GREEN PAPER Audit Policy: Lessons from the Crisis
Date: 2010-10-13
Institutions: European Commission
Subjects: audit, economic and social cohesion, economic growth, economic recession, job creation, management of resources, research and development, sustainable development

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EUROPEAN COMMISSION 

Brussels, 13.10.2010 
COM(2010) 561 final 

GREEN PAPER 

Audit Policy: Lessons from the Crisis 

(Text with EEA Relevance) 

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TABLE OF CONTENTS 

1. 

2. 

2.1. 

2.2. 

3. 

4. 

5. 

6. 

7. 

7.1. 

7.2. 

8. 

9. 

Introduction .................................................................................................................. 3 

Role of the Auditor....................................................................................................... 6 

Communication by auditors to stakeholders ................................................................ 7 

International Standards on Auditing (ISAs)................................................................. 9 

Governance and Independence of Audit Firms.......................................................... 10 

Supervision................................................................................................................. 14 

Concentration and market structure ........................................................................... 15 

Creation of a European market .................................................................................. 17 

Simplification: Small and Medium Sized Enterprises and Practitioners ................... 18 

Small and Medium Sized Enterprises (SMEs)........................................................... 18 

Small and Medium Sized Practitioners (SMPs)......................................................... 19 

International co-operation .......................................................................................... 19 

Next steps ................................................................................................................... 21 

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GREEN PAPER 

Audit Policy: Lessons from the Crisis 

(Text with EEA Relevance) 

1. 

INTRODUCTION 

The measures adopted both in Europe and elsewhere in the direct aftermath of the financial 
crisis  have  focussed  on  the  urgent  need  to  stabilise  the  financial  system1.  While  the  role 
played  by  banks,  hedge  funds,  rating  agencies,  supervisors  or  central  banks  has  been 
questioned and analysed in depth in many instances, limited attention has been given so far to 
how  the  audit  function  could  be  enhanced  in  order  to  contribute  to  increased  financial 
stability.  The  fact  that  numerous  banks  revealed  huge  losses  from  2007  to  2009  on  the 
positions  they  had  held  both  on  and  off  balance  sheet  raises  not  only  the  question  of  how 
auditors  could  give  clean  audit  reports  to  their  clients  for  those  periods2  but  also  about  the 
suitability and adequacy of the current legislative framework. It seems thus appropriate that 
both the role of the audit as well as the scope of audit are further discussed and scrutinised in 
the general context of financial market regulatory reform. 

The Commission is keen to assume leadership at the international level on this debate and will 
seek close co-operation from its global partners within the Financial Stability Board and the 
G20. Audit, alongside supervision and corporate governance, should be a key contributor to 
financial  stability  as  it  provides  assurance  on  the  veracity  of  the  financial  health  of  all 
companies. This assurance should reduce the risks of misstatement, and in doing so, reduce 
the costs of failure that would otherwise be suffered by the company's stakeholders as well as 
by the broader society. Robust audit is key to re-establishing trust and market confidence; it 
contributes to investor protection and reduces the cost of capital for companies. 

In  this  context,  it  is  important  to  stress  that  auditors  have  an  important  role  to  play  and  are 
entrusted by law to conduct statutory audits. This entrustment responds to the fulfilment of a 
societal  role  in  offering  an  opinion  on  the  truth  and  fairness  of  the  financial  statements  of 
audited  entities.  The  independence  of  auditors  should  thus  be  the  bedrock  of  the  audit 
environment.  It  is  time  to  probe  into  the  true  fulfilment  of  this  societal  mandate.  Certain 
stakeholders  have  expressed  concerns2,3,4  with  regard  to  the  relevance  of  audits  in  today's 
business  environment.  For  other  stakeholders  it  may  be  difficult  to  understand  that  an 
institution's financial statements may suggest "reasonableness" and "material soundness" even 
if the same institution was, in fact, distressed financially. Given that these stakeholders may 
be unaware of the limitations of an audit (materiality, sampling techniques, role of the auditor 

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Commission  Communication  of  4  March  2009  to  the  Spring  European  Council,  "Driving  European 
Recovery"  -  COM(2009)  114.  Commission  Communication  of  4  March  2010  COM(2010)  2020 
Commission Communication: EUROPE 2020 A strategy for smart, sustainable and inclusive growth. 
House of Commons Treasury Committee, Banking crisis: Reforming corporate governance and pay in 
the City p76, 2009 http://www.publications.parliament.uk/pa/cm200809/cmselect/cmtreasy/519/519.pdf 
“Should  statutory  audit  be  dropped  and  assurance  needs  left  to  the  market?”  Stephen  Haddrill,  ICAS 
Aileen Beattie memorial event –28 April 2010. 
Maastricht Accounting, Auditing and Information Management Research Centre: The Value of Audit, 
1 March 2010. 

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in the detection of fraud and the responsibility of management), this engenders an expectation 
gap. The Commission therefore advocates the need for a comprehensive debate on what needs 
to  be  done  to  ensure  that  both  audits  of  financial  statements  and  auditor  reports  are  "fit  for 
purpose". 

From a broader structural perspective, the Commission notes that the past two decades have 
seen  the  consolidation  of  large  firms  into  even  larger  firms.  After  the  demise  of  Arthur 
Andersen there are now a handful of such large, global firms, with an even lower number of 
firms being able to perform audits of large, complex institutions. The potential collapse of one 
of these firms could not only disrupt the availability of audited financial information on major 
companies, it would also be likely to damage investor trust and confidence and could impact 
the  stability  of  the  financial  system  as  a  whole.  It  is  thus  possible  to  consider  that  each  of 
these  large,  global  firms  has  attained  systemic  proportions5.  As  is  the  case  for  other  large 
institutions in the financial sector, there is a need to explore further the ways to mitigate this 
risk. 

Another  important  consideration  is  if  any  audit  firm  should  be  allowed  to  become  so 
important  that  the  demise  thereof  would  seriously  disrupt  the  market5.  Although  efforts  by 
large firms to minimise the risk of failure have been commended, the concerns relate to the 
central  question  on  whether  such  "too  big  to  fail"  firms  could  potentially  create  the  risk  of 
moral  hazard.  It  is  to  address  such  concerns  and  in  keeping  with  the  approach  being 
considered in the banking sector, that the concepts of orderly failure, including living wills, 
should be explored on a proactive basis for such systemic firms. 

The  Commission  recognises  that  continuity  in  the  provision  of  audit  services  to  large 
companies is critical to financial stability6. To this extent, options such as the ramping up of 
the  capacities  of  non  systemic  firms  and  exploring  the  pros  and  cons  of  "downsizing"  or 
"restructuring" systemic firms should be further examined. The Commission would also like 
to explore the possibilities to reduce existing barriers to entry into the audit market, including 
a debate on existing ownership rules and the partnership model employed by most audit firms. 

Any market configuration should be accompanied by an effective supervisory system which is 
fully independent from the audit profession. Structural changes within global networks should 
not be allowed to result in any gaps or exclusions from oversight. 

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Results of the public consultation by the Commission (IP/08/1727) on 15/07/2009: " …given the lack of 
players perceived as having the capacity to audit financial institutions, the collapse of one of the Big 4 
would be even more serious for this category of client. Such a loss would also have a serious impact on 
public  confidence  for  audit  services.  Given  the  key  role  of  auditors  in  the  relationship  between 
companies and investors, it could also result in a crisis of confidence in financial markets. The current 
concentration in the market for large public company audit services therefore poses a threat to financial 
market stability."  
http://ec.europa.eu/internal_market/auditing/docs/market/consultation2008/summary_report_en.pdf. See  also 
the 
study  on  the  ownership  rules  that  apply  to  audit  firms  and  their  consequences  on  audit  market 
concentration, Oxera, October 2007. 
IOSCO  http://www.iosco.org/library/pubdocs/pdf/IOSCOPD269.pdf:  "The  independent  audit  function 
is a contributor to investor confidence in the capital markets. A contingency situation involving an audit 
firm can temporarily disrupt the normal operations of the audit function in a capital market. Disruptions 
in the availability of audit capacity and audit services can also occur on an international scale if a global 
audit firm is involved in a contingency that develops into a crisis. By anticipating issues and conditions 
that  may  arise  and  creating  securities  regulator  contingency  plans,  IOSCO  members  can  seek  to 
minimize potential disruptions and thereby support confidence in the markets." 

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There could be a genuine single market for the provision of audit services based on enhanced 
harmonisation  of  rules  and  the  creation  of  a  "European  passport"  for  auditors  which  would 
allow them to provide services on an EU wide basis. 

Against  this  background,  the  Commission  would  like  to  open  a  debate  on  the  role  of  the 
auditor, the governance and the independence of audit firms, the supervision of auditors, the 
configuration  of  the  audit  market,  the  creation  of  a  single  market  for  the  provision  of  audit 
services,  the  simplification  of  rules  for  Small  and  Medium  Sized  Enterprises  (SMEs)  and 
Practitioners  (SMPs)  and  the  international  co-operation  for  the  supervision  of  global  audit 
networks. The Commission is launching this Green Paper as part of its holistic approach that 
includes other initiatives within the context of financial stability. This Green Paper also builds 
on  the  results  of  earlier  studies  and  consultations  carried  out  by  the  Commission  on  these 
matters. In particular, the Green Paper of 2nd June 2010 on Corporate Governance in financial 
institutions and remuneration policies7 addresses a number of concerns regarding the audit of 
financial  institutions.  The  present  Green  Paper  seeks  to  cover  auditing  in  a  comprehensive 
way, and goes beyond the Green Paper on Corporate Governance. Relevant feedback relating 
to auditing on the Green Paper on Corporate Governance will be considered when evaluating 
the responses to the present Green Paper. 

The  Commission  stresses  the  need  for  a  differentiated  and  calibrated  approach  which  is 
adapted and proportionate to the size and characteristics of both the audited company and its 
auditor and will seek, in the case of any potential proposal that may emerge as a result of this 
Green  Paper,  to  modulate  any  such  proposals  to  take  this  into  account.  What  may  be 
necessary for large systemic institutions may not be appropriate for other listed companies or 
for SMEs or  SMPs. Any  measures which the  Commission would propose as  a follow-up to 
the  present  consultation  would  be  subject  to  better  regulation  principles,  including  cost-
benefit analyses and impact assessments. 

The  Commission  will  be  proactive in  seeking  comments  from  the  broadest  possible  base  of 
stakeholders  such  as  investors,  lenders,  management,  employees,  government  authorities, 
auditors, tax authorities, credit rating agencies, equity analysts, regulators, business counter-
parties and SMEs. 

A  broad  consultation  will  allow  the  Commission  to  assess  the  interplay  of  different  policy 
options  while  maintaining  a  commitment  to  financial  stability.  This  consultation  will  also 
assist the Commission in calibrating the intensity of any future measures in a manner that is 
appropriate to the size and nature of the entities in question. In addition the Commission will 
launch an external study to assess the implementation and impact of current rules as well as to 
gather  further  data  on  the  structure  of  the  audit  market.  The  results  of  the  study  will  be 
available in 2011. 

Questions 

(1) 

(2) 

Do you have general remarks on the approach and purposes of this Green Paper? 

Do you believe that there is a need to better set out the societal role of the audit with 
regard to the veracity of financial statements? 

(3) 

Do you believe that the general level of "audit quality" could be further enhanced? 

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COM(2010)284 final. 

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2. 

ROLE OF THE AUDITOR 

The  annual  accounts  of  limited  liability  companies  are  required  to  be  audited8  by  law.  The 
fact that companies' financial statements are audited does not mean that there is an obligation 
on  the  auditor  to  ensure  that  audited  accounts  are  entirely  free  from  misstatements.  When 
reporting that financial  statements give  a  true and fair view  in accordance with  the relevant 
financial  reporting  framework9,  auditors  provide  "reasonable  assurance10"  that  the  financial 
statements  as  a  whole  are  free  from  material  misstatement,  whether  due  to  fraud  or  error11. 
Auditors  thus  seek  to  minimise  the  risk12  that  historical  financial  information,  presented  in 
compliance  with  a  given  accounting  framework, is  "materially"  misstated.  The  Commission 
notes  that  the  statutory  audit  has  evolved  from  substantive  verification  of  income, 
expenditure, assets and liabilities to a risk based approach. 

Current practice would seem to indicate that the "reasonable assurance" referred to above is 
less  targeted  at  ensuring  that  the  financial  statements  give  a  true  and  fair  view  and  more 
geared to ensuring that the financial statements are prepared in accordance with the applicable 
financial reporting framework. The banking crisis has shown that audit opinions should focus 
on "substance over form" which includes ensuring that there is no arbitrage of the differences 
in regulatory frameworks between jurisdictions. It is important to note that the International 
Financial Reporting Standards (IFRS) are based on the premise of the principles of true and 
fair view and substance over form13. 

The knowledge gathered by external auditors through their work may be useful to supervisors 
and the Commission recognises the need to strengthen cooperation between auditors and the 
supervisory  authorities14.  It,  however,  notes  that  any  further  co-operation  between  auditors 
and  supervisors,  although  highly  desirable,  should  not  be  allowed  to  blur  the  respective 
responsibilities of auditors and supervisors. 

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The Fourth Council Directive 78/660/EEC of 25 July 1978 on the annual accounts of certain types of 
companies,  the  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 accounts and consolidated accounts 
of banks  and other  financial  institutions  and  Council  Directive  91/674/EEC  of  19 December  1991 on 
the  annual  accounts  and  consolidated  accounts  of  insurance  undertakings  require  that  the  annual 
accounts or consolidated accounts be audited by one or more persons entitled to carry out such audits. 
Directive  2204/109/EC  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 
requires in Article 4(2)(a) that issuers' financial reports comprise audited financial statements. 
Article 51a 1(a) of Directive 78/660/EEC on the annual accounts of certain types of companies. 
Reasonable assurance is usually defined as a high, but not absolute level of assurance. 
International Standard on Auditing (ISA) 200, Overall Objectives of the Independent Auditor and the 
Conduct of an Audit in Accordance with International Standards on Auditing, paragraph 11. Fraud in 
the context of an audit means an intentional act by someone in a company to obtain an unjust or illegal 
advantage. The concept of fraud probability may be developed further in this context as an important 
feature. 
Auditors  reduce  audit  risk  by  means  of  various  procedures,  including  identification  of  a  company's 
risks,  an  assessment  of  relevant  internal  controls,  tests  of  samples,  direct  confirmations  from  third 
parties,  discussions  with  management,  etc.  Determining  the  level  at  which  a  misstatement  would  be 
material is a key step in this regard. 
IAS  1,  paragraphs  17  and  21  and  IFRS  framework.  Other  relevant  principles  include  neutrality, 
completeness and prudence. 
See question 3.1 in Green Paper on Corporate Governance in financial institutions and remunerations 
policies-  COM  (2010)284  -  page  15:  "Should  cooperation  between  external  auditors  and  supervisory 
authorities  be  deepened?  If  so,  how?"  In  the  various  responses  received  so  far,  there  seems  to  be  a 
general support for improving co operation between external auditors and supervisors. 

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2.1. 

Communication by auditors to stakeholders 

It is important to clearly define what sort of information should be provided to stakeholders 
by  the  auditor  as  part  of  its  opinion  and  findings;  this  would  not  only  imply  revisiting  the 
audit report but also considering additional communication on audit methodology explaining 
to what extent there has been substantive verification of the audited company's balance sheet. 

Higher level of assurance to stakeholders 

From  a  user  perspective,  auditors  should  provide  a  very  high  level  of  assurance  to 
stakeholders on the components of the balance sheet and the valuation of those components at 
the balance sheet date. The Commission wishes to explore the case for "going back to basics" 
with  a  strong  focus  on  substantive  verification  of  the  balance  sheet  and  less  reliance  on 
compliance and systems work i.e. tasks that should primarily remain the responsibility of the 
client and in the main be covered by internal audit. Auditors could disclose which components 
were directly verified and which were verified on the basis of professional judgement, internal 
models, hypotheses and management explanations. To provide a "true and fair view", auditors 
should ensure that substance prevails over form. 

Auditor behaviour 

Whilst  the  primary  responsibility  for  delivering  sound  financial  information  rests  with  the 
management  of  the  audited  entities,  auditors  could  play  a  role  by  actively  challenging 
management  from  a  user's  perspective;  it  would  be  critical  to  exercise  "professional 
scepticism"  vis-à-vis  the  audited  entity1516.  Such  scepticism  could  also  be  exercised  with 
regard to the key disclosures in the financial statements and may also result in an appropriate 
"emphasis  of  matter"17  in  the  audit  report.  What  needs  to  be  avoided,  however,  is  a 
proliferation of disclosures that have less meaning for stakeholders. 

Qualified audit reports 

One  of  the  major  issues  in  the  audit  environment  is  the  negative  perception  attached  to  a 
"qualified"  audit  report.  This  has  perpetuated  an  "all  or  nothing"  paradigm  where 
"qualifications in an audit report" have become anathema to both clients and auditors. Unlike 
rating  agencies  and  equity  analysts  there  is  no  categorisation  by  auditors  of  audited  clients; 
this  derives  from  the  fact  that  the  auditor  is  expressing  a  fairness  view  on  the  financial 
statements and not really on the relative performance or for that matter even on the relative 
quality of financial statements of one reporting entity when compared with another. One has 
to  consider  whether  informative  matters  e.g.  potential  risks,  sectoral  evolution,  commodity 

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The  Financial  Services  Authority  (FSA)  and  the  Financial  Reporting  Council  (FRC)  have  issued  a 
discussion  paper  in  June  2010  which  questions  whether  the  auditor  has  always  been  sufficiently 
sceptical and has paid sufficient attention to indicators of management bias when examining key areas 
of  financial  accounting  and  disclosure  which  depend  critically  on  management  judgement.  – 
http://www.frc.org.uk/press/pub2303.html   
Professional scepticism may also play an important role in the detection and prevention of fraud. 
An emphasis of matter paragraph is included in the audit report when an unusual item occurs but which, 
in the opinion of the auditor, is fundamental and therefore requires disclosure to enable the user(s) of 
the  financial  statements  to  have  a  better  understanding.  It  is  also  worth  noting  that  an  "emphasis  of 
matter" paragraph does not affect the auditor’s opinion on the financial statements. 

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and  exchange  rate  risk,  etc.  being  provided  together  or  as  part  of  the  auditor's  report  may 
provide more value to stakeholders18. 

Better external communication 

The auditor's responsibilities to communicate may be revisited in order to improve the overall 
communication  process  and  hence  raise  the  perception  of  the  value  added  by  an  audit.  For 
instance,  the  UK  has  recently  revised  its  model  to  render  the  auditors'  reports  more  concise 
and is considering making them more informative. The French Commercial Code requires the 
auditors  to  publicly  justify,  together  with  their  report  on  the  annual  accounts,  their  audit 
opinion.  This  includes  their  appreciation  of  a  company's  choices  or  use  of  accounting 
methods, of material or sensitive accounting estimates, and also, if necessary, of elements of 
internal control. 

Another potential consideration may be the extent to which information of public interest that 
is available to auditors should be communicated to the public. Examples of such information 
may be the company's exposure to future risks or events, the risks to intellectual property, the 
extent to which intangible assets would be adversely affected, etc. 

Another aspect that needs to be considered is the timeliness and frequency of communication 
by  the  auditor  to  stakeholders.  It  is  often  argued  that  the  auditor's  opinion  is  "too  little  too 
late". 

Better internal communication 

Regular dialogue should be assured between the company's Audit Committee, the external i.e. 
statutory auditor as well as the internal auditor. This would ensure that there are no loopholes 
in the total coverage of compliance, risk monitoring as well as the substantive verification of 
assets, liabilities, revenues and expenses. A good example of such communication is found in 
the German legislation, which requires the external auditor to submit a "long-form report" to 
the  supervisory  board.  Such  a  report,  which  is  not  available  to  the  public,  summarises  in 
greater  detail  than  the  auditor's  report  the  fundamental  findings  of  the  audit  on  the  going 
concern assumption and associated monitoring systems, future development and risks facing 
the company, material disclosures, irregularities encountered, accounting methods used or any 
"window dressing" transactions. 

Such enhanced dialogue should, however, not be allowed to compromise the independence of 
the statutory auditor. 

Corporate Social and Environmental Responsibility (CSR) 

CSR refers to the way in which companies integrate social and environmental concerns into 
their business operations and in their interaction with their stakeholders on a voluntary basis. 

Clearer  reporting  rules  may  contribute  to  a  better  valuation  of  EU  companies  and  a  better 
focus on sustainability issues by companies and investors. 

18 

The IOSCO (International Organisation of Securities Commissions) has made suggestions to enhance 
the auditor's report with a view to reduce the expectation gap, to avoid technical jargon, and to revisit 
the binary nature of audit opinions. Improving the auditors' reports is also on the IAASB's [International 
Auditing and Assurance Standards Board] agenda for the coming years. 

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In  order  to  ensure  the  sufficient  quality  and  credibility  of  the  reported  information,  the 
question  should  be  raised  whether  there  might  be  a  need  for  an  independent  check  on  the 
reported information and whether auditors should play a role in this regard. 

Extension of the auditor's mandate 

The  focus  of  audits  so  far  to  a  large  extent  has  been  based  on  historical  information.  It  is 
important  to  consider  the  extent  to  which  auditors  should  be  assessing  forward  looking 
information provided by the company, and given their privileged access to key information, 
the extent to which auditors should themselves provide an economic and financial outlook of 
the company. The latter would be particularly pertinent within the context of "going concern". 

Forward  looking  analysis,  at  least  for  large  listed  companies,  has  so  far  been  covered  by 
equity analysts and credit rating agencies. The role of the auditor should thus be extended in 
this direction only if there is real value added to the stakeholders. 

Questions 

(4) 

(5) 

(6) 

(7) 

Do  you  believe  that  audits  should  provide  comfort  on  the  financial  health  of 
companies? Are audits fit for such a purpose? 

To bridge the expectation gap and in order to clarify the role of audits, should the audit 
methodology employed be better explained to users? 

Should "professional scepticism" be reinforced? How could this be achieved? 

Should  the  negative  perception  attached  to  qualifications  in  audit  reports  be 
reconsidered? If so, how? 

(8)  What additional information should be provided to external stakeholders and how? 

(9) 

Is there adequate and regular dialogue between the external auditors, internal auditors 
and the Audit Committee? If not, how can this communication be improved? 

(10)  Do you think auditors should play a role in ensuring the reliability of the information 

companies are reporting in the field of CSR? 

(11)  Should  there  be  more  regular  communication  by  the  auditor  to  stakeholders?  Also, 
should the time gap between the year end and the date of the audit opinion be reduced? 

(12)  What other measures could be envisaged to enhance the value of audits? 

2.2. 

International Standards on Auditing (ISAs) 

The  International  Standards  on  Auditing  (ISAs)  and  International  Standards  on  Quality 
Control  (ISQCs)  are  set  by  the  International  Assurance  and  Auditing  Standards  Board 
(IAASB), a board of the International Federation of Accountants (IFAC). The Commission is 
working  with  its  main  international  partners  and  organisations  towards  the  improvement  of 
the governance and accountability of the standard setting bodies. 

Between  2006  and  2009,  the  IAASB  performed  a  thorough  revision  and  clarification  of  the 
ISAs under the so-called "Clarity Project". The "clarified ISAs" should apply for the first time 

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to  the  audits  of  2010  fiscal  years.  The  "clarified  ISAs"  might  be  seen  as  more  robust  in  a 
number of areas than the ISAs used for the audits until the 2009 fiscal years. In particular, the 
clarified  ISAs  may  be  able  to  bring  appropriate  responses  to  changes  in  the  nature  of  audit 
evidence  regarding  fair  value  accounting,  the  reporting  of  estimates  and  sensitivities,  or  the 
approach to transactions with related parties. 

The  Commission  notes,  as  a  result  of  its  consultation  in  200919,  the  overall  support  of  EU 
stakeholders  to  an  adoption  of  the  ISAs  at  EU  level.  Respondents  considered  that  common 
standards under the form of the "clarified ISAs" and ISQCs would contribute to harmonised 
and  qualitative  audits  which  in  turn  support  the  quality  and  credibility  of  the  financial 
statements.  Some  respondents  asked  for  further  work  to  be  done  to  adapt  the  ISAs  to  the 
needs of SMEs and SMPs. 

The clarified ISAs have either been already adopted or are in the process of being adopted by 
a majority of Member States and are also being applied by the major networks of audit firms. 
They  have  also  been  introduced  by  many  third  countries,  though  not  by  some  of  our  key 
international  partners  such  as  the  United  States.  The  Commission  is  considering  when  and 
how to introduce ISAs in the EU. The introduction could be done via binding or non binding 
Community law instruments. 

Questions 

(13)  What are your views on the introduction of ISAs in the EU? 

(14)  Should  ISAs  be  made  legally  binding  throughout  the  EU?  If  so,  should  a  similar 
endorsement  approach  be  chosen  to  the  one  existing  for  the  endorsement  of 
International  Financial  reporting  Standards  (IFRS)?  Alternatively,  and  given  the 
current  widespread  use  of  ISAs  in  the  EU,  should  the  use  of  ISAs  be  further 
encouraged  through  non-binding  legal  instruments  (Recommendation,  Code  of 
Conduct)? 

(15)  Should ISAs be further adapted to meet the needs of SMEs and SMPs? 

3. 

GOVERNANCE AND INDEPENDENCE OF AUDIT FIRMS 

As  in  many  professional  businesses,  audit  firms  must  actively  manage  their  conflicts  of 
interest.  However,  unlike  many  professional  businesses,  auditors  play  a  statutory  role;  an 
audit  is  required  by  law.  It  is  intended  as  a  statutory  safeguard  for  investors,  lenders  and 
business counterparties who have a stake or a business interest in entities that are incorporated 
as  limited  liability  companies.  Independence  should  thus  be  the  unshakeable  bedrock  of  the 
audit environment. 

The  Directive  on  Statutory  Audit  (2006/43/EC)  (hereinafter  referred  to  as  "the  Directive") 
requires that statutory auditors be subject to principles of professional ethics and lays down a 
number  of  principles  for  independence,  ranging  from  behavioural  aspects  to  considerations 
around  ownership,  fees,  rotation  or  companies'  governance  (audit  committees).  These 

19 

See summary of comments on the consultation, March 2010 at 
http://ec.europa.eu/internal_market/consultations/2009/isa_en.htm 

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principles  have  been  transposed  into  the  Member  States'  legal  environment  through  either 
national specific codes, or through binding principles on top of the IFAC Code of Ethics20. 

Notwithstanding  the  legal  provisions  as  well  as  the  Code  of  Ethics  referred  to  above,  the 
Commission would like to reinforce the independence of auditors and address the conflicts of 
interest  which  are  inherent  to  the  current  landscape  characterised  by  features  such  as  the 
appointment  and  remuneration  of  the  auditors  by  the  audited  firm,  low  levels  of  audit  firm 
rotation or the provision of non audit services by audit firms. 

Appointment and remuneration of auditors  

Auditors are appointed and paid by the entity that needs to be audited, and this as part of a 
commercial tendering process. The fact that auditors' responsibility is to the shareholders of 
the audited company and other stakeholders although they are paid by the audited company 
creates  a  distortion  within  the  system.  The  Commission  is  considering  the  feasibility  of  a 
scenario  where  the  audit  role  is  one  of  statutory  inspection  wherein  the  appointment, 
remuneration  and  duration  of  the  engagement  would  be  the  responsibility  of  a  third  party, 
perhaps  a  regulator,  rather  than  the  company  itself21.  Such  a  concept  may  be  especially 
relevant for the audit of the financial statements of large companies and/or systemic financial 
institutions. This matter should be explored taking into account, on the one hand, the risk of 
increased bureaucracy and, on the other hand, the possible societal benefits of demonstrably 
independent appointments. 

Mandatory Rotation 

Situations where a company has appointed the same audit firm for decades seem incompatible 
with  desirable  standards  of  independence.22  Even  when  "key  audit  partners"  are  regularly 
rotated as currently mandated by the Directive, the threat of familiarity persists. 

In this context, the mandatory rotation of audit firms – not just of audit partners – should be 
considered.  The  Commission  acknowledges  arguments  relating  to  a  loss  of  knowledge  as  a 
result  of  rotation.  It  would  nevertheless  like  to  examine  the  pros  and  cons  of  such  rotation, 
especially  with  a  view  to  instilling  and  maintaining  objectivity  and  dynamism  in  the  audit 
market.  To  prevent  partners  from  changing  firms  to  "take  along"  certain  clients  with  them, 
rotation rules, if adopted, should ensure that not only firms, but partners are also rotated. 

Non audit services 

There is no EU-wide ban preventing auditors from offering non audit services to audit clients. 
According to Article 22 of the Directive, audit services should not be provided in cases where 
"an objective, reasonable and informed third party would conclude that the statutory auditor's 

20 

21 
22 

The Code of Ethics developed by a board of the International Federation of Accountants is used as a 
benchmark  by  practitioners  due  to  adherence  of  their professional  chamber  or  their  firm  to  the  IFAC 
standards. Codes developed by regulators at national level are generally more stringent than the IFAC 
Code. 
Such a model has still not been tested (with the exception of German cooperatives and savings banks). 
In a study performed in 2006, more than half of the respondent companies reported that their auditor 
has served the company for more than 7 years, and 31% reported that the change of an auditor has not 
occurred for more than 15 years: the general tendency is the bigger the audited company, the lower the 
switching rate. (Study by London Economics on the Economic Impact of Auditors’ Liability Regimes; 
September 2006, table 22, page 43: http://ec.europa.eu/internal_market/auditing/liability/index_en.htm). 

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or audit firm's independence is compromised". This rule applies also to the provision of non 
audit services. Article 22 has so far been implemented in a very divergent manner across the 
EU. For example in France there is a total ban concerning the provision of non audit services 
by the auditor to its clients as well as strong restrictions on the possibility for the members of 
the  network  of  the  auditor  to  provide  services  to  the  members  of  the  group  of  the  audited 
entity. In many other Member States, rules are less restrictive and the provision of non audit 
services by auditors to their audit clients remains a regular feature23,24. 

The Commission would like to examine reinforcing the prohibition of non-audit services by 
audit  firms.  This  could  potentially  result  in  the  creation  of  "pure  audit  firms"  akin  to 
inspection  units.  Since  auditors  provide  an  independent  opinion  on  the  financial  health  of 
companies, ideally they should not have any business interest in the company being audited. 

Fee structure 

A limit to the proportion of fees an audit firm can receive from a single audit client compared 
to the total audit revenues of the firm25 could be envisaged along with appropriate disclosures. 
It would be useful to examine the case for and against such limitations, especially with regard 
to their application to small audit firms. 

Publication of Financial Statements 

Another aspect that should be considered is how to achieve more transparency with regard to 
the audit firm's own financial statements. For global networks, transparency should cover the 
whole  network.  In  addition,  it  is  worth  exploring  whether  the  financial  statements  of  such 
firms  should  be  audited  and,  given  the  potential  conflict  in  being  audited  by  a  competitor, 
whether  statutory  bodies  that  audit  accounts  of  public  bodies  at  the  national  or  even  the 
European level should carry out such audits. 

Organisational requirements 

Audit firms should strengthen their corporate governance and organisational requirements to 
further  mitigate  conflicts  of  interest  and  reinforce  their  independence.  Inspiration  could  be 
sought  in  the  Regulation  on  Credit  Rating  Agencies26.  Another  reference  is  the  code  of 
governance  for  audit  firms,  which  has  recently  been  introduced  in  the  UK27.  The  code 
establishes,  amongst  others,  the  principle  that  audit  firms  should  appoint  independent  non-
executives within their governance structure, and that shareholders of the audited companies 
should have dialogue with audit firms to enhance mutual communication and understanding. 

Revisiting Ownership Rules and the Partnership Model 

23 

24 

25 

26 

27 

It should be noted that under US laws, the auditors of listed companies are prohibited from providing a 
number of non-audit services to their clients. This has ramifications in the EU for the provision of non 
audit services to the companies listed in the US. 
However in this regard, the UK FRC has recently made specific observations - press release POB PN 
60 of the Audit Inspection Unit of the Financial Reporting Council, 14 September 2010. 
For example: paragraph 290.222 of the IFAC Code of Ethics states that an auditor of a public interest 
entity shall disclose its clients situations where the fees from that client represent more than 15% of the 
total fees received by the firm. 
Regulation (EC) No 1060/2009 of the European Parliament and of the Council of 16 September 2009 
on credit rating agencies. 
Audit Firm Governance Code of the FRC and Institute of Chartered Accountants in England and Wales 
(ICAEW), January 2010. 

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At present, the Directive requires that auditors hold a majority of the voting rights in an audit 
firm and control the management board28. The Commission thinks that the rationale for these 
provisions should be revisited29. 

So  far,  audit  firms  have  operated  under  the  partnership  model  (whether  organised  via  a 
partnership  or  via  a  limited  company).  However,  given  that  there  has  been  considerable 
growth in the size and complexity of some large companies, it is unclear if even one of the 
systemic firms will have adequate resources to meet any potential liability claims. It is thus 
worth exploring alternative structures that would enable audit firms to raise capital from other 
sources.  These  alternative  structures  would  need  to  put  in  place  safeguards  (for  example  in 
terms of governance) to ensure that external owners do not interfere with the audit work. 

Such a move could also help non systemic firms to gain access to more capital and allow them 
to ramp up capacities and grow more rapidly. 

Group audits 

Audits of large groups which operate in multiple jurisdictions are usually carried out by large 
global networks in view of the high level of resources such audits require. The Commission 
shares the concerns of a number of audit oversight bodies around the world which consider 
that the role of the group auditor needs to be reinforced. Arrangements need to be put in place 
to allow the group auditor to assume its role and responsibilities. Group auditors should have 
access  to  the  reports  and  other  documentation  of  all  auditors  reviewing  sub-entities  of  the 
group. Group auditors should be involved in and have a clear overview of the complete audit 
process to be able to support and defend the group audit opinion. 

Questions 

(16) 

Is  there  a  conflict  in  the  auditor  being  appointed  and  remunerated  by  the  audited 
entity? What alternative arrangements would you recommend in this context? 

(17)  Would the appointment by a third party be justified in certain cases? 

(18)  Should  the  continuous  engagement  of  audit  firms  be  limited  in  time?  If  so,  what 

should be the maximum length of an audit firm engagement? 

(19)  Should  the  provision  of  non-audit  services  by  audit  firms  be  prohibited?  Should  any 
such prohibition be applied to all firms and their clients or should this be the case for 
certain types of institutions, such as systemic financial institutions? 

(20)  Should  the  maximum  level  of  fees  an  audit  firm  can  receive  from  a  single  client  be 

regulated? 

(21)  Should new rules be introduced regarding the transparency of the financial statements 

of audit firms? 

(22)  What further measures could be envisaged in the governance of audit firms to enhance 

the independence of auditors? 

28 
29 

Article 3 of the Directive 2006/43/EC on Statutory Audit. 
Public consultation on control structures in audit firms and their consequences on the audit market, July 
2009: http://ec.europa.eu/internal_market/auditing/market/index_en.htm 

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(23)  Should  alternative  structures  be  explored  to  allow  audit  firms  to  raise  capital  from 

external sources? 

(24)  Do you support the suggestions regarding Group Auditors? Do you have any further 

ideas on the matter? 

4. 

SUPERVISION 

Public  oversight  systems,  play  a  central  role  in  the  supervision  of  audit  firms.  Oversight 
systems  should  be  organised  to  avoid  any  conflict  of  interest  with  the  audit  profession. 
Current rules could be reinforced with a view to ensuring the full independence of the public 
oversight systems of all Member States from the audit profession. 

The supervision of audit firms in Europe must be performed on a more integrated basis, with 
closer cooperation between the national audit oversight systems. One possible option could be 
to transform the EGAOB into a so-called "Lamfalussy Level 3 Committee". This is the kind 
of  committee  which  currently  exists  in  the  areas  of  securities,  insurance  and  banking 
(Committee  of  European  Securities  Regulators  (CESR),  Committee  of  European  Insurance 
and  Occupational  Pensions  Supervisors  (CEIOPS)  or  Committee  of  European  Banking 
Supervisors (CEBS)). Such a Committee could reinforce co-operation at the European level 
and  foster  convergence  in  the  application  of  the  rules  and  ensure  a  common  approach  to 
inspections  of  audit  firms.  The  Committee  could  provide  high  quality  advice  to  the 
Commission on audit matters. Another option could be the establishment of a new European 
Supervisory  Authority30  or  the  integration  of  audit  matters  into  one  of  the  supervisory 
authorities  which  are  being  established  under  the  Commission's  financial  supervision 
proposals on which agreement was recently reached by the Council and the Parliament. 

At  present  the  cross-border  management  entities  that  cover  an  audit  network's  operations  in 
various Member States are not supervised; only each "national" component of the network is 
supervised at Member State level. This mismatch between pan European audit networks and 
national  supervision  should  be  addressed.  The  supervision  of  international  audit  networks 
could be done at the European level similarly to what was recently proposed for Credit Rating 
Agencies31. 

The  Commission  considers  that  there  is  also  a  need  to  reinforce  the  dialogue  between 
regulators and auditors. This dialogue  should be  a  two-way  process so that supervisors also 
alert  auditors  regarding  particular  areas  of  concern.  In  the  specific  case  of  financial 
institutions and providers of investment services, auditors are required under EU law to report 
promptly  to  the  competent  authorities  any  fact  or  decision  which  is  liable  to  constitute  a 
material breach of laws, affect the ability of the company to continue as a going concern, or 
lead to a qualified audit report32. The auditors of investment firms are required to report each 
year  to  the  competent  authorities  on  a  number  of  issues33.  The  Commission  has  no 
information  on  whether  this  provision  has  been  effectively  respected  during  the  crisis  and 

30 

31 

32 

33 

Any option for a new Committee or a Supervisory Authority would also need to be assessed in terms of 
the impact on the EU budget. 
Proposal  for  the  Regulation  of  the  European  Parliament  and  of  the  Council  on  amending  Regulation 
n°1060/2009 (EC) on credit rating agencies, Com (2010)289 final. 
Article 55 of Directive 2004/39/EC of 21 April 2004 on Markets in Financial Instruments. Article 53 of 
Directive 2006/48/EC of 14 June 2006 on the taking up and pursuit of the business of credit institutions. 
Article 20 of the Implementing Directive 2006/73/EC of 10 August 2006. 

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whether such reporting to competent authorities by auditors took place in individual cases34. 
The Commission would like to consider whether communication between the auditors and the 
relevant securities regulator should become mandatory to all large or listed companies; special 
consideration could also be given to communication with appropriate authorities in the case of 
fraud within companies. 

Questions 

(25)  Which  measures  should  be  envisaged  to  improve  further  the  integration  and 

cooperation on audit firm supervision at EU level? 

(26)  How  could  increased  consultation  and  communication  between  the  auditor  of  large 

listed companies and the regulator be achieved? 

5. 

CONCENTRATION AND MARKET STRUCTURE 

The market for audits of listed companies is, in the main, covered by the so called Big Four 
audit  firms35.  In  terms  of  the  revenues  or  fees  received,  the  total  market  share  of  Big  Four 
audit firms for listed companies exceeds 90% in a vast majority of EU member states36. Entry 
into this top-tier section of the audit market has proven very difficult for many mid tier audit 
firms despite their capacity to work in the international audit market. 

Such  concentration  might  entail  an  accumulation  of  systemic  risk  and  the  collapse  of  a 
"systemic  firm"  or  a  firm  that  has  reached  "systemic  proportions"5  could  disrupt  the  whole 
market. 

The  market  appears  to  be  too  concentrated  in  certain  segments  and  deny  clients  sufficient 
choice when deciding on their auditors. 

Moreover,  being  an  auditor  of  large  listed  companies  seems  to  create  a  reputational 
endorsement; such a positive association would then help the large firms in securing further 
high profile audit engagements and thus contribute to lack of dynamism in the market. 

Non Big Four firms on the other hand continue to suffer from a lack of recognition of their 
capacities by the largest companies. It would appear that there are also instances of "Big Four 
only"  contractual  clauses  that  are  sometimes  imposed  on  companies  by  e.g.  financial 
institutions as a condition to grant a loan. 

The Commission would therefore like to consider the following measures: 

Joint audits / audit consortia 

Joint  audits  as  such  are  only  enforced  in  France,  where  listed  companies  are  required  to 
appoint two different audit firms, who share the audit work and jointly sign the audit report. 
This practice, however, should be developed further to "dynamise" the market to allow mid-

34 

35 
36 

Commission  Staff  Working  Document  (accompanying  Green  Paper  on  Corporate  Governance  in 
financial institutions and remunerations policies) SEC (2010) 669 - page 33, point 6.1.1. 
Deloitte & Touche, Ernst & Young, PricewaterhouseCoopers and KPMG. 
Study by London Economics on the Economic Impact of Auditors’ Liability Regimes; September 2006, 
table 5, pages 22-23. http://ec.europa.eu/internal_market/auditing/liability/index_en.htm  

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tier non-systemic firms to become active players in the market segment of the audits of large 
corporations,  which  until  now  has  proven  elusive.  To  encourage  the  emergence  of  other 
players  and  the  growth  of  small  and  medium  sized  audit  practices,  the  Commission  could 
consider introducing the mandatory formation of an audit firm consortium with the inclusion 
of  at  least  one  non-systemic  audit  firm  for  the  audits  of  large  companies.  Such  consortia 
would need to be established with clear lines of responsibility for the overall audit opinion as 
well  a  resolution  /  disclosure  mechanism  for  differences  in  opinion  between  consortium 
members. 

The  concept  of  "joint  audit"  could  also  be  one  way  of  mitigating  disruption  in  the  audit 
market if one of the large audit networks fails. 

Mandatory rotation of auditors and re-tendering 

Mandatory rotation can not only enhance the independence of auditors as discussed earlier; it 
could  also  operate  as  a  catalyst  to  introduce  more  dynamism  and  capacity  into  the  audit 
market. One could envisage a mandatory rotation of the audit firm / consortium after a fixed 
period.  To  prevent  partners  from  changing  firms  to  "take  along"  certain  clients  with  them, 
rotation rules should ensure that not only firms, but partners are also rotated. Such mandatory 
rotation should be accompanied by mandatory tendering with full transparency as regards the 
criteria according to which the auditor will be appointed. Quality and independence should be 
key selection criteria in any tendering procedure. Otherwise, if only a very small proportion of 
audits  of  leading  listed  companies  come  up  for  open  and  fair  tender  in  any  given  year, 
attempts to dynamise the market would have limited effect. 

Addressing the "Big Four is Best" bias 

As a result of the consolidation at the upper end of the market, there appears to be a higher 
level  of  "comfort"  with  the  appointment  of  a  "Big  Four"  firm  as  a  company's  auditor.  The 
Commission  would  nevertheless  like  to  understand  how  much  of  this  is  attributable  to 
"perceptions" and how much to "merit". Making such assessment is facilitated by transparent 
reporting of inspections as is currently the case in the UK37. 

The Commission will also seek to address the issue of contractual clauses that are informally 
referred  to  as  "Big  Four  only  clauses"38.  One  avenue  to  explore  might  be  the  creation  of  a 
European quality certification for audit firms which would formally recognise their aptitude to 
perform audits of large listed companies. 

Contingency plan 

The Commission will work with Member States, audit firms and other stakeholders, including 
international  fora,  to  discuss  a  contingency  plan.  Such  a  plan  should  allow  for  a  rapid 
resolution  in  the  event  of  the  demise  of  a  systemic  audit  firm,  avoid  disruption  in  the 
provision of audit services and prevent further structural accumulation of risk in the market. 

Within  the  context  of  a  contingency  plan,  it  has  to  be  noted  that  the  formation  of  consortia 
could play a significant role. In the instance of the demise of one of the consortium members, 

37 

38 

Press  release  POB  PN  60  of  the  Audit  Inspection  Unit  of  the  Financial  Reporting  Council,  14 
September 2010. 
"Restrictive bank covenants keep Big four on top" (Christodoulou, 2010), Accountancy Age, 17 June 
2010. 

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the "surviving" firm should be able to ensure continuity of the audit until more "permanent" 
arrangements are in place. 

In keeping with the approach being considered in the banking sector, the concepts of orderly 
failure, including "living wills", especially in the case of systemic audit firms, should also be 
explored on a proactive basis. 

Reassessment of the drivers of previous consolidation 

The Commission would like to examine to what extent the consolidation of the larger firms 
has  delivered  the  innovation  in  audit  methodology  that  was  expected;  this  is  of  particular 
relevance  in  the  context  of  the  audit  of  financial  institutions  where  the  latter  developed  a 
plethora of products and processes that became increasingly complex over the period. 

The Commission would welcome views on whether the broader rationale for consolidation of 
large  audit  firms  over  the  past  two  decades  (i.e.  global  offer,  synergies)  is  still  valid  or 
whether there is a need for a rethink. Moreover, in view of the systemic risk represented by 
the  large,  global  firms,  the  Commission  would  also  welcome  views  on  whether  the 
consolidation of the past decades should be reversed. 

Questions 

(27)  Could the current configuration of the audit market present a systemic risk? 

(28)  Do  you  believe  that  the  mandatory  formation  of  an  audit  firm  consortium  with  the 
inclusion  of  at  least  one  smaller,  non  systemic  audit  firm  could  act  as  a  catalyst  for 
dynamising the audit market and allowing small and medium-sized firms to participate 
more substantially in the segment of larger audits? 

(29)  From  the  viewpoint  of  enhancing  the  structure  of  audit  markets,  do  you  agree  to 
mandatory  rotation  and  tendering  after  a  fixed  period?  What  should  be  the  length  of 
such a period? 

(30)  How should the "Big Four bias" be addressed? 

(31)  Do  you  agree  that  contingency  plans,  including  living  wills,  could  be  key  in 

addressing systemic risks and the risks of firm failure? 

(32) 

Is the broader rationale for consolidation of large audit firms over the past two decades 
(i.e.  global  offer,  synergies)  still  valid?  In  which  circumstances,  could  a  reversal  be 
envisaged? 

6. 

CREATION OF A EUROPEAN MARKET 

Some progress was recently achieved with the transposition by the Member States of Article 3 
of  the  Directive,  which  provides  for  a  possibility  of  cross  border  ownership  in  audit  firms. 
Following  the  implementation  of  this  article  by  the  Member  States,  some  big  networks 
achieved  a  higher  degree  of  integration.  However,  many  barriers  to  integration  of  the 
European audit market remain and cross-border mobility of audit professionals is still low. 

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Regulatory  layers  at  national,  European  and  international  levels  have  led  to  a  degree  of 
complexity  that  creates  barriers  to  the  cross-border  operation  of  audit  firms,  especially  for 
smaller and medium sized firms. Such complexity has also prevented smaller networks from 
growing  and  making  inroads  into  the  market  for  the  large  company  audits.  The  lack  of  co-
ordination  at  European  and  international  levels  concerning  public  oversight  and  quality 
assurance systems might also deter the development of smaller networks of audit firms. 

Certain  provisions  of  the  Directive  could  also  be  seen  as  a  potential  source  of  the 
fragmentation in the market: 

–  Article  3  of  the  Directive  requires  the  approval  and  registration  in  each  Member  State 

where the services are to be provided; 

–  Article  14  of  the  Directive  provides  for  an  aptitude  test  in  each  Member  State  for  an 

auditor to be allowed to provide services. 

The  above  requirements  differ  from  the  general  rules  applicable  to  other  regulated 
professions39 and act as a barrier to the mobility of individual auditors. 

A  single  European  market  for  the  provision  of  audit  services  could  be  based  on  enhanced 
("maximum")  harmonisation  and  a  "European  passport  for  auditors".  This  would  imply 
creating  a  European-wide  registration  with  common  professional  qualification  requirements 
and common governance, ownership and independence rules applicable across the European 
Union.  If  European  supervision  of  auditors  were  reinforced  along  the  lines  discussed  in 
Section 4, one possibility to explore further could be to require these auditors to be registered 
and brought under the oversight of a single regulator in a manner similar to what was recently 
proposed for Credit Rating Agencies40. Such a system could also encourage more competition 
in  the  market  for  large  audits  as  it  would  simplify  the  development  of  European  audit 
networks and reduce the costs of providing audit services on a Europe wide basis. 

Questions 

(33)  What  in  your  view  is  the  best  manner  to  enhance  cross  border  mobility  of  audit 

professionals? 

(34)  Do  you  agree  with  "maximum  harmonisation"  combined  with  a  single  European 
passport  for  auditors  and  audit  firms?  Do  you  believe  this  should  also  apply  for 
smaller firms? 

7. 

SIMPLIFICATION: SMALL AND MEDIUM SIZED ENTERPRISES AND PRACTITIONERS 

7.1. 

Small and Medium Sized Enterprises (SMEs) 

While SMEs get value from an audit in terms of enhanced credibility of financial information, 
statutory  audits  have  also  been  identified  as  a  potential  source  of  administrative  burden. 

39 

40 

Rules  stated  in  the  Directive  2005/36/EC  on  Professional  Qualifications  and  in  the  Service  Directive 
2006/123/EC. 
Proposal  for  the  Regulation  of  the  European  Parliament  and  of  the  Council  on  amending  Regulation 
n°1060/2009 (EC) on credit rating agencies, Com (2010)289 final. 

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Serious efforts should be made to create a specific environment for the audit of SMEs. These 
could imply: 

–  Discouraging the statutory audit of SMEs. 

–  Alternatively, where Member States want to maintain some form of assurance, introducing 
a new type of statutory service adapted to the needs of SMEs such as a "limited audit" or a 
"statutory  review"  where  auditors  would  perform  limited  procedures  so  as  to  detect 
misstatements due to error or fraud. The approach of mandating a limited review for small 
companies  has  been  followed  by  Estonia,  and  is  being  considered  by  Denmark. 
Switzerland also follows such an approach; limited reviews are generally accepted in the 
USA. 

–  In  the  instance  of  the  prohibition  of  non  audit  services  as  discussed  in  Section  3  above, 
consideration could be given to providing for a safe harbour which, subject to appropriate 
safeguards being in place, would allow the auditor of an SME to continue providing certain 
non audit services to that company – e.g. assistance in their access to credit, in tax returns, 
payrolls, or even accounting. 

7.2. 

Small and Medium Sized Practitioners (SMPs) 

SMPs feel that they are surrounded by an ever growing regulated environment which may not 
necessarily  suit  their  practice  or  the  immediate  needs  of  their  SME  clients.  To  ensure 
appropriate  conditions  for  the  development  of  such  firms,  the  "limited  audit"  or  "statutory 
review" referred to above could be accompanied by proportionate rules on quality control and 
oversight  by  audit  regulators.  This  would  allow  SMPs  to  reduce  their  administrative  costs 
while helping them in servicing their clients better. 

Questions 

(35)  Would you favour a lower level of service than an audit, a so called "limited audit" or 
"statutory  review"  for  the  financial  statements  of  SMEs  instead  of  a  statutory  audit? 
Should  such  a  service  be  conditional  depending  on  whether  a  suitably  qualified 
(internal or external) accountant prepared the accounts? 

(36)  Should  there  be  a  "safe  harbour"  regarding  any  potential  future  prohibition  of  non-

audit services when servicing SME clients? 

(37)  Should  a  "limited  audit"  or  "statutory  review"  be  accompanied  by  less  burdensome 
internal  quality  control  rules  and  oversight  by  supervisors?  Could  you  suggest 
examples of how this could be done in practice? 

8. 

INTERNATIONAL CO-OPERATION 

In  relation  to  international  cooperation  on  audit  firm  oversight,  the  Directive  provides  the 
basis for close cooperation with audit oversight bodies in third countries. 

The  first  step  in  international  cooperation  is  building  mutual  trust  through  the  exchange  of 
audit  working  papers  between  European  oversight  bodies  and  their  counterparts  in  third 
countries.  Such  an  exchange  of  audit  working  papers  requires  a  Decision  from  the 
Commission,  with  the  agreement  of  Member  States  and  the  European  Parliament,  which 

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declares  that  third  countries'  systems  adequately  protect  professional  and  personal  data. 
Member  States'  authorities  may  enter  into  bilateral  arrangements  for  the  exchange  of  audit 
working papers with their counterparts in those third countries whose oversight systems have 
been declared "adequate". Following Commission adequacy decisions adopted this year, such 
arrangements  are  possible  as  regards  the  co-operation  with  the  audit  oversight  bodies  of 
Australia, Canada, Japan, Switzerland and the United States. 

The second step would be mutual reliance between Member States and those third countries 
which  have  equivalent  provisions  on  matters  such  as  inspections  of  audit  firms.  The 
Commission, with the agreement of the Member States and the European Parliament, is in the 
process of adopting a Decision to determine which third countries are equivalent to the EU. 
Mutual reliance will allow for a more effective and efficient oversight of global audit firms. It 
will  also  avoid  duplication  of  efforts  in  the  supervision  of  cross  border  firms  at  an 
international level. 

As mentioned before, the supervision of the auditors of large groups which operate in multiple 
jurisdictions is a matter of concern. In addition to any arrangements which need to be put in 
place to allow the group auditor to assume its role and responsibilities, the Commission will 
discuss  with  its  international  partners  what  other  measures  should  be  adopted  at  the  global 
level for the supervision of group audits and global audit networks. 

Questions 

(38)  What measures could in your view enhance the quality of the oversight of global audit 

players through international co-operation? 

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9. 

NEXT STEPS 

This  Green  Paper  will  be  open  for  public  consultation  until  the  8th  of  December  2010. 
Responses  should  be  addressed  to  markt-greenpaper-audit@ec.europa.eu.  All  contributions 
will  be  published  on  the  DG  Internal  Market  and  Services  website  unless  a  contributor 
requests  otherwise,  as  will  a  Feedback  Statement  summarising  the  responses  to  this 
consultation. It is important to read the specific privacy statement attached to this Green Paper 
for information on how your personal data and contribution will be dealt with. 

The Commission will host a high level Conference on 10th February 2011. The Conference 
will aim at discussing the present Green Paper and the main findings of this consultation with 
all stakeholders and explore possible ways forward. Once this consultation phase is closed the 
Commission will announce any appropriate follow up measures and proposals in 2011. 

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