Opinion of the Economic and Social Committee on the 'Green Paper - The role, the position and the liability of the statutory auditor within the European Union` (97/C 133/01)

On 29 July 1996 the European Commission decided to consult the Economic and Social Committee under Article 198 of the Treaty establishing the European Community, on the 'Green Paper - The role, the position and the liability of the statutory auditor within the European Union`.

The Section for Industry, Commerce, Crafts and Services, which was responsible for preparing the Committee's work on the subject, adopted its opinion on 7 February 1997. The rapporteur was Mr Moreland.

At its 343rd plenary session (meeting of 26 February 1997) the Economic and Social Committee adopted the following opinion by 84 votes to two with two abstentions.

1. Commission presentation

The Commission believes that a lack of a common view and common action at the EU level on the statutory auditor has a negative impact on the potential reliability of financial accounts as a result of concerns over audit quality and on the freedom of establishment and the freedom to provide services in the audit field. It wishes to ensure that auditing services enjoy the full benefits of the single market.

The Commission invites comment on a number of areas including:

- independence requirements of auditors;

- accuracy of financial statements;

- the auditor's role in relation to environmental and societal matters;

- contents of the audit report;

- differences in educational requirements and systems for auditors;

- rotation of auditors;

- appointment and approval of auditors;

- professional liabilities;

- audit of small companies;

- group audit arrangements.

2. Commission conference

2.1. The Commission organized a conference on the Green Paper in Brussels on 5 and 6 December 1996 involving 200 representatives of professional institutes and public authorities. The Commission drew 'tentative` conclusions from the Conference. These included placing emphasis on initiatives from the accounting profession, the possible establishment of a technical subcommittee, a study on professional liability, an examination of Article 2 of the 8th Directive (), a possible sectoral directive relating to freedom of establishment and freedom to provide services in the audit field, and that small companies should not be made subject to a mandatory audit.

2.2. This opinion has taken account of the Conference and the 'tentative` conclusions.

3. General comments

3.1. The Committee welcomes the Commission green paper as provoking much needed discussion on the way forward in ensuring high and compatible standards in auditing and for providing the basis for the European Union's approach towards international standards setting.

3.2. The Committee recognizes that, although all Member States share the common goal of ensuring that published accounts and financial statements should show a true and fair picture of the financial state of a company, legislation and custom and practice varies widely between the Member States and there is no consensus on a number of issues. Consequently the Committee urges the Commission to establish priorities and an action plan in terms of minimum requirements for the EU. It should encourage as far as possible the accounting profession itself to bring its procedures together across the EU i.e. self-regulation. However this should involve discussion with a wider range of interested parties e.g. shareholders, company directors, etc. and should be carefully monitored by the Commission. The Commission should produce a report on progress in this area for the Council, Parliament and the Economic and Social Committee at regular intervals. In general the Commission approach should be on subsidiarity and flexibility. The Committee cautions that a clear examination be made of the costs of all new legislation and rules to ensure the costs do not outweigh the benefits particularly on small companies.

In undertaking any changes care should be taken to avoid imposing requirements which could be met by firms and auditors only with difficulty or at significant cost.

In parallel with the internationalization of material accounting rules via the work of IASC/IOSCO, the aim should be international approximation, particularly in view of the progress already made via IFAC. This should be assisted if the emphasis is on professional self-regulation.

3.3. The Committee emphasizes that priorities must be given to areas where current national legislation and practice is an obstacle to the operation of the Single Market. In this context the following areas merit priority:

- areas which restrict the freedom of establishment and the freedom to provide services;

- group audit arrangements across several Member States;

- ensuring that the developments in international standards in auditing correspond to what we want to apply in the single market;

- a common approach to the role and legal status of the statutory auditors;

- ensuring that the accounts are seen to be audited independently;- educational requirements.

In addition the issue of professional liabilities is an important one for the auditing profession in all Member States. Consequently it proposes that there should be coordination between the Member States and the EU on this subject without prejudice to efforts to devise a minimum framework of technical and legal procedures applicable across-the-board in all Member States.

3.4. The Committee calls on the Commission to make clear its conclusions as to the course of action which should be adopted once the present consultation phase has been completed.

4. Specific comments

(The comments follow the format of the green paper).

4.1. The role of the statutory auditor (3.1-3.38)

4.1.1. A definition of the statutory audit (3.1-3.7)

Any agreed definition should not be restrictive in its application. In any event the Committee believes the focus should be on the objectives of the audit and on agreeing how auditors should report their conclusions to the users of accounts. The Committee believes the initiative for a 'definition` should come from the accounting profession - rather than be based on an EU directive or recommendation.

4.1.2. The accuracy of financial statements (3.8-3.13)

The Committee supports the Commission's comments. However the accounting framework must be clearly defined in the most appropriate manner, taking account of the work carried out by the professional bodies referred to in 4.1.7. The auditor should make clear reference to the defined framework used.

4.1.3. The going concern status/solvency of the company (3.14-3.21)

The Committee agrees with arguments of the green paper. Care must be taken in reporting the outcome of any evaluation of the status of the company, neither to mislead nor to jeopardize the success of corrective measures that may already have been introduced.

One possibility is that, if the auditors have some concerns about the going concern status, for the directors to be required to make a statement which is commented on by auditors. (This is an issue that should be taken into consideration in any examination of corporate governance - see paragraph 4.2.3).

4.1.4. The existence of fraud (3.22-3.29)

The Committee recognizes that the primary responsibility lies with the directors to prevent and to detect fraud and to establish satisfactory internal controls including internal audit procedures where appropriate.

However as the Commission indicates, there is considerable belief by the public that it is the statutory auditors' responsibility to detect fraud. The Committee agrees that there is an onus on auditors to respond positively to this belief.

It is important, in matters of fraud, to distinguish between the different phases (detection, prevention, declaration) and to take account of the fact that the role of the statutory auditor may vary as a result.

It is doubtful that the auditors' report should comment on the company's internal audit procedures. Internal audit procedures have to be checked by the auditors before any audit report can be issued. Only if such assessment is negative, a specific report should be made to the company's audit committee.

4.1.5. The respect by the company of its legal obligations (3.30-3.32)

The Committee agrees with the green paper.

4.1.6. Responsible behaviour by the company with regard to environmental and societal matters (3.33-3.35)

In connection with their basic role, which is to testify that a company's financial records are true and fair, auditors must confirm that all liabilities are recorded and are reflected in the accounts of a company. These include environmental or societal liabilities where they are likely to affect the company's financial situation.

The Committee supports the need for major companies to be subject to an audit of their social behaviour, and agrees this should cover not only the physical environment but other areas such as employment practices. However this clearly involves different skills from that of an auditor dealing with financial accounts, i.e. the 'statutory` auditor need not be the person to be responsible for this work.

4.1.7. The Audit Report (3.39-3.46)

The Committee believes that support should be given to the work of the International Auditing Practices Committee of the International Federation of Accountants (IFAC).

4.2. The position of the statutory auditor (4.1-4.36)

4.2.1. The competence of the statutory auditor (4.1-4.6)

The Committee thinks that the Eighth Directive () should be adapted eventually to the guidelines put forward in the green paper and the recommendations of the conference mentioned in point 2.1 above as amended following the consultation process. However the adaptations should cover areas not covered by self-regulation.

The Committee proposes that more attention be given to practical training and continuous professional education. The Committee would welcome closer coordination on the curricula for the training of auditors and notes that the Commission intends to examine the possible creation of a Standing Committee on education in the accounting field.

4.2.2. The independence of the statutory auditor (4.7-4.28) - Definition of the independence

The Committee emphasizes the importance of the auditor being independent and being seen to be independent.

However, the Committee recognizes - as does the green paper - that there is no clear consensus on such issues as auditors providing non-audit service. The Committee notes and agrees in general with the Commission statement that 'the auditor should not be engaged in the preparation, inter alia, of the financial statements of his client`. The auditor should not be involved in management or in the decision making in the company being audited.

The Committee recognizes that for small companies with limited accounting skills the auditor could play a more direct role in advising on procedures and preparing accounts.

The Committee would welcome a common core of essential principles on independence being proposed by the accounting profession. Consequently, the ESC supports the 'tentative conclusion` of the Commission that the core set of principles on independence which the Fédération des Experts Comptables Européens has undertaken to develop should be examined by a proposed new technical sub-committee of the Contact Committee on the Accounting Directives. However, the ESC considers it to be essential that the technical sub-committee should include in its membership representatives of a range of interested parties including both audited bodies and users of audited accounts.

4.2.3. The position of the statutory auditor with the company - The statutory audit and corporate governance (4.18-4.28)

The Committee appreciates the merit of the use of audit committees. However, any legislation should allow flexibility in national practices. At this time the Committee agrees legislation would be premature.

While appreciating the importance of the internal audit function the Committee does not support binding legislation on this subject.

The Committee believes that the application of principles of corporate governance to auditing must be preceded by clear guidelines at EU level on corporate governance.

4.2.4. The role of governmental and professional bodies quality control (4.29-4.36)

The Committee agrees with the views of the Commission.

4.3. Auditor's civil liability (5.1-5.7)

The Committee recognizes that this is an important issue for the auditing profession. The Committee recognizes that the legal traditions in the Member States on this issue are quite different. Nevertheless it suggests that, as all Member States need to address the issue, there should be coordination of approach. The Committee would welcome cooperation between the profession and the Commission in producing concrete proposals. The Committee agrees liability should be in proportion to the degree of fault. The Committee welcomes the proposal of the Commission to study the differences in the legal systems of the Member States.

The subject of professional indemnity in this context needs further study.

4.4. The statutory audit in small companies (6.1-6.7)

The Committee recognizes that a balance has to be achieved as regards putting extra burdens on small business and ensuring that all companies must produce accounts that are not misleading. The Committee believes that companies should be required to have their accounts properly audited and agrees with the Commission that there should not be an exception for medium-sized companies. However, small companies should not be subject to a mandatory audit requirement by a qualified professional.

Cost burdens relating to other issues in this paper e.g. corporate governance and environmental and societal audits are likely to be disproportionally high for small companies. Small companies should not be subject to these requirements.

4.5. Group audit arrangements (7.1-7.4)

This issue needs further examination.

The Committee recognizes that national laws might frustrate the group audit process. The Commission should look at the possibility of EU legislation governing access to information in groups.

4.6. The freedom of establishment and the freedom to provide services (8.1-8.13)

4.6.1. Freedom of establishment and freedom to provide services for individuals (8.3-8.5)

The Committee believes this is an area which needs more analysis.

The Committee generally agrees with the green paper but does not see the relevance of the remarks with respect to delegation.

4.6.2. Freedom of establishment and the freedom to provide services for audit firms (8.6-8.13)

Clearly, as with some other professions like lawyers, freedom of establishment is not fully possible. This is a subject which requires more detailed review leading possibly to further legislation.

Brussels, 26 February 1997.

The President of the Economic and Social Committee

Tom JENKINS

() 84/253/EEC Eighth Council Directive of 10 April 1984 on the approval of persons responsible for carrying out the statutory audits of accounting documents (OJ No L 126 of 12. 5. 1984).

() See footnote 1, p. 1.