainly increase the number of inte rested audit firms to enter the market. 
Option 2 would however not meet the objecti ves set in section 4. As it is already 
impossible to price liability risks in audi t fees, it would equally not be workable 
for insurers to price their risks under op tion 2. Accordingly, this option would not 
facilitate the access to professional indemn ity insurance. Even if that objective 
were achieved, option 2 would impose sign ificant additional costs on companies, 
investors or – what is the likely outcom e – taxpayers via governmental action. As 
a result, liability risks would be shifted fr om auditors to the public at large. The 
current model of a private audit firm on th e supply side would be broken. Market 
failure on the supply side would be repair ed by the demand side or even the public 
(i.e. taxpayers) at large. On the other hand, this policy option would be a major 
concession to the audit profession currently  in this business. They would receive 
considerable relief from the need to s eek insurance coverage. Furthermore, the 
proposal would have the potential to expose the audit firms to a significant risk of 
moral hazard
87 as there would be far fewer conseq uences of audit failure. Such an 
insurance regime would insulate the auditor from any risks related to his or her professional behaviour. Th e auditor would be much less concerned about the 
negative consequences of th e risks, when compared to today. As a result, this 
might have negative effects on audit quality. 
• Option 3 : might limit the risk exposure for au ditors, since it focuses on "carving-
out" certain liability risks from the audit activity (“safe harbour”). However, 
negative trade-offs, particularly with rega rd to quality in financial reporting and 
auditing, would be significant. In addi tion, “safe harbours” would need to be 
anchored in international standards ther eby defeating the generally acknowledged 
aim that such standards should remain pr inciples-based. Minimising audit risks by 
safe harbour provisions w ould certainly reduce the ri sk exposure for statutory 
auditors, particularly when carving out  certain audit activities from liability. 
                                                
 
87 Moral hazard refers to the prospect that a party insulated from risk (such as through insurance) will be less 
concerned about the negative consequences of the risk than they might otherwise be.  
 
EN 34   EN However, insurers might find it difficult to assess in which case a specific safe 
harbour provision limits the magnitude of  potential liability claims. Therefore, 
such an option could be expected to have only a limited impact on improving the 
insurability of the audit profession. Du e to the likely limited impact of safe 
harbour provisions on the auditor's risk exposure, such an option would not be particularly effective in assisting new entr ants into the international audit market.  
In contrast, options 4a, 4b a nd 4c appear to address al l the objectives, although the 
impacts of the individual options would differ. Therefore, these three options will be further compared to Option 1 "No action at the EU level".  
5.4. Legal instruments 
• It is difficult to imagine how liability risks could be addre ssed by self or co-
regulation. Firstly, self-regul ation works best where there are a limited number of 
stakeholders with similar interests - aud itors' liability typically involves a large 
number of stakeholders, often with dive rgent interests (e.g. auditors and their 
regulators, companies, insurers, inve stors). Secondly, the assessment of the 
current situation demonstrates a degree of market failure where market forces have not been able to address the i ssue on their own. Rely ing upon self or co-
regulation would therefore be an ineffective mechanism to achieve the best 
outcome. Also, given the many national lega l differences, self and co-regulation 
are unlikely to succeed and in such case s developing recommendations is perhaps 
a more reasonable alternative
88. Finally, liability is determined by law, for 
example tort law; and such self or co-regul ation seems to be an inappropriate tool 
in this context. 
• For Option 4a and 4b : These options could possi bly be achieved by a non-
binding instrument (e.g. a recommendation). However, a binding legal instrument 
(e.g. a directive) would bring about measur able effects within a specific timeframe 
and would be the best, if not the only wa y to achieve harmonisation at EU level. 
In contrast, Member States could at  any moment decide not to follow a 
recommendation. Therefore a directive appear s to be the most suitable instrument 
to implement options 4a and 4b.  
• For Option 4c: A recommendation would be an  appropriate instrument, as it is 
non-binding on Member States, but should ac t to stimulate acti on in this area. 
Many respondents to the public consu ltation emphasise that any Commission 
action should give maximum flexibility to Member States. It could also be 
envisaged that the content of the option 4c could be implemented by a directive. 
This would ensure that all Member States  would have to limit liability in some 
way, but they would each decide for themselves the method of limitation. 
Therefore two ways of implementing th e option 4c, by a recommendation or by a 
directive, appear to be feasible and will be considered further.  
                                                 
88 See the recommendations, page 6 of EIM study in 2006 fo r DG ENTR on self and co-regulatory practices in the 
European Union  
 
EN 35   EN 6. ANALYSIS OF IMPACTS  
6.1. No EU action at the EU level (Option 1) 
This option would continue the approach of leaving the resolution of the issues 
outlined in section 3 to market forces. Ho wever, the structure of the international 
audit market would appear unlikely to improve in the coming years should this option be adopted
89.  
6.1.1.  Impact of market forces in the future 
Responding to the demands of the companie s (reputation, capacity and geographical 
spread of audit firms) needs time and res ources. Mid-tier networ ks would have to 
undertake significant investments in this re gard. Due to their superior financial 
capacities, Big 4 firms could continuously strengthen thei r market position over this 
period by significant investments into thei r brand, human capital and geographical 
spread90.  
Barriers (liability risks/lack of insurance) are still likely to constrain the scope and 
breadth of the presence of mid-tier firms in the market for larger audits over the coming years. If such failures are not addr essed, it is unlikely  that mid-tier audit 
firms, even if merged or c onsolidated, could ever become a major alternative to the 
Big 4 audit networks in the foreseeable future. 
Due to the volatility of the market capita lisation of the audited companies, audit 
firms would continue to face increasi ng litigation risks when auditing such 
companies. Since the current insurance ma rket does not already provide sufficient 
professional indemnity insurance coverage fo r these risks, successful liability claims 
would need to be covered by the firms th emselves, either through network captives 
or, once the limits of such cover had been exhausted, by the partners within the audit 
network. 
As there is little likelihood of insurers be ing better able to mu tualise and diversify 
liability risks across more audit firms, the inadequate level of professional insurance available to statutory auditors is not expected to improve materially. 
One might argue that there would perhaps be no need for liability reform if the 
insurance capacity to cover the risks relate d to major internati onal audits could be 
restored by market forces. However, for ex ample, in Belgium, the lack of domestic 
insurance capacity drove liability refo rm in 2005 (see section 6.1.3 below). This 
strongly indicates that limiting auditors' liabi lity would be a necessary first step to 
also solve the problem of the lack of suitable insurance.  
                                                
 
89 London Economics study, P. 209  
90 In 2007, all Big 4 audit firms have re ported again a significant growth in reve nue, particularly to the strong growth 
in emerging markets like China. KPMG reported global revenues of $19.8bn, up 12.7 per cent in local currency 
terms. This compared with a 12.6 pe r cent increase to $23.1bn at Deloitte, 11 per cent to $21.1bn at Ernst & Young 
while PwC grew 10.5 per cent to $25.2bn . 
 
EN 36   EN 6.1.2.  The Big 3 scenario and its conse quences for the capital markets 
Constantly high liability risks might be one of the reasons for a fu ture collapse of one 
of the Big 4 networks (see  also section 3.2.3 above). 
Self insurance of audit firms has only limited capacities. As mentioned above, 
London Economics estimated that the maximum absorption capacity of a Big 4 firm ranges from € 170m to € 365m depending on th e firm. A firm would not be able to 
sustain a subsequent large claim (or series  of smaller significant claims) in the 
immediate period following settlement of the first claim before its resources had 
been rebuilt, which would take several year s. Such a scenario is possible - in 2005, 
EU audit firms from the six biggest audi t networks were faced with 16 claims 
exceeding € 160 million and five cases exceeding € 750 million.  
One might question whether the risk of such a succe ssful claim only reflects a 
theoretical "doomsday" scenari o. If no action is taken, the fact that this risk is a real 
one would be ignored. 
Based on the information available, (see pr edictability of litigation costs section 
3.3.3), the average settlement amount for one  of these five cases should be around 
€90m (= 12% of a claim exceeding €750m). Ho wever, in one fifth of the cases, the 
settlement amount could be higher - between 25- 40% of the claim. So for one of 
these five cases it is probable that the settlement will range between €188m (= 25% 
of €750m) and €300m (=40% of €750m). Looking at the table summarising the 
London Economics threshold simulations (sec tion 3.4.4), it is clear that settlements 
of this order would be far outside the re ach of mid-tier firms (in 3.4.4 table: firms 
with an annual turnover of around €200m) . Depending on the threshold assumptions, 
even one or two of the Big 4 firms might al so be unable to pay the higher (25-40% of 
claim) settlements and would have to call on the support of part ners in its network 
but located in other countries. There is no reason to suppose that firms in many other 
Member States would be better placed. Gi ven the figures available on the (not 
always final) settlements being proposed fo r certain large claims e.g. Parmalat, L&H, 
such high payments can cl early not be ruled out. 
The loss of another major audit network would have serious consequences  for the 
European and global capital markets both in terms of auditor choice and the actual 
availability of audit. The completion of st atutory audits could be delayed, especially 
if the failure occurred close to the y ear-end, as the Transpar ency Directive will 
require audited financial statements to be  published no later than four months after 
the end of a company's financial year. Mo re importantly, it is possible that some 
companies would no longer be able to find a firm with the degree of specialisation 
required to undertake their audit. Financia l institutions in particular could face 
serious transition problems as the special sk ills their audits require could severely 
restrict their range of choice for a new auditor.  
Many leading mid-tier accountancy firms ha ve already confirmed that in these 
circumstances they would not be prepared to move into the Big 4’s current audit 
market due the liability risks. The remaini ng largest firms would be constrained both 
by independence rules (see sect ion 3.2.3) and their ability to  bear audit risk in the 
aftermath of the loss of one of the Big 4. The Big 3 scenar io could lead to calls to 
 
EN 37   EN open up the independence rules,  although the regulatory worl d decided to strengthen 
them after the Enr on debacle in 2002.  
Audit fees have not increased signifi cantly over the recent years in the EU91. 
According to London Economics' survey, the a udit risk is not fully  priced into the 
fees as this is difficult and some client s would be forced to pay for risks which 
should be carried by other clie nts. In the case that one of  the Big 4 audit firms would 
leave the market in future, audit fees would, according to the London Economics Study, also increase due to an even more limited number of ma rket players. In such a 
case, the remaining Big 3 would have an even more dominant position. Whilst 
liability risks might still not be priced in to audit fees, the usual competition would be 
severely constrained. For instance, insurers  currently use mainly  only 2 out of the 
Big 4 audit networks
92. If one of these two disappeared, the remaining audit network 
would be almost the only available audito r for all insurers in Europe. A competitor 
would not be immediately avai lable to respond to the demand for an auditor with the 
specialisation but also a presence in many jurisdictions in the world. 
If more players were in a pos ition to compete, this Big 3 scenario would not occur.  
6.1.3.  Current situation in the Member States 
If no action is taken at the EU level, the current situation in Member States will 
remain. Auditors' liability will be limited in some countries whereas it will remain unlimited in the majority of the Member States.  
• Auditor’s liability is current ly capped in five Member States (Austria, Belgium, 
Germany, Greece and Slovenia: see Annex  6). Hungary has introduced 
proportionate liability by law as from 1
st January 2008. In 2006, the UK allowed 
for negotiation of contractual limitati ons of liability as from June 2008. 
• Some examples are presented below: Be lgium, UK, Austria and Germany (these 
latter two introduced limitations in 1931). The local liability reforms have 
however one major problem in common: they  address local liability risks and fail 
to address the international dimension. If an  investor sues an a uditor in a different 
jurisdiction, the local liabili ty limitation will not apply. 
Belgium  
Since 2006 (law of 23 December 2005), Belgium has had caps on liability: €3m93 for statutory 
audits of non-listed companies and €12m for stat utory audits of listed companies. The main 
reason for their introduction was to solve the problem of domestic insurance capacity. 
                                                 
91 In UK, audit fees for major companies (ranked in the FTSE 100) increased by just under 1% between 2003 and 
2006. See: 
http://www.accountingweb.co.uk /cgibin/item.cgi?id=171453&d=1 025&h=1024&f=1026&dateformat=%25o%20
%25B%20%25Y  
92 KPMG and PwC  
93 Per damages per year (can be ex tended to more damages per year)  
 
EN 38   EN The increasingly litigious environment had forced insurers to terminate the collective 
insurance policy which was concluded between th e insurers and the Prof essional Institute of 
Auditors (IBR/IRE) on behalf of its members. Th is liability reform enabled insurers to renew 
their collective policy at no higher cost, under c onditions that were more flexible to the 
auditors and for insured amounts substantially higher than before (insurance coverage before 
the reform was € 1,9m94 whereas now the coverage is €3m and €12m95 respectively for the 
audit of unlisted and listed companies) . According to the informa tion received from Belgian 
Big 4 firms, the premiums paid have not been influenced by this reform. In other terms, a 
domestic liability reform has had no significant e ffect for the insurability for the international 
audits as other countries did not follow the example of Belgium.  
The other reasons for introducing the cap were: 
• Unlimited civil liability was not seen as streng thening the quality of the audit. A certain 
level of liability is recommende d but it is not reasonable to e xpect that the auditor should 
bear the full cost of a fraud committed by the directors or by the management or resulting 
from an internal accounting error; 
• There were concerns about the concentration of  the audit market for listed companies with 
international audit firms and the risk  of an audit firm disappearing; 
• In addition, an underlying preoccupation was to keep the audit profession sufficiently 
attractive for trainees and practitioners. 
UK 
In 2006, the UK introduced the possibility for auditors to negotiate with their clients a 
limitation of liability by contract. This new la w will apply from June 2008. The UK opted for 
this policy for two main reasons:  
• The limitation should allow maintenance of a st rong audit market characterised by at least 
the existing levels of competition. The UK author ities recognised auditors have faced an 
increasing number of claims, including many th at, if they were su ccessful, would be 
beyond their financial capacities. 
• The second reason was the expectation that lia bility limitation agreed by contract could 
lead to the reduction of audit fees 96. In 2007, a working group was established by the FRC 
in order to produce guidance on the use of agreemen ts to limit liability of auditors of public 
companies. In December 2007, the working group published a consultation paper. The 
draft guidance provides for four possible met hods to limit the liability by contract: i) 
proportionate liability; ii) a pure reference to a "f air and reasonable test " that would be later 
on assessed by the courts; iii) a cap on liability, expressed either as a monetary amount or 
calculated on the basis of an agreed formula or ; iv) a combination of some or all of those 
methods. The consultation paper also proposes guidance on other aspects of the limitation 
agreements and offers examples of such agr eements to the markets. The paper makes clear 
that the major investors in UK are however not ready to accept a contractual cap. Final 
guidance is expected for May 2008. 
                                                 
94 Per loss per year (possibility to extend, but rare in practise)  
95 Per damages per year (can be ex tended to more damages per year)  
96 See for example:  Company Law Reform Bill REGULATORY IMPA CT ASSESSMENT: November 2005, p 15 
http://www.berr.gov.uk/ files/file29023.pdf  
 
EN 39   EN Germany  
Since 1931, there has been a statutory limit (cap) on auditor’s liability which has been 
continuously up-dated over the years. The cap today is €1 million for statutory audits of 
unlisted companies and €4 million for statutory audits of listed companies. Although the 
market segment for the largest listed companie s (top 20) is highly concentrated, Germany in 
general shows relatively low concentration rates in the market segments for smaller listed 
companies (see Annex 3 , Table 3). Particularly, in the ma rket segments for the "top 200" or 
"top 300" listed companies, the market concentra tion in Germany is significantly lower than 
e.g. in UK or Italy. In 2004, 198 German audit firms conducted statutory audits of 971 
companies listed on the regulated German stock market97. Amongst the world's G8 
economies, Germany shows one of the lowest c oncentration rates in the market for public 
company audits98. Once again, the German cap is not recognised in other countries. Major 
international audits are facing considerable uncertainty in terms of liability risks.  
Austria  
Since 1931, there has been a statutory limit (cap) on auditor’s liability which has been 
continuously adapted over the years. At presen t, this cap ranges betw een to €2m and €12m, 
depending on the size of the audited company (see Annex 6 ). The concentrati on rate of Big 4 
audit firms in the market for companies listed on a regulated stock market is lower than in 
many other countries99.  
6.1.4.  Current situation in the United States 
The problem of liability of auditors is also under discussion in the US. In 1995, the 
US already introduced some liability reform. Under the PSRLA100, the principle of 
joint and several liability was eliminated and replaced by a form of proportionate liability. In addition, damage awards to plaintiffs were limited
101 taking into account 
the particularities of US litigation law. Ho wever, the US system offers less protection 
for auditors than they currently enjoy in th e EU because; i) it includes the possibility 
to award punitive damages (i.e. damages compensating more than the loss) and ii) it allows not only shareholders but a much wider range of invest ors to sue companies 
and auditors. In the US, litig ation risks in general are mu ch higher compared to EU, 
in particular in the area of securities  markets. The US Supreme Court recently 
endeavoured to reduce liability risks for listed companies and accordingly the 
                                                
 
97 See WPK-Magazin 1/2006  
98 Auditor concentration across the G8: Canada 96%, Fr ance 61%, Germany 83%, Italy 99%, Japan 84%, Russia 
90%, UK 98%, US 97%; see: 
 http://www.grant-thornton.co. uk/press/press/PressRoom-g8_econom ies_creates_systemic_risk.aspx  
99 According to information received from the Austrian audit profession, the concentration rate of Big 4 audit firms in 
the market for companies listed on a regulated stock market  amounts to 78%.  
100 The Private Securities Litigation Reform Act of 1995  
101 Damage awards to plaintiffs are accordingly limited to th e difference between purchase or sale price and the mean 
trading price during the 90-day period starting on the date  the market was made aware that a misstatement of 
information has occurred. However, this  situation concerns investors at large who sell or purchase securities. Under 
the law of Member States, only securities holders can take legal action against an auditor (see also annex I).  
 
EN 40   EN auditors of such companies102. One of the arguments of the US Supreme Court has 
been that litigation seriously harms the attractiveness of US capital markets.  
There is a wide public debate in the US a bout whether there is a need to even cap 
auditors' liability. In January 2006, the US Chamber of Commerce103 called for a 
better definition of the limits of an aud itor’s responsibility and ways to permit 
companies and auditors to agree reasonable limits on an auditor's liability.  
On 30 November 2006, the Committee on Capital Markets Regulation set up by the 
US Treasury considered in its report whet her the US Congress should be invited to 
explore whether there is still a sustai nable and competitive audit market. The 
Committee suggested a cap based on a multiple of audit fees as a possible reform to 
be considered by the US Congress. 
The US is not fully comparable as their legal system permits the use of punitive 
damages, but the EU has no common view  whereas the US already introduced 
proportionate liability.  
On the other hand, a report in March 2007 fr om the US Chamber of Commerce on 
the regulation of US capital markets reco mmended that national audit firms should 
be allowed to raise capital from private sh areholders other than audit partners. No 
liability reform was suggested. 
The most recent input into the US debate about choice and limitation of auditors' 
liability is a study concerning market con centration prepared by the US Government 
Accountability Office (GAO) published in  January 2008. According to GAO's 
survey, 82% of US large public companies - the Fortune 1000 - saw their choice of 
auditor as limited to three or fewer firms, and about 60 percent viewed competition in their audit market as insufficient. A lthough current concentra tion does not appear 
to be having a significant adverse effect, th e loss of another large firm would further 
reduce large companies' auditor choice and could affect audit fee competitiveness. 
The GAO study does not recommend capping of lia bility in the US as there would be 
no consensus amongst business community. 
In October 2007, US Treasury Secretary Paulson set up an advisory committee which 
will examine auditing industry concentration, audit quality, recruitment and retention 
of auditors in audit firms as well as the im pacts of insurability and liability risks. 
This committee should present recommendations in summer 2008. 
6.2. Impact of option 4a on the objectives  (Capping liability by a Directive)  
It might be difficult for all Member Stat es to fix a uniform amount of cap or a 
uniform method to calculate a cap taking in to account the necessity to ensure fair 
protection of damaged part ies, audit quality and th e necessity to avoid anti 
competitive effects for audit firms auditing mainly smaller listed companies. 
                                                
 
102 US Supreme Court, ruling on 15 January 2008 in the case StoneRidge I nvestment Partners  v Scientific 
Atlanta/Motorola with regard to the causal link between  an accounting misstatement a nd the decision of investors 
for investing  
103 Auditing : A profession at risk, US  Chamber of Commerce, January 2006  
 
EN 41   EN Nevertheless, once this first difficulty is  overcome, all the objectives would be 
efficiently addressed.  
• Achieve fairer liability risk exposure for auditors:  
In Member States with regimes of joint and several liability, liability caps would 
effectively protect auditors from excessive  claims by plaintiffs and, thereby, address 
the deep pocket syndrome104. In addition, depending on the level of cap, the risk of 
the disappearance of a major audit firm w ould be reduced. However, a cap might not 
necessarily reflect the degree of negligence or loss the auditor has caused, so might 
still not be “fair”.  
• Facilitate access to insurance for auditors: 
A cap at the EU level would improve the predic tability of claims for insurers as those 
claims would be capped by a fixed amount or a method to calculate an amount. The 
insurance coverage should therefore be restored. For example in Belgium the 
introduction of a cap has im proved the insurance coverage  for auditors (see section 
6.1.3). However, some insurers believe that a cap would not overcome the lack of mutualisation of risks amongst a large num ber of players. These insurers might 
slowly act once more audit ne tworks entered the market.  
• Encourage investment into the expansion of audit firms:  
If the cap were set too high by the Member State, the cap could favour the Big 4 and 
mid-tier audit firms auditing smaller listed companies would not benefit from such a 
high cap. Nevertheless, we can assume that if the cap is not to o high, it would be 
beneficial for mid audit firms wishing to en ter the market of large public companies. 
Germany for example, where a cap has exis ted since 1931, shows one of the lowest 
concentration rates in the market for large public company audit (see section 3.2.2). 
All EU Member States where caps do exist se em to have opted for rather low caps in 
order to let mid-tier audit firms benefit. 
• Reduce differences in liability regimes across the EU: 
This option would reduce differences of the liability regimes acro ss the EU as all 
Member States would have a cap. However, differences would not be eliminated, as 
Member States would not necessarily ap ply the same cap amount. The impact in 
terms of the effort required to change th e liability regimes c ould be quite high, as 
each Member State could introduce a cap tailor ed to its own situation – for example, 
the chance of using some standard text would be low; the effort required in 
determining the cap could also be large.  
6.3. Impact of option 4b on the objectives (Introducing proportionate liability by a 
Directive) 
Currently only Hungary has introduced pr oportionate liability as a principle 
applicable to statutory audits by law. All other Member States would need to change 
their law in order to implement this option. 
                                                
 
104 London Economics study, P. xxiii  
 
EN 42   EN •  Achieve fairer liability risk exposure for auditors:  
This option would contribute significantly to  achieving a fairer liability risk exposure 
for auditors, as auditors' liability would be  defined in proporti on to their level of 
responsibility. Proportionality by law would reduce the risk of audit firms being used 
as insurance of last resort against any corporate malpractice. However, proportionality might not be enough to prot ect auditors against excessive claims, 
since it does not limit absolutely the magnitude of such claims. 
• Facilitate access to insurance for auditors: 
As proportionate liability would not limit abso lutely the magnitude of liability risks, 
the insurability situation of audit firms w ould not improve as e ffectively as in the 
case of liability caps. There could still be some expectation of an improvement in the availability of insurance, as insurers w ould know that auditors would not face full 
liability for any claim but some lesser amount.  
• Encourage investment into the expansion of audit firms:  
Respondents to our public consultation comi ng from the mid-tier audit firms tended 
to consider that proportionate  liability is a more appropr iate solution compared to a 
cap (option 4a) to reform auditors' liabilit y. Mid-tier audit firms are more concerned 
about a cap as they fear that  caps might be set at such high level having no practical 
effects for mid-tier audit firms currently fo cussing at small listed companies. In the 
UK, a reduction in the level of market con centration was one of the objectives for 
introducing the possibility to agree on pr oportionate liability through contractual 
arrangements. 
• Reduce differences in liability regimes across the EU: 
This option would effectively eliminate diffe rences in the liability regimes across the 
EU as all Member States would have the same rules i.e. proportionate liability. The effort required to introduce such a change  into the different legal regimes would 
depend on the existing legal basis – in some co untries it would be quite low, in others 
it would be quite high. Howe ver, as all Member States  would be introducing the 
same rules (the principle of proportionate liability), a similar approach could be 
found in all countries. 
6.4. Impact of option 4c on the objectives  (convergence of liab ility limitations) 
This option should address the first three objectives to a large extent, whilst also 
permitting Member States to choose the mo st suitable solution according to their 
legal, economic and insurance systems. The fourth objective, i.e. reducing differences in liability regimes across the EU , would be addressed to a lesser degree. 
The changes needed in national law would obviously depend on the individual 
solutions being adopted. The impacts of this  option are also affected by the different 
legal instruments proposed. The following sect ions consider the impacts according to 
the legal instrument.  
 
EN 43   EN 6.4.1.  Reaching convergence by a Recommendation 
A possible downside of a Recommendation co uld be that not all Member States 
would take action. Therefore, the followi ng analysis considers two scenarios: 
implementation by all Member States (the  "full implementation scenario") and 
implementation only by some Member St ates (the "partial implementation 
scenario"). 
a) Full implementation scenario Under this scenario, all Member Stat es would follow an EU recommendation by 
introducing a certain method or system of  auditors' liability  limitation in their 
national legal regimes. Compared to the current situation, any movement from the 
current position which range s between known limits and infinity, to a more bounded 
situation, could be viewed as a considerable  improvement for the audit market and as 
a consequence for capital markets. 
Introducing a recommendation co ntaining high-level princi ples for limiting auditors' 
liability in the EU would address all objectives described under section 4.  
Since Member States might realistically be  expected to opt mainly for a cap or 
proportionality, the impacts of this option should by and la rge be similar on the first 
three objectives as those of the options 4a (cap) and 4b (proportionality). 
Nevertheless, the magnitude of the impacts will depend on the ratio of Member States adopting a cap, proportionate liabili ty or a mix of the two. The option 4c 
would allow individual Member  States the possibility to  assess which method they 
consider as the most appropriate under thei r given legal regimes. Each Member State 
would implement the recommendation in a wa y which best suits its environment, its 
legal tradition and the expect ation of shareholders. This is the case today - some 
Member States, e.g. Germany or Belgium,  have introduced modest caps since they 
are concerned about the negative impact of  higher caps on competition on the audit 
market but are convinced that there is no negative impact on audit quality. By way of 
contrast, other Member States, e.g. H ungary, might favour proportionate liability 
rather than a cap as they consider that  confidence into audits, where liability is 
capped against the will of shareholde rs, might be negatively affected
105. 
Hence, the main difference is that like 4a  (caps), this option would not fully remove 
the differences in liability regimes across the EU, as could occur under 4b 
(proportionality). Hence audit firms would s till need to deal with different rules 
across the EU. But it should at least improve (i.e. make more level) the playing-field 
for audit firms across all Member States as all Member States would have some 
known way of limiting liability. Currently, in  the Member States where a limitation 
exist, as analysed above in section 6.1.3, the impact on th e objectives is positive, 
regardless of the method of limiting liability retained in these Member States. One of 
the main reasons is that these methods  are well adapted to  the national legal 
environment. The impacts are expected to  be much more positive if a limitation 
exists in all the Member States, even if there is no uniform method for limiting liability across the EU. 
                                                
 
105 See the study of the UK Office of Fair Trading of 2005  
 
EN 44   EN b) Partial implementation scenario 
The magnitude of the impacts obviously depends on how many Member States 
decide to introduce limits to liability, on th e forms that such limits take and on the 
timing, as a recommendation does not have  a given implementation date. Under the 
worst case scenario, it could not be excluded that none of the Member States which 
currently have unlimited liability introduce changes. For instance, some Member States do not see any need for action at this stage. 
Finland
 
The Finish Ministry of Trade and Industr y informed the Commission Services during 
the public consultation early 2007 that they had commissioned research on the 
necessity to limit auditors' liability in Fi nland. This research, published in December 
2006, found no reasons to introduce further li mits to liability in Finland, since an 
important safeguard limiting liability alre ady exists: compensation for damages may, 
according to Finnish legislation, be adjusted  if the liability is deemed unreasonably 
onerous in view of the financial status of the person causing the damage and the 
person suffering the same and other circumstances.  
France/Denmark: joint audits  
France shows comparable or even slightly  lower audit market concentration rates 
than Germany, which are due to the implementation of "joint audit"-regulations 
which were imposed in 1966. These regulati ons commit listed companies to mandate 
two statutory auditors. As a consequence, mi d-tier audit firms often participate in the 
statutory audits of listed companies. Acco rding to a recent study of the French audit 
market106, the Big 4 market share in the audit ma rket for companies listed in the main 
stock exchange index, based on number of  audit engagements, amounts to 83%. 
However, the concentration rate based on aud it fees is significantly higher (94%). In 
addition, the study found a continued concen tration trend in France towards joint-
audits carried out by two Big 4 audit firms.  Amongst listed companies, the Big 4 are 
by far at least one of the two joint auditors. It is extremely rare that only two mid-tier 
audit firms carry out the joint audit. Effec tively, smaller audit firms participate more 
under a kind of "piggy-back" method in the audit of liste d companies. Such mid-tier 
audit firms do not necessarily  see a need to increase th eir investments, but are 
content with the current "piggy-back" situ ation. As no other Member States follows 
suit, the lack of international acceptance would neither allow the growth of a new 
international player on the audit market nor overcome the fragmentation into local 
firms averse to liability risks from other jurisdictions. 
Denmark, which also has low concentra tion rate (see Annex 3), dropped this 
requirement in 2001 as it felt that it was no longer  justified against the background of 
audit quality. In the past, Denmark felt that joint audits would overcome previous 
companies' difficulties of finding audit fi rms with a presence in all necessary 
jurisdictions in the world. Due to the mergers in the 1980s and 1990s, the Big 5 
                                                 
106 See Autorité des Marchés Financiers (A MF): Study of fees paid by French companies listed in the CAC 40 index to 
statutory auditors and their networks in  respect of the 2006-2005 period", July 2007.  
 
EN 45   EN (today Big 4) emerged and thes e networks have been able to meet the companies' 
demands for international audits.  
It is therefore not excluded at this stage that a recommendation would not be 
followed by Finland and France. Such a situ ation would neverthe less not prevent a 
recommendation having positive effects. 
It is probable that such a recommendation would at least prompt Member States to 
discuss and debate the issue with market pa rticipants and to take appropriate action. 
A clear signal would be gi ven that problems linked to  liability risks and high 
concentration are not only local problems, but deserve internat ional recognition for 
the European capital markets. It should incite Member States and the different stakeholders to discuss possible solutions . Presented below are some examples of 
current debate, from which it could reasonabl y be expected that some Member States 
would follow the Commission recommendation.  
Sweden
 
The Swedish Ministry of Justice inform ed the Commission Services during the 
public consultation that th e Swedish government has appointed a commission to 
analyse different models for limiting auditors ' liability and to, if appropriate, propose 
new legislation. The work should be concluded by September 2008. The Swedish 
Ministry of Justice underlined that  any recommendation from the European 
Commission should only establ ish the objective for deve loping national liability 
solutions without imposing any restrictions for Member States on  how to reach this 
objective. 
Ireland  
In 2007 the Irish government asked the Co mpany Law Review Group (CLRG) to 
examine the matter of auditors' liability. In  the event that CLRG would propose that 
reform to the present system is warranted, they were also asked to identify the areas 
in which reform would be required, and the means by which th is could be best 
achieved. This could include potential met hods, including but not limited to, changes 
in the law:  
- for the introduction of st atutory liability caps; 
- to permit limitation of liability by contract; 
- to introduce a regime of proportionate liability; 
- to permit auditors to incorporate (i.e . establish limited liability companies). 
The CLRG Report on its activities is  scheduled for publication in 2008.  
6.4.2.  Reaching convergence by a Directive (op tion 4 c implemented via a Directive) 
On that basis, the impact versus the object ives should be the same as the impact of 
full implementation of the option 4c via a Recommendation.  
 
EN 46   EN However, there are differences between th e two variants of op tion 4c, due to the 
nature of the instruments proposed. The Directive is a legally binding instrument requiring a much higher degree of detail. The Commission has the possibility to use 
formal infringements procedures against Member States for not having complied with an adopted Directive. The costs of introducing implementing legislation for Member States are potentially higher for a Dire ctive as all the Member States have to 
implement the Directive whereas for a R ecommendation they are free to choose to 
which extent the Recommendation will be  implemented taking into account the 
current measures they have in place.  Moreover, the procedure for adopting a 
Directive is longer compared to a Recommendation. 
6.5. Impact on Audit Quality  
6.5.1.  General impact of a liabilit y limitation on audit quality 
The first safeguard should be that the proposed action would not extend to limiting 
liability in case of an auditors’ wilful  misconduct, for example in the case of 
cooperation with management in corporate fraud. It would concern only cases of 
negligence.  
Opponents to liability reform often argue th at audit quality woul d nevertheless be 
affected if auditors' liability were limited. However, there exists a second safeguard: 
audit regulators - not judges or courts – will in future play a pivotal role in 
maintaining the top audit quality whic h companies and investors deserve.  
The 2006 Directive on Statutory Audit pr ovides important safeguards aimed at 
increasing audit quality. It requires Memb er States to implement an external 
independent quality assurance system (insp ection system) for all statutory auditors 
(Art. 29) under independent public oversi ght (Art. 32). Such oversight should 
prevent potential risks to audit quality compared to the past, when the audit profession was self-regulated and self-contro lled. The public oversight system should 
organise independent inspections
107 and take sanctions against auditors who do not 
follow the professional standards. Such inde pendent inspections linked to appropriate 
sanctions would be a much stronger and mo re appropriate driver  for audit quality 
than civil liability rules. 
In addition, the quality of the audit staff, their training and the internal quality 
systems of the audit firms could be more important drivers for audit quality than the fear of liability claims. It is questionable to what extent imposing potential liability 
claims on auditors would be eff ective in affecting their behaviour
108.  
                                                 
107 Regular controls at least every 6 years, for auditors of public interest companies every 3 years  
108 Accounting and auditing standards leave the auditor with significant latitude of judgeme nt, thus, auditors are not 
able to exactly assess ex-ante whether they have fulfilled the requirements of a certain standard. The actual level of 
auditors' care of duty does not only affect the probability of damage, but also – in a second step – the probability 
that a court ex-post adjudges negligent behaviour of th e auditor. However, according to Ellsberg-Paradoxon, 
individuals are averse to such a two-tiered probability di stribution. Consequently, this aversion may under certain 
conditions also result in a reduced level of the auditors' care of duty. See: Prof. Ewert: "Wirtschaftsprüferhaftung 
bei unpräzisen Sorgfaltsstandards and Ambiguitätsaversion", 2007: 
 http://www.rewi.hu-berlin.de/jura /ls/knr/WorkshopLaw andEco/Bigus.pdf  
 
EN 47   EN Moreover, auditors would stil l be liable for their actions after Member States have 
implemented the proposed recommendation. Audit firms are also unlikely to disregard audit quality as their reputation and their bus iness might otherwise be 
damaged. 
Finally, it is important to unde rline that the quality of an  audit service depends on the 
perception of companies and investors and is therefore difficult to assess
109. Despite 
evidence suggesting that actual audit quality  is high, users may have different views 
of the degree of audit quality. Therefore, ev en if the quality of the audits was not 
affected in reality by a reform of liabilit y, one might fear that  the investors' and 
companies' confidence would be affected. Nevertheless, the ne w 2006 Directive on 
Statutory Audit should prevent such a ne gative impact on the perception of audit 
quality. As described above, it would allow public authorities to  control better the 
audit quality and therefore the perception of  audit quality would be linked more to 
more objective elements such as the outco me of independent inspections. Moreover, 
Article 40 of the new Directive requires a udit firms to provide transparency reports, 
for example about their inte rnal quality systems, which should be an element 
improving the perception of the audit qual ity. In addition, Article 29 allows more 
transparency on the results of the quality  assurance reviews in audit firms. 
6.5.2.  Impact of each of the options on audit quality 
Many respondents to the public consulta tion coming from outside the audit 
profession expressed their opposit ion to an initiative if it led to capping liability at 
the EU level. They claimed that this w ould lead to moral hazard amongst auditors 
(option 4a).110 However, the experience of countri es where a cap has existed for a 
long time (e.g. Germany or Austria) show s that investors and companies do not 
believe that even a low cap has adverse effects on audit quality. Belgium which 
introduced a cap in 2005 did not experience a deterioration or general negative 
impact on audit quality. This option would in  no way prevent Member States setting 
a very high cap, for example, at more than €100 m or even €200 m, far beyond the 
caps in use in Germany or Belgium. It w ould also allow the a pplication of a more 
flexible solution, such as a cap calculated on the amount of audit fees charged by the 
auditor or a cap calculated as a percenta ge of the balance sheet figures in the 
company's accounts. 
According to the public consultation, stakeh olders would be less concerned about the 
possible effects of proportionate liability  on audit quality (option 4b), because 
auditors' liability would be  linked to the level of contribution to the damage.  
Probably the best solution would be that the appreciation of the impacts on audit 
quality is left to Member States discreti on, given the results of their quality control 
                                                 
109 This is because the only observable outcome of the audit is the audit report which is a generic template and the 
overwhelming majority of reports are st andard clean opinions. While it is possi ble to assess audit quality ex post in 
the case of outright audit failures, these are relatively infrequent occurrences. See Jere R. Francis: "What do we 
know about audit quality?", The British Accounting Review 2004  
110 Audit quality can be defined as the ma rket-assessed probability that the financia l statements contain material errors 
and that the auditor will be able to discover and to report such  errors to investors. This pr obability is affected by the 
competence and independence of the auditor. This gene ral understanding has been developed in DeAngelo, L. E. 
(1981b): Auditor size and audit quality: Journal of Accounti ng and Economics 1981, P. 183-199  
 
EN 48   EN systems (option 4c). Investors could also  better express their local preference. 
Member States which find reasons to fear  negative consequences of a cap could 
chose proportionate liability or even deve lop a further method. If shareholders are 
too critical, some Member States could also introduce the possibility of allowing 
contractual limitation of liability. Such lim itations would need to be subject to the 
approval of shareholders at  shareholders meetings.  
6.6. Positive impact mainly for the Big 4?  
Some respondents to the public  consultation were concer ned that a limitation of 
auditors' liability would mainly benefit the Big 4 audit firms.  
Firstly, a liability limitati on should significantly benefit potential new entrants and 
especially the mid-tier audit firms. The limite d availability of insurance creates high 
costs for any mid-tier audit firms interested to enter the market for large audits as 
these firms may not have the same ability to establish captive insurance, which the 
Big 4 established more than a decade ago. Moreover, mid-tier audit firms may not be able to diversify liability risks effectivel y due to the size and selection of their 
mandates
111. In Belgium, the introduction of a cap favours the access to insurance for 
smaller audit firms112. 
Secondly, liability risks also affect the willingness of partners in an audit firm to 
provide more extensive funding allowing fu rther expansion of the audit firm's 
activities. The partners of the audit firms would have no incentive to invest in such 
an expansion if, given the high liability risks, expected returns are likely to be low. 
Therefore lower liability risks would provide  a stronger incentive for mid-tier audit 
firms to invest more and to compete mo re with the major audit networks, in 
particular with regard to th e smaller listed companies. 
Finally, the Big 4 will remain subject to th e general market mechanism. Like in the 
case of Arthur Andersen, a significant au dit failure might erode  the reputation and 
brand of a network. Accordingly, such netw ork might implode as leading partners 
would no longer see any benefit in sustaini ng such eroded brand. In the same vein, 
audit failure within such a network can lead to public investigations and removal of licences in major capital markets leading to the collapse of the network as a whole. 
However, some stakeholders defend that ther e is a risk that the Big 4 are "too big to 
fail" and that liability reform would consolid ate, even strengthen this risk. However, 
liability reform as proposed under option 4c will not have this result. The examples above demonstrate that a major audit netw ork might fail for other reasons. Member 
States which might have strong concerns could opt for proportionate liability which 
does not offer such an immediate protectio n like a cap. Finally, the current audit 
market always remains subject to general co mpetition rules, in particular Articles 81 
and 82 of the EC Treaty. 
                                                
 
111 See London Economics study, P. 92 and the Oxera ownership study p 156 and p.174  
112 See section 6.1.3.  
 
EN 49   EN 6.7. Possible up- and down-sides for st akeholders outside audit firms 
The following section describes the possi ble up- and down-sides of liability 
limitations for stakeholders outside the audit profession.  
Possible concerns of the different stakeholders are addressed below : 
Companies 
Companies fear that the limitation of auditors ' liability would restrict their right for 
compensation in the case of auditors' malpr actices. However, as has been made clear, 
any limitation would not apply in the case of a wilful misconduct of the auditor. 
Moreover, a reform of auditors' liability would not change the general principle: a 
company has always been culpable of its own malpractice. The negligence of auditors could only be related to the detec tion of such malpractice. Accordingly, the 
statutory auditor may always raise the audi ted company's own fault as a defence in a 
claim brought by this company.  
Some companies are concerned about the possible negative impacts of a limitation of 
auditors' liability with respect to the lia bility of directors and company officers. 
However, any liability risk of directors and officers can, in contra st to the risks faced 
by statutory auditors, be more widely  diversified amongst many D&O policy 
holders
113 whereas this a major problem for a few international audit firms. 
Investment banks 
Investment banks raised the issue that th ey could be co-defe ndants together with 
audit firms in any claim. 
Investment banks act as underwriters in th e context of an initial public offering 
(IPO), when such banks arrange the possible sale of securities by an issuer to the 
public. The initiative proposed on limiting auditors' liability  is not focussing on IPO's 
and the role of auditors in an IPO but on the statutory audit of annual accounts to be 
regularly published after a company has been listed. Therefore, a limitation of 
auditors' liability would not increase liab ility risks for invest ment banks in the 
context of an IPO.  
Banks can also act as advisers of a compa ny in other cases (i.e. not just for IPOs). 
Nevertheless investment banks curren tly benefit from insurance coverage114 and 
there is a high degree of competition in the market for investment banking services.  
Third parties seeking compensation (in particular investors) 
One of the concerns expressed during the cons ultation is that the third parties and in 
particular investors, might not be compensa ted for their full loss. Yet this is already 
the case in practice. Their expectations  of obtaining compensation face practical 
limits, corresponding to the financial capacities of  the audit firms. In this respect, the 
                                                 
113 London Economics study, P. 103  
114 See also Final Report from the European Commission on the continued appropriateness of the requirements for 
professional indemnity insurance im posed on intermediaries under Community Law of 11 April 2007 (COM 
(2007) 178 final), P. 10  
 
EN 50   EN advantage of limiting auditor's liability woul d be that the rules are fixed in advance 
and hence potential plaintiffs would not expect audit firms to be able to compensate them for unlimited amounts.  
Again, it is to be stressed, any limitation of liability should only apply to cases where 
an auditor acted in a negligent manner. Limitations would not apply to wilful 
misconduct of an auditor, such as collu sive behaviour with management in 
committing corporate fraud. This solution woul d be consistent with legislation in 
Member States who already limit liability. 
6.8. Other impacts (for options 4a, 4b and 4c) 
Impacts at the international level Some respondents to the public consultation asserted that a limitation of auditors' 
liability at EU level would not be able to  address potential plaintiffs' claims in 
conjunction with statutory audits  also relevant for other ju risdictions, such as the US. 
The European Union clearly has no powers ad dressing liability in other jurisdictions. 
However, a limitation would at least address the risks in the EU, for instance in conjunction with group audits of multinati onal companies carried out in Europe. The 
audit firms presented evidence that litigation risks exist in the EU (see section 3.3 
above). 
If complimentary solutions along the same  lines were adopted by major countries 
outside the EU, the progre ss at global level would be even more effective 
Social impact on the profession 
Audit firms, which are exposed to high au dit risks, have difficulties in retaining 
experienced professional st aff, who might otherwise continue as partners
115. A less 
attractive audit profession might result in fewer talented professionals interested in pursuing their career path all the way to partnership level. A limitation of auditors' liability should improve the attractiveness of audit firms to hi re and keep highly 
qualified professional staff.  
Administrative cost 
According to the 4
th and 7th Company Law Directives, fina ncial reporting is already 
mandatory for companies in European Member States. Under particular circumstances, a specific information requirement might be important: a company should disclose any contract based limitation of the auditor’s liability in the financial 
statements. The related costs cannot be exac tly determined but they should be very 
limited as listed companies should, in any event, prepare financial statements. The 
benefit for investors, who might be consid ering buying shares, is to make them aware 
of such limitation before taking an invest ment decision. This benefit should clearly 
outweigh minor costs involved in adapting financial statements. This disclosure 
solution has also been introduced in the UK when allowing contract based limitations.  
                                                
 
115 See also MORI, Auditor career and working life survey, January 2005  
 
EN 51   EN The administrative cost could be higher fo r the options 4a and 4b as those options 
would require some Member States which al ready have a limitation to change it in 
order to adapt it to the provi sions of the directive.  
7. COMPARING THE OPTIONS  
The baseline for the comparison is option 1: "No EU action " whilst at the same time 
an increase in audit quality is expected through the implementation of the 2006 Directive on Statutory Audit, in partic ular through more rigor ous inspections by 
independent public oversight systems. 
7.1. Criterion 1: Effectiveness regarding the objectives 
Objective 1: Achieve fairer liability risk exposure for auditors
  
Compared to the current situation of "No EU action", implementation of any of the 
options would achieve fairer risk expos ure for auditors. Harmonizing liability 
regimes at an EU level on the basis of propor tionate liability (option 4b) is the most 
effective option to achieve a fairer risk exposure for statutory auditors. Under this 
option, auditors would be financially liable only for the conseque nces of their own 
negligent behaviour and not for the conseque nces of other parties' fault. Limitation 
by a cap (option 4a) would not be  linked to the extent of auditors' fault. Nevertheless, 
proportionate liability (option 4b) might not  protect auditors sufficiently against 
catastrophic claims,116 compared to a cap (option 4a).  
Option 4c allows Member States to choose the most appropriate method or even to 
combine various methods (cap and proportionate  liability) to achieve  a fair liability 
risk exposure. In some Member States with legal regimes allowing contractual 
arrangements, the liability could also be limited by a contract between the auditor 
and the company (i.e. on a case by case basi s) provided adequate safeguards, such as 
the consent of shareholders, are in place. Consequently, option 4c implemented by a 
Directive or a Recommendation fully followe d by the Member States, might achieve 
this objective at least as effectivel y as an EU wide harmonisation based on 
proportionate liability (4b). This option woul d be less effective if option 4c was not 
fully implemented.  
Objective 2: Facilitate acce ss to insurance for auditors  
Compared to the current situation of No  EU action, implementation of any of the 
options would bring a great improvement at  international level. As described in 
section 6, harmonisation using a cap (option 4a ) would be the most efficient option to 
achieve this objective. Proportionate liabili ty (option 4b) could not limit absolutely 
the magnitude of liability risks and coul d not improve the predictability. As a 
consequence the insurability situation of a udit firms would not improve as well as in 
the case of using liability caps. Neverthele ss, the implementation of either of these 
two options at the EU level could allow be tter development of insurance coverage for 
the audits conducted in the EU.  
                                                 
116 Under proportionality, in the event of a major claim amounting to €300m and an assigned responsibility to the 
statutory auditor of 50%, the auditors' liability would be lim ited to €150m. In contrast, th e liability caps existing in 
Member States are significantly lower (see Annex 3).  
 
EN 52   EN The effects of the option 4c should also be effective at the national level as Member 
States should be able to find the best solution possible taking into account the 
national insurance conditions. Insurers whic h are also major investors at the same 
time might find this flexibility more attractive. 
The option 4c introduced via a Recommenda tion would be less effective if this 
option was not fully implemented by the Member States.  
Objective 3: Encourage investment into the expansion of audit firms  
Again, compared to the current  situation of No EU acti on, implementation of any of 
the options would be a positive step in order to encourage new investments into expansion of audit firms. If the cap were set too high by the Member States, recommendation on auditors' liability coul d favour the Big 4. Mid-tier audit firms 
auditing smaller listed companies would in practice never benefit from such a high 
cap. Respondents to our public consultati on coming from the mid-tier audit firms 
tend to consider that proportio nate liability (4b) is a mo re appropriate solution to 
reform auditors' liability.  
Nevertheless, we can assume that if the cap is not too high, it would be beneficial for 
mid audit firms wishing to enter the market of large public companies.  
The option 4b could be more effective to attr act more players into the market of the 
audits of the smaller listed companies but could be less effective for the market of big listed companies, as it would not re duce absolutely the magnitude of claims. 
Proportionality would have the same imp acts for both small and big audit firms 
whereas a cap, especially fi xed at a high level might pr ivilege major audit firms 
auditing big listed companies. 
The option 4c would allow the Member Stat es to choose the solution which is the 
most adapted to the needs of the mid-tier audit firms in their country and could 
therefore provide a strong incentive for ot her audit firms to invest more and to 
compete more with the major audit ne tworks. Option 4c introduced via a 
Recommendation would be less effective if  this option was not fully implemented. 
Objective 4: Reduce differences in liability regimes across the EU
  
Option 4b introducing harmonisation of liability regimes on the basis of 
proportionality would be more effective th an the options 4a and 4c as the same 
liability regime would apply in the whol e EU. Option 4a would strongly reduce but 
not eliminate the differences. There would be a cap on liability in all the Member 
States but it could vary considerably acr oss the EU. Neverthe less, the amounts of 
caps would be known in advanc e and they could be easily  managed by the networks 
of the audit firms. That said, the final cap would determine whether mid-tier audit firms can make more inroads into the market. The higher the cap, the less the 
chances will be for mid-tier audit firms. Th e option 4c would be th e least effective of 
the three options but it should at least improve (i.e. make more level) the playing-
field for audit firms across all Member Stat es. It would be therefore more effective 
than the current situat ion of "No EU action". 
 
EN 53   EN 7.2. Criterion 2: Efficiency 
Efficiency should mainly be assessed in re spect to the fragmentation issue described 
in the section 3. If the regime of liability is the same in the whole EU, it would involve less costs for the audit networks to  deal with the question of liability and 
therefore audit networks could become more integr ated. Options 4a and 4b 
(harmonisation) would be more efficient th an option 4c. The downsides of option 4c 
would be even stronger if it would be implemented only partially by Member States. 
Nevertheless, the option 4c would still be a considerable progress compared to a "No EU action" (option 1). 
7.3. Criterion 3: Audit quality 
If a cap were set too low by the Member States under option 4a, this might have a 
negative impact on the quality for the audit of major listed companies. In particular, 
investors might see a great risk a nd loose confidence into the audits. 
Option 4b would steer the conduct of auditors  towards audit quality  adapted to audit 
risks and might deliver a better balance betw een audit efforts and liability risks.  
The option 4c should not have negative eff ects on audit quality as Member States 
should choose the best possible method a nd level of limitation. Local investors' 
perception of audit quality and confidence in to the audit could be much better taken 
into account. For example, in Germany a cap has existed since 1931 and German 
investors have no concerns a bout this. Some Member States  would also be able to 
allow the possibility to limit liability by contract to be concluded between the auditor 
and the company. Such agreements should not have any negative effects as they would be submitted to the agreement by the sh areholders and to the judicial review.  
7.4. Criterion 4: Acceptability 
a) Acceptability for Member  States/ subsidiarity  
Both harmonisation options (4a and 4b) would today constitute a disproportionate 
intervention into the nationa l civil laws. Countries where one solution is already in 
place would oppose a change to any other method. Germany and Austria have been 
operating with relatively low caps for over 75 years; Belgium introduced such a 
system in 2005 – all three c ountries find this solution e ffective to their problems. 
Hungary, having just introduced the system w ould prefer proportionality rather than 
a cap. Others, such as the UK market place,  have a strong preference for limitation of 
liability via contractual arrangements and are highly likely not ready to accept a cap 
imposed by a directive leaving shareholders of a particular  company without any say. 
Option 4b, a harmonisation by introducing proportionate liability would also 
represent a significant intervention into many existing legal regimes, because most Member States have joint and several liabil ity systems and would have to change to 
proportionate liability. Therefore the harm onisation at the EU level leading to 
proportionate liability would re quire many Member States to  change core aspects of 
their law, at least for auditors.  
The outcome of the public consultation pr oved that legal and economic differences 
between Member States are so significant that harmonisation would not be accepted 
 
EN 54   EN by Member States. Moreover given that civil liability rules for li sted companies with 
regard to their financial statements and accounting failures are not harmonised117, a 
complete harmonisation of liability rules for auditors would not be accepted. 
Therefore options 4a and 4b are probably not  realistic at this stage despite being 
highly effective and efficient regard ing their impact on the objectives. 
Many respondents to the public consultati on also emphasised th at any Commission 
measure should give maximum flexibility to Member States.  
Introducing high-level principles for limiting liability in the EU via a 
Recommendation according to the option 4c  would allow individual Member States 
the possibility to assess which method they consider as the most appropriate under 
their given legal regimes. Such an action s eems more proportionate at this moment as 
legal regimes and economic conditions are very  different in the Member States. This 
option is also more acceptable than a Direc tive as it would leave the possibility to 
Member States not to take action.  
Introducing a choice of method of limitation via a Directive would also be difficult 
for Member States to accept because of the timing of the action. The Directive on Statutory Audit was adopted in 2006 and th e implementation deadline is June 2009. 
It is therefore difficult to impose a new Directive when Member States are still 
transposing the first one. Moreover Article  31 of the Directive on Statutory Audit 
suggests that the issue of auditors' liability should be dealt with via a 
recommendation and not via a legally bindi ng instrument. Finally, a directive under 
option 4c introduced at this stage would ex acerbate the current divergences between 
cap and proportionate liability in the long r un and not really promote convergence of 
liability regimes. Instead, Member States w ould all insist on th eir national option and 
would not be ready to reconsider  their position in the future. 
b) Acceptability for the markets  
The results of the public cons ultation show that the stakeholders from outside the 
audit profession would today pr efer proportionate liability (option 4b) rather than a 
cap (option 4a). For the majo rity of these respondents, the proportionality should be 
negotiated by contract rather than impos ed by law. Respondents from outside the 
audit profession coming from the UK wish to keep the system allowing them to agree on limitation by contract but important academic voices (e.g. Max Planck Institute) also consider such an approach to  be the best. Such flexibility would not be 
possible under options 4a and 4b and ther efore those options would be unacceptable 
to them.  
Many of the respondents  consider therefore that the choice shoul d be left to the 
Member States (option 4c). According to the re sults of the public consultation, half 
of the respondents coming from outside the audit profession would support a 
Commission initiative on auditors' liabilit y. The views from respondents outside the 
audit profession depend to a la rge extent on whether or not they come from countries 
                                                
 
117 See e.g. Directive 2004/109/EC of the European Parliament and of the Council of 15 December 2004 on the 
harmonisation of transparency requirements in relation to information about issuers whose securities are admitted 
to trading on a regulated market and amending Directive 2001/34/EC  
 
EN 55   EN where limitation already exists. 74.1% of respondents from countries where 
limitation exists would support an initiative  at EU level, whereas 76.5% of the 
respondents from countries without limitati on reject a Commission initiative. This 
opposition is mainly related to a scenario  where the Commission might recommend a 
harmonisation of liability regimes in Me mber States based on capping liability. 
In brief, if sufficient flexibility is left to  the Member States, they could be able to 
find a system of limitation which is accepta ble to stakeholders coming from outside 
the audit profession. Moreover, a recommenda tion could be adopted quickly and give 
a strong signal to Member States. Ther efore a recommendation seems the most 
adapted way to find solutions acceptable for all the stakeholders.  
A directive introducing choice of a limitatio n between different measures would be 
less acceptable as such a dir ective would take time before  it is adopted. No clear 
signal could be given quickly to the markets.  
c) Acceptability for other professions  
Some respondents to the public consultati on also argued that the Commission should 
avoid singling out auditors in contrast to other prof essional services or other 
economic players who might ask for a limita tion in the same way. However, there 
are important reasons jus tifying a distinction:  
• Doctors: might also be exposed to high ri sk activities, but only to claims from 
patients or their relatives. More importan tly, liability risks for the activities of 
doctors do not have cross border effects118. 
• Tax advisors: act in the purely private intere st of their clients. The statutory audit 
function is mandatory and thus policy ma kers have a genuine  public interest 
responsibility for ensuring a sustainable audit market.  
• Lawyers: the market for their advisory services is not as vulnerable (i.e. not as 
concentrated) as the international audit market. If a significant law firm were 
forced to leave the market, the gap coul d be closed by other market players.  
• Finally, compared to auditors, these prof essions lack an impor tant safeguard to 
control the quality of the services they provide: their activities are not controlled 
by an independent public oversight, as re quired under the Dire ctive on Statutory 
Audit. 
Option 4c would be preferable to options 4a and 4b as it would be more acceptable 
for the others stakeholders and could be discussed with them. 
7.5. Overall comparison 
The following table summarises the arguments for and against all options: 
                                                 
118 Any international aspects are relevant for insurance sector dealing with medical malpractice. See also Report of 
OECD of 16 June 2006: Coverage of me dical malpractice in OECD countries.  
 
EN 56   EN 7.6. Conclusion  
The Services of the Commission would propose a short principle based 
recommendation ( Option 4c ), as the preferred solution, compared to other possible 
options, to address the gene ral and the specific objec tives. Although other options 
could achieve the objectives more efficientl y, they are not politically acceptable at 
this time. 
                                                 
119 + = Positive Impact; ○ = Benchmark (current situation); - = Negative Impact Effectiveness 
 (impact119 over time) 
as regards to  
 Objective 1:  
Achieve fairer 
liability risk 
exposure for 
auditors Objective 2:  
Facilitate 
access to 
insurance for 
auditors Objective 3:  
Encourage 
investments into 
the expansion of 
audit firms Objective 4:  
Reduce 
differences in the 
liability regimes 
across the EU 
 
Efficiency 
 (cost effectiveness)  
Acceptability 
Audit Quality 
Option 1 : 
No EU action ○ ○ ○ ○ ○ ○ ○ 
Option 2 : 
Compulsory insurance ○ +++ ++ ○ -- -- -- 
Option 3 : "Safe 
harbours" ○/+ + + ○ ○ -- -- 
Option 4a : 
Liability cap +/++ +/++ +/++ ++ ++ --- ○/- 
Option 4b : 
Proportionate liability +++ ○/+ +/++ +++ +++ --- ○ 
Option 4c : 
Convergence of liability 
limitations in the EU via 
a Recommendation        
Full implementation of 
the Recommendation ++ + +/++ ++ + ++ ○ 
Partial implementation 
of the Recommendation + + + + + ++ ○ 
Option 4c  
Convergence of liability 
limitations in the EU via 
a Directive ++ + +/++ ++ + - ○ 
 
EN 57   EN 8. MONITORING AND EVALUATION  
The Commission would closely monitor and evaluate the impacts of the proposed 
Recommendation on the audit market. As the Recommendation would contain only high level principles, Member  States would be able to choose very different 
solutions. The Commission would therefore need to carefully monitor the way the Recommendation was implemented by Member States as well as the effects of the 
implementation.  
To this aim, the Commission would propose the collection of information related to 
possible advantages and disadvantages of  each of the solutions. For example, 
information to be collected every four years could include: 
• General information about the internationa l audit market e.g., concentration rates 
of audit firms in international market in the EU, liability regimes in Member 
States, number of new audit firms entering the international market;  
• Information about insurability of liability  risks e.g. insurance availability and 
source (e.g. from market, via audit fi rms); cost of insurance premiums; 
• Information about audit quality e.g. in light of the Directive on Statutory Audit, 
outcome of inspections carried out under the responsibility of the public oversight 
bodies; 
• Information about claims and settlement of such claims, e.g. compensation 
actually paid versus claimed versus cap in Member States with a cap and in 
Member States with proportionate liability. 
The Commission will review this informa tion and discuss it with Member States. 
Further debate with private stakeholders (a udit firms, investors, companies, insurers) 
will take place on the basi s of this information. 
The monitoring phase provides with the possi bility of identifying further actions if 
necessary. It can also lead to the use of another instrument. The general policy of the 
European Commission is to start addressing  a problem first by the use of soft law, 
when possible. But if the expected resu lts were not achieved because of an 
unsatisfactory implementation of the Recomme ndation, a binding instrument such as 
a Directive might be considered in the future. 
********* 
 
EN 58   EN  
List of annexes 
Annex 1: Results of the Public Co nsultation on Auditors' Liability 
Annex 2: Market capitalisation / turnover of large companies listed on European capital 
markets Market capitalisation / turnover of large companies listed on European capital 
markets 
Annex 3: Audit market concentrat ion in European Member States 
Annex 4: Legal base (contractua l or tort law) for auditors' liability situation in EU-15 
Member States 
Annex 5: Insurance obligati ons in EU-25 Member States  
Annex 6: Liability caps in European Member States  
 
EN 59   EN Annex 1 
Results of the Public Consulta tion on Auditors' Liability 
85 replies were received120 from 15 Member States. Responses came mainly from 
international based respondents (20 respons es) and from respondents based in UK, 
Germany and France, with respectively 18, 12 and 10 responses. In addition, replies 
from 12 other EU-27 Member States have been received. The breakdown by 
category of respondents is follows:  
Category Number % 
Auditors 30 35% 
Insurance 10 12% 
Companies 9 11% 
Investors 8 9% 
Academics 6 7% 
Banks 6 7% 
Miscellaneous 6 7% 
Regulators 5 6% 
Member States 3 4% 
Other financial market 
participants2 2% 
TOTAL 85 100% 
 
The overall reaction of the respondents towards a possible reform of auditors' 
liability regime was as follows: 
                                                 
120 For further information on the composition and role of the Forum, see summary report on DG MARKT website: 
http://ec.europa.eu/internal_market/a uditing/docs/liability/summary_report_en.pdf  
 
EN 60   EN  
Indicative overall reaction of the respondents towards 
a possible reform of auditors' liability regime 
In favour of limitation  N° % 
yes (audit profession) 30 35 % 
yes (outside the profession) 26 31 % 
no 25 29 % 
neutral 4 5 % 
TOTAL 85 100% 
  
Most of the respondents clearl y expressed their views in favour or against a possible 
limitation on auditors' liability. 66% of a ll respondents (35% from  audit profession, 
representing all replies from audit prof ession, plus 31% from outside the audit 
profession) support a limitation on auditors ' liability, whereas 29% rejected the 
possibility. The categories of stakeholders who raise more concerns about a possible 
reform are investors and companies. One argument often mentioned in their 
responses is the complexity of establis hing an EU-wide appr oach to auditors' 
liability, given the variety of lega l systems in the Member States. 
Moreover, it is important to distinguish between those Member States which have 
already liability limitations in place a nd those which have no limit. A majority 
(74.1%) of respondents from outside the audit profession and from countries where limitations exist (e.g. UK, Germany and Aust ria) support a reform on European basis 
as long as their nationa l regimes are not seriously affect ed. In contrast, 76.5% of the 
respondents from outside the audit profe ssion and from countries without any 
limitation reject a Commission initiative.  
All respondents from the category “auditors ” agreed unanimously that a limitation on 
auditors’ liability should be  introduced. Most of them ask the European Commission 
for a recommendation favouring a cap. 
Respondents from the insurance sector can be divided between those from Member 
States having already a liability limita tion in place, who support the reform, and 
those from Member States withou t a limitation, which support the status quo , i.e. no 
action to be taken at Community level.  A third category of respondents are the 
insurance brokers, who support a limitation. It is also worthwhile noting that some 
insurers provided different replies reflec ting their multiple roles - as underwriting 
insurers, institutional investors and users of audit services. These different view points were often conflicting.  
In terms of the specific op tions that were examined in  the public consultation, 59% 
of all respondents - regardless whether they were in favour for a reform or rejected it 
 
EN 61   EN - considered that the principle of proportiona te liability would be the best option to 
limit auditors´ liability. Approximately, 38% of respondents would prefer a 
combination of proportionality plus cap. Th e introduction of any sort of capping is 
supported by 62% of those respondents. In re lation to the possible caps suggested in 
the consultation paper, option 3 (a cap based on a multiple of the audit fees charged by the auditor to its client) is the mo st supported option (43% of respondents). 
 
EN 62   EN  
Annex 2 
Market capitalisation of companies in main index of national stock exchange in EU-25 – 
largest company, median company and smallest  company by capitalisation in index, 
million of € 
Country Size of 
company Market 
capitalisation Size of a 5% decrease in 
market capitalisation Size of a 10% decrease in 
market capitalisation  
Largest 15,151 758 1,515 
Median 3,107 155 311 Austria 
Smallest 452 23 45 
Largest 40,679 2,034 4,068 
Median 5,617 281 562 Belgium 
Smallest 853 43 85 
Largest 3,990 200 399 
Median 79 3.9 7.9 Cyprus 
Smallest 6.6 0.3 0.7 
Largest 17,188 859 1,719 
Median 56 2.8 5.6 Czech Republic 
Smallest 25 1.2 2.5 
Largest 68,169 3,408 6,817 
Median 17,294 865 1,729 Germany 
Smallest 3,738 187 374 
Largest 26,661 1,333 2,666 
Median 3,568 178 357 Denmark 
Smallest 548 27 55 
Largest 1,054 53 105 
Median 111 5.5 11.1 Estonia 
Smallest 43 2.2 4.3 
Largest 15,617 781 1,562 
Median 4,376 219 438 Greece 
Smallest 666 33 67 
Largest 75,740 3,787 7,574 
Median 8,721 436 872 Spain 
Smallest 1,829 91 183 
 
EN 63   EN Market capitalisation of companies in main index of national stock exchange in EU-25 – 
largest company, median company and smallest  company by capitalisation in index, 
million of € 
Country Size of 
company Market 
capitalisation Size of a 5% decrease in 
market capitalisation Size of a 10% decrease in 
market capitalisation  
Largest 128,519 6,426 12,852 
Median 19,722 986 1,972 France 
Smallest 3,407 170 341 
Largest 68,617 3,431 6,862 
Median 3,096 155 310 Finland 
Smallest 919 46 92 
Largest 9,096 455 910 
Median 788 39 79 Hungary 
Smallest 30 1.5 3.0 
Largest 17,668 883 1,767 
Median 2,434 122 243 Ireland 
Smallest 777 39 78 
Largest 96,289 4,814 9,629 
Median 7,769 388 777 Italy 
Smallest 1,229 61 123 
Largest 1,598 80 160 
Median 124 6.2 12 Lithuania 
Smallest 59 3.0 5.9 
Largest 11,300 565 1130 
Median 418 21 42 Luxembourg 
Smallest 171 9 17 
Largest 791 39.5 79.1 
Median 300 15 30 Latvia 
Smallest 84 4.2 8.4 
Largest 462 23.1 46.2 
Median 75 3.7 7.5 Malta 
Smallest 6.8 0.3 0.7 
Largest 180,871 9,044 18,087 
Median 11,259 563 1,126 The Netherlands 
Smallest 682 34 68 
 
EN 64   EN Market capitalisation of companies in main index of national stock exchange in EU-25 – 
largest company, median company and smallest  company by capitalisation in index, 
million of € 
Country Size of 
company Market 
capitalisation Size of a 5% decrease in 
market capitalisation Size of a 10% decrease in 
market capitalisation  
Largest 1,607 80 161 
Median 367 18 37 Poland 
Smallest 335 17 33 
Largest 11,628 581 1,163 
Median 1,695 85 170 Portugal 
Smallest 22 1.1 2.2 
Largest 80,721 4,036 8,072 
Median 10,438 522 1,044 Sweden 
Smallest 1,667 83 167 
Largest 2,274 114 227 
Median 214 11 21 Slovenia 
Smallest 68 3.4 6.8 
Largest 1,957 98 196 
Median 189 9 19 Slovakia 
Smallest 6.1 0.3 0.6 
Largest 183,935 9,197 18,394 
Median 9,044 452 904 UK 
Smallest 4,138 207 414 
Note: Data as of 17 September 2006. 
Source: Bloomberg Professional Services and websites of national stock exchanges . 
 
EN 65   EN  
Fifty largest listed firms by  turnover, 2004 (€million) 
Country Size of Company Total Turnover 5% of Total Turnover 10% of Total Turnover  
Largest 9,880 494 988 
Median 404 20 40 Austria* 
Smallest 4.6 0.2 0.5 
Largest 40,739 2,037 4,074 
Median 854 43 85 Belgium 
Smallest 208 10 21 
Largest 1,203 60 120 
Median 412 20 41 Cyprus 
Smallest 19 0.9 1.9 
Largest 4,088 204 409 
Median 189 9.5 18 Czech Republic* 
Smallest 0.9 0 0 
Largest 142,954 7,148 14,295 
Median 7,699 385 770 Germany 
Smallest 2,443 122 244 
Largest 43,570 2,179 4,357 
Median 3,379 169 338 Denmark 
Smallest 814 41 81 
Largest 163 8 16 
Median 34 1.7 3.4 Estonia* 
Smallest 0 0 0 
Largest 4,538 227 454 
Median 447 22 45 Greece 
Smallest 161 8.1 16 
Largest 41,689 2,084 4,169 
Median 1,734 87 173 Spain 
Smallest 537 27 54 
Largest 122,700 6,135 12,270 
Median 15,669 783 1,567 France 
Smallest 6,172 309 617 
Largest 29,610 1,481 2,961 
Median 1,727 86 173 Finland 
Smallest 386 19 39 
Largest 7,784 389 778 
Median 11 1 1 Hungary 
Smallest 1.1 0.1 0.1 
Ireland Largest 30,814 1,541 3,081 
 
EN 66   EN Fifty largest listed firms by  turnover, 2004 (€million) 
Country Size of Company Total Turnover 5% of Total Turnover 10% of Total Turnover  
Median 472 24 47 
Smallest 10 0 1 
Largest 54,316 2,716 5,432 
Median 4,306 215 431 Italy 
Smallest 1,686 84 169 
Largest 2,202 110 220 
Median 33 1.7 3 Lithuania* 
Smallest 2 0.1 0.2 
Largest 60,717 3,036 6,072 
Median 1 0 0.1 Luxembourg* 
Smallest 4 0.2 0 
Largest 178 8.9 17.8 
Median 9 0 1 Latvia* 
Smallest 0 0 0 
Largest 126 6.3 12 
Median 91 4.5 9.1 Malta* 
Smallest 3 0.1 0.3 
 67,814 3,391 6,781 
Median 3,475 174 348 The Netherlands 
Smallest 1,005 50 100 
Largest 10,091 505 1,009 
Median 320 16 32 Poland 
Smallest 144 7 14 
Largest 23,881 1,194 2,388 
Median 515 26 51 Portugal 
Smallest 8 0.4 0.8 
Largest 42,281 2,114 4,228 
Median 3,708 185 371 Sweden 
Smallest 895 45 89 
Largest 1,602 80 160 
Median 172 9 17 Slovenia* 
Smallest 4 0.2 0.4 
Largest 7,784 389 778 
Median 248 12 25 Slovakia* 
Smallest 0.4 0 0 
Largest 216,304 10,815 21,630 
Median 15,268 763 1,527 UK 
Smallest 7,487 374 749 
 
EN 67   EN Note: * = Countries in which there are less than 50 companies listed on the main market of the stock exchange. 
Source: Amadeus, annual reports of individual companies and LE calculations 
 
EN 68   EN Annex 3 
The following tables are based on a range of concentration measures: 
First, the market share of: 
• the largest audit firm (C1); 
• the two largest audit firms (C2); 
• the four largest au dit firms (C4); and, 
• where relevant, the eight largest audit firms (C8). 
Second, the estimated Herfindahl-Hirschman index (HHI) which is equal to the sum 
of the square of the market sh ares of all audit service providers. As this concentration 
measure takes account of the market shares of  all the suppliers in a given market, it is 
a more comprehensive indicator of concen tration than the concentration ratios 
described above and is widely used by comp etition authorities to assess the structure 
of a given market. In the U.S. a HHI value of more than 1,800 is viewed as 
problematic while in the EU, in the cont ext of merger assessment, a HHI between 
1,000 and 2,000 is not viewed as problematic if a merger increases the HHI by less than 250 and a HHI of more than 2,000 is viewed as not probl ematic only if the 
merger increases the HHI by less than 150 (s ee Official Journal of the European 
Union, Guidelines on the assessment of horizontal mergers under the Council 
Regulation on the control of c oncentration between undertakings , 2004/C 31/03, 2nd 
May 2004). 
 
EN 69   EN  
Table 1 Concentration in EU statutory audit markets – companies in main index of main 
national stock exchange 
Country Number of companies Concentration indices by number of mandates 
(% except HHI) 
  C1 C2 C4 C8 HHI  
BE 19 25 50 88 - 2031 
CZ 9 40 60 100  3000 
DK 19 26 48 78 - 1833 
DE 30 53 87 97 - 4022 
EE 10 30 50 90 - 2200 
EL 20 40 60 90 - 2550 
ES 35 50 80 97 100 4100 
FR 40 30 46 73 96 1818 
IE 20 45 70 95 100 3000 
IT 40 35 60 100 - 2662 
CY 20 50 85 95 - 3800 
LV 5 40 80 - - 3600 
LT 21 29 52 95 - 2340 
LU 11 31 54 92 - 2307 
HU 12 64 91 - - 4876 
MT 14 43 71 100 - 3163 
NL 23 32 60 100 - 2608 
AT 22 42 71 83 - 2743 
PL 20 44 70 - - 3150 
PT 20 50 65 85  3000 
SI 15 40 53 73 - 2000 
SK 5 40 80 - - 3600 
FI 25 56 80 - - 3984 
SE 30 34 66 100 - 2792 
UK 100 43 65 99 - 2912 
Source: London Economics calculations using data from Amadeus and annual reports of financial institutions and companies includ ed in the main stock market 
indices. Oxera (2006) for the UK . 
 
EN 70   EN Table 2 Concentration in EU st atutory audit - all companies li sted on regulated national 
stock exchange. 
Country Number of 
companies** Concentration indexes by number of 
mandates (% except for HHI) Concentration indexes by 
revenues audited1 or fees 
received 
  C1 C2 C4 C8 HHI C1 C2 C4 C8 HHI  
BE 135 27 43 70 84 1431 48 69 96 97 3119 
CZ 36 29 50 65 82 1540 56 76 94 99 3754 
DK 175 21 40 68 86 1314 30 45 77 98 1824 
 DE* 541 19 36 55 66 918 57 82 92 96 3976 
EE 16 33 60 93 - 2444 34 61 94 - 2499 
EL 292 34 48 66 84 1600 31 51 73 97 1784 
ES 115 44 70 91 97 2854 78 92 99 100 6334 
 FR 489 15 24 42 58 551 28 45 71 90 1577 
IE 65 25 51 80 89 1756 41 81 99 100 3488 
IT 276 27 53 88 93 2053 34 62 100 - 2651 
CY 141 30 57 76 87 1867 30 59 90 95 2465 
LV 40 13 20 30 50 500 30 53 81 93 1894 
LT 43 23 44 79 93 1644 68 77 93 100 4802 
LU 27 30 48 74 - 1604 46 79 96 - 3389 
HU 36 25 44 64 75 1280 60 80 99 99 4247 
MT 14 43 71 100 - 3163 63 99 100 - 5328 
NL 140 25 50 89 96 2147 29 57 100 - 2551 
AT 44 40 58 78 91 2212 43 78 93 96 3198 
PL 236 15 23 41 61 597 56 69 83 94 3417 
PT 52 42 62 73 83 2300 64 81 93 99 4553 
SI 15 40 53 73 - 2000 49 89 100 100 4073 
SK 7 29 57 100 - 2040 95 98 100 - 8998 
FI 148 43 70 94 97 3038 74 94 100 - 5893 
SE 272 30 56 93 99 2370 37 67 99 100 2766 
 
EN 71   EN Table 2 Concentration in EU st atutory audit - all companies li sted on regulated national 
stock exchange. 
Country Number of 
companies** Concentration indexes by number of 
mandates (% except for HHI) Concentration indexes by 
revenues audited1 or fees 
received 
UK 316 37 61 98 100 2654 36 59 100 - 2660 
Notes: (1) Revenues audited are the gross revenues of companies being audited as reported in the companies’ annual reports. *= figures based on fees received by 
the auditing company in 2005 as reported in the annual reports of the companies. ** = number of companies for which information  could be found. UK FTSE 350 
only, Germany Frankfurt All Share list only. 
Source: London Economics calculations using data from Amadeus and annual reports of companies and financial institutions listed  on the respective national stock 
exchange. Oxera (2006) for the UK. 
 
EN 72   EN  
Table 3: HHI in EU statutory audit market by size turnover of companies 
- all companies listed on regulated  national stock exchanges- 2004 – 
countries with and without a cap on auditor liability. 
 Top 20 Top 50 Top 100 Top 150 Top 200 Top 300 
BE2 2650 2288 1843 - - - 
CZ 2325 - - - - - 
DK 2218 1817 1492 - - - 
DE 3325 1600 1249 1046 919 838 
 EE3 2200 - - - - - 
EL 1750 1528 1452 1587 1823 - 
ES 5150 3568 3003 - - - 
FR 1951 1480 1252 1082 844 669 
IE 3400 2288 - - - - 
IT 2650 2640 2614 2535 2462 - 
CY 2250 2016 1625 - - - 
LV 1000 - - - - - 
LT 1950 - - - - - 
LU 2100 - - - - - 
HU 2575 - - - - - 
MT4 3163 - - - -  
NL 2925 2971 2488 - - - 
AT 3100 - - - - - 
PL 2400 1576 1084 848 - - 
PT 3225 2080 - - - - 
SI5 2977 - - - - - 
SK - - - - - - 
FI 5550 4104 3328 - - - 
SE 3150 2556 2647 2628 2202 - 
UK 2850 2776 2854 2882 2798 2659 
 
EN 73   EN Notes: (1) HHI based on number of mandates. (2) Since December 2005, Belgium has a cap on auditor liability. But, as the data r efer to market concentration in 
2004 , Belgium is not shown as having a cap in the table; (3) Estonia = 10 companies, (4) Malta = 14 companies, (5) Slovenia = only 15 companies are listed on the 
stock exchange. 
Source: London Economics calculations using data from Amadeus and annual reports of companies. 
 
EN 74   EN Annex 4 
Legal base (contractual or tort law) for auditors' liability in EU-15 Member States  
 
Country Audited company Third party 
Austria  Contractual121 Contractual/tort122 
Belgium  Contractual/tort Tort 
Denmark  Contractual Tort 
Finland  Tort Tort 
France  Tort Tort 
Germany  Contractual/tort Contractual/tort 
Greece  Contractual Tort 
Ireland  Contractual/tort Tort 
Italy Contractual Tort 
Luxemburg  Contractual Tort 
Netherlands Contractual Tort 
Portugal Contractual/tort Contractual/tort 
Spain Contractual Tort 
Sweden Contractual Tort 
United Kingdom Contractual/tort Tort 
 
                                                 
121 Under contractual law, a statutory auditor is liable for a breach of his duties under a contract (e.g. of the audit 
contract concluded between the statutory auditor and the audited company).  
122 Under tort law, a statutory auditor is liable for a breach of his duties under statutory law of a certain jurisdiction 
(e.g. of the professional standards set under Community or national law).  
 
EN 75   EN Annex 5 
Insurance obligations for audi tors in EU-25 Member States 
These tables show whether the legal entity or the individual auditor is obliged to maintain the legal obligation of 
insurance in case the statutory auditor is the audit firm. 
LEGAL OBLIGATION OF INSURANCE  COUNTRY  
LEGAL ENTITY  INDIVIDUAL AUDITOR  BOTH 
AUSTRIA  x -- -- 
BELGIUM  -- -- x 
CYPRUS  -- -- x 
CZECH REPUBLIC  -- -- x 
DENMARK  -- x -- 
ESTONIA  -- x -- 
FINLAND  -- -- -- 
FRANCE  -- -- x 
GERMANY  x 
(for auditors practising 
in a public limited 
liability company or a 
limited liability 
company)  x 
(for auditors practicing in a 
civil law association) -- 
GREECE  -- -- x 
HUNGARY  -- x 
(the insurance of the firm 
can also be accepted under 
certain circumstances)  -- 
IRELAND  x -- -- 
ITALY  x -- -- 
LATVIA  x -- -- 
LITHUANIA  x -- -- 
LUXEMBOURG  -- -- -- 
MALTA  -- -- x 
NETHERLANDS  x -- -- 
 
EN 76   EN LEGAL OBLIGATION OF INSURANCE  COUNTRY  
LEGAL ENTITY  INDIVIDUAL AUDITOR  BOTH 
POLAND  -- -- x 
(but the obligation of 
insurance does not rest with an auditor who 
delivers audit services on 
behalf of an audit firm, not acting in his own 
name and on his account)  
PORTUGAL  -- x -- 
SLOVAK REPUBLIC  -- -- x 
(but there is no obligation 
for the individual auditor 
if he delivers audit 
services on behalf of an 
audit company)  
SLOVENIA  x -- -- 
SPAIN  x -- -- 
SWEDEN  -- -- x 
UNITED KINGDOM  x -- -- 
See: Thieffry & Associates: "A study on systems of civil liability of statutory auditors in the context of a Single Market for auditing services in the European 
Union", Report to the European Commission. Update by DG Internal Market and Services in January 2007 
 
EN 77   EN Annex 6 
Liability caps 
Auditor's liability is currently capped in five  Member States. Liability caps do not apply in 
case of intentional c onduct of the auditor (see table below).  
COUNTRY  CALCULATION  AMOUNT OF THE CAP  CONDITIONS  
AUSTRIA   Per audit (audits of 
group accounts and individual accounts being counted 
separately) €2 million : statutory audit 
of a small or medium sized company (§ 221 (2) HGB) 
€4 million : statutory audit 
of a large company (§ 221 
(3) HGB) 
€8 million: statutory audit 
of a company; if the 
fivefold of one of the size characteristics expressed in 
Euro of a large company is 
exceeded 
€12 million: statutory audit 
of a company, if the 
tenfold of one of the size characteristics expressed in 
Euro of a large company is 
exceeded 
Special amounts apply to 
banks and insurance 
companies 
 Scale not applicable to intentional 
conduct; applicable to claims by the audited company and claims of third parties  
BELGIUM  Per mandate €3 million (unlisted 
company)  
€12 million (listed 
company)  No cap in case of fraud or 
intentional conduct  
 
GERMANY  Per audit or per group 
audit  €1 million (unlisted 
company)  
€4 million (listed 
company) Cap not applicable to intentional 
conduct 
GREECE  Per breach Five times the total of the 
annual emoluments of the 
President of the Supreme 
Court or the total of the fees of the liable Certified 
Auditor in the previous 
financial year provided that the latter exceeded the 
former limit In case of audit firm cap refers to 
each shareholder or partner 
separately; cap not applicable to 
intentional conduct  
SLOVENIA  N/A €150,000  Cap applicable only to audited 
company and shareholders. In case 
of intentional tort or gross negligence the court may disregard 
 
EN 78   EN COUNTRY  CALCULATION  AMOUNT OF THE CAP  CONDITIONS  
the cap