ADVANCED PROGRAM IN ACCOUNTING AND AUDITING REGULATION - MODULE 4

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ADVANCED PROGRAMIN ACCOUNTING AND AUDITING
REGULATION - MODULE 4

• Auditing Regulation in the Acquis Communautaire
• Andrew J. Popham
• Chairman FEE Auditing Working Party

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Our Programme For Today

• Eighth Directive 1984 version
• Developments since then
• Proposed changes to the Eighth Directive

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8th Company Law Directive of 10 April 1984
(84/253/EEC)

• The 4th and 7th Company Law Directives define the
  scope of statutory audit but give no indication
  on who might be authorised to carry out such
  engagement
• The purpose of the 8th Company Law Directive is
  to organize the approval of statutory auditors
  and audit firms in the Member States of the
  European Union

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8th Company Law Directive of 10 April 1984

• Main Issues dealt with in the Directive
• Approval (registration) of statutory auditors
• Qualification requirements of auditors
• Principles of independence and integrity and
  sanctions for violation
• Approval of audit firms
• Publicity of the register of statutory auditors

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8th Company Law Directive of 10 April 1984 1.
Approval (registration) of Statutory Auditors

• Since 1984 in the EU, statutory audit can only be
  carried out by an approved statutory auditor or
  audit firm.
• 3 conditions are required to be a statutory
  auditor (natural person)
• To meet the qualification requirements as defined
  by the Directive (art.4)
• To be a person of good repute (art.3)
• To carry on no activity which is incompatible,
  under the law of that Member State, with the
  statutory auditing (art.3)

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8th Company Law Directive of 10 April 1984 1.
Approval (registration) of Statutory Auditors

• Conditions to approve a natural person to carry
  out statutory audits
• After having attained university entrance level,
• To have
• completed a course of theoretical instruction,
• undergone practical training and
• passed an examination of professional competence
  of university final examination level organized
  or recognized by the State.

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8th Company Law Directive of 10 April 1984 2.
Qualification Requirements of Auditors

• Providing details on
• the content of theoretical knowledge and
• practical training of auditors
• constitutes the main part of the Directive.
• The Directive also allows EU Member States to
  recognize the qualification afforded by another
  Member State or a foreign country

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8th Company Law Directive of 10 April 1984 2.
Qualification Requirements of Auditors

• The 8th Directive does not go very far on ethics.
  Without giving further details, it requires that
  approved auditors
• carry out audits with professional integrity
  (art.23)
• be independent in accordance with the law of the
  Member State which requires the audit. (art.24)
• be liable to appropriate sanctions when they do
  not carry out audits in accordance with these
  principles

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8th Company Law Directive of 10 April 1984 3.
Principles of Independence and Integrity and
Sanctions for Violation

• Ethical requirements apply to natural persons who
  carry out the statutory audit on behalf of a firm
  of auditors. (art.25)
• Shareholders and members of the management of
  audit firms who are not approved auditors may
  not intervene in the execution of audits in any
  way which jeopardizes the independence of the
  natural persons acting on behalf of such firms of
  auditors. (art.27)

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8th Company Law Directive of 10 April 1984 4.
Approval of Audit Firms

• Depending on the legislation of each EU Member
  State, statutory audit may be carried out by
  legal persons or other types of company, firm or
  partnership (firms of auditors). (art.2)
• Two conditions to be approved as a firm of
  auditors
• Natural persons acting on behalf of an audit firm
  must meet the qualification requirements and, if
  the Member State requires it, be approved.
• Conditions on majority in ownership and management

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8th Company Law Directive of 10 April 1984 5.
Publicity of the Register of Statutory Auditors

• EU Member States shall ensure that the names and
  addresses of all approved natural persons and
  firms of auditors are made available to the
  public.
• Following information must be made available to
  the public in respect of each approved firm of
  auditors
• the names and addresses of the natural persons
  allowed to carry out statutory audit on behalf of
  the audit firm
• the names and addresses of the members or
  shareholders of the firm of auditors
• the names and addresses of the members of the
  administrative or management body of the firm of
  auditors.

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Developments since 1984

• 28 October 1996 Green Paper on the Role,
  Position or Responsibilitites of Statutory
  Auditors in the EU
• 8 May 1998 EU communication  Statutory Audit
  in the European Union - the way forward 
  Establishment of the Committee on Auditing
• 15 November 2000 EU Recommendation  Quality
  Assurance for statutory audit 
• 16 May 2002 EU recommendation  Statutory
  Auditors Independence in the EU 

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Modernisation of the 8th Directive

• Why Changing Now?
• The Eighth Directive does not cover auditing
  standards, quality assurance or public oversight
• Ethical requirements in the Eighth Directive are
  seen as too high level
• US pressure after Sarbanes Oxley
• EU Parliaments pressure after Parmalat

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Modernisation of the 8th Directive

• Presentation of a proposed Directive by the
  European Commission in March 2004
• The EU Council of Member States approved an
  amended version in December 2004
• The EU Parliament is expected to vote in
  September 2005
• If the three bodies agree on the same text, which
  is probable, the Directive will be finalised and
  published early in 2006
• Member States are granted 24 months to implement
  the new provisions

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THE DIRECTIVES CHAPTERS 84/253 PROPOSAL
Definitions NO NEW
Approval, continuous education and mutual recognition YES Substantial changes
Registration YES No change
Professional ethics, independence and professional secrecy LIMITED Much more developed
Auditing standards and audit reporting NO NEW
Quality assurance NO NEW
Investigations and sanctions LIMITED No substantial change
Public oversight and regulatory arrangements between Member States NO NEW
Appointment, dismissal, communication NO NEW
Audit of public interest entities NO NEW
International aspects NO NEW
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Our Programme For Today

• To avoid duplication with other modules of the
  World Banks programme we will discuss
• Audit standards
• Quality assurance
• Investigations and sanctions
• Audit of public interest entities
• International aspects
• Other Modules Will Cover
• Registration and mutual recognition 20 September
• Oversight 29 November
• Education 31 January
• Ethics 14 February

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1. Auditing Standards

• EU Members States shall require statutory
  auditors and audit firms to carry out statutory
  audits in accordance with international auditing
  standards adopted by the Commission
• Adopted international auditing standards shall be
  published in full in each of the official
  languages of the Community, in the Official
  Journal of the European Union

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1. Auditing Standards

• The EU Commission shall only adopt international
  auditing standards for application in the
  Community if they
• Are generally accepted internationally and are
  developed with proper due process, public
  oversight and transparency and
• Contribute to a high-level of credibility and
  quality to the annual or consolidated accounts
  and
• Are conducive to the European public good

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1. Auditing Standards

• Behind the formal wording, objectives are
• To endorse a coherent set of standards which can
  only be International Standards on Auditing (ISA)
  issued by IAASB
• To decide on the report of a technical committee
  which will have the responsibility to assess the
  technical soundness of the standards
• Year after year, new standards will be regularly
  endorsed by the EU Commission in order to make
  them part of the EU system of law.

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1. Auditing Standards

• Main Issues under discussion on standard setting
• EU commitment to continue working with IAASB in
  future
• Convergence between ISAs and US standards
• Clarity and enforceability of Isas
• Who will be present in the technical committee?
  Oversight bodies? the profession?

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1. Auditing Standards

• Implementation at National Level
• EU Member States may apply a national auditing
  standard as long as the Commission has not
  adopted an ISA covering the same subject matter.
• EU Member states must implement the Directive
  within a period of two year but an additional
  transitional period of two years is introduced to
  eliminate unnecessary additional requirements.

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1. Auditing Standards

• Implementation at National Level
• Member States may impose audit procedures or
  requirements in addition to ISAs but only if
  these follow from specific national legal
  requirements relating to the scope of the
  statutory audit.
• In exceptional cases where there is a serious
  legal problem, a carve out of ISA requirements
  could also be possible.
• Arrangements must be developed to police these
  rules

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1. Auditing StandardsAudit Report

• Audit Report
• A recent update of ISA 700 facilitates the
  application of ISA reporting in Europe,
  especially because it clearly separates the
  opinion on financial statements and other
  declarations on (national) legal and regulatory
  requirements
• Where an audit firm carries out the statutory
  audit, the audit report shall be signed at least
  by the statutory auditor(s) carrying out the
  statutory audit on behalf of the audit firm.

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1. Auditing StandardsGroup Accounts

• IAASB started working on audit of group accounts
  recently approval of the standard is expected
  shortly.
• Parmalat raised questions on responsibilities.
• Audit documentation in group audits was an issue
  in the US.

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1. Auditing Standards Group Accounts

• The group auditor bears the full responsibility
  for the audit report on consolidated accounts.
• The group auditor carries out a review and
  maintains documentation of the review of the
  audit work performed by other auditors for the
  purpose of the group audit.
• The documentation shall be adequate for the
  relevant competent authority to properly review
  the work of the group auditor.

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1. Auditing Standards Group Accounts

• Cooperation between regulators of different
  countries will provide a framework for transfer
  of audit working papers related to components of
  a group
• In the absence of a cooperation agreement, the
  group auditor is responsible for ensuring proper
  delivery, when requested, to the public oversight
  authorities of the documentation relevant for the
  group audit
• Therefore, he shall
• retain a copy of such documentation,
• agree with the third country auditor his proper
  and unrestricted access upon request, or
• take any other appropriate action.

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2. Quality Assurance

• EU Recommendation published in November 2000
• Principles of the Recommendation are inserted in
  the proposed Directive to make them mandatory
• Applicable to all kinds of audits, not just
  listed companies
• Organisation of quality assurance is different in
  the Member States
• Good balance must be found between independence,
  competence and resources

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2. Quality Assurance

• Quality assurance systems must be independent
  from the reviewed statutory auditors and audit
  firms and subject to public oversight
• The funding for the quality assurance system must
  be secure and free from any undue influence by
  statutory auditors or audit firms
• The quality assurance system must have adequate
  resources

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2. Quality Assurance

• Persons who carry out the quality assurance
  reviews must have
• Appropriate professional education and relevant
  experience in statutory audit and financial
  reporting
• Specific training on quality assurance reviews

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2. Quality Assurance

• The selection of reviewers for specific quality
  assurance review assignments must
• Be made under an objective procedure
• Ensure that there are no conflicts of interest
  between the reviewers and the statutory auditor
  or audit firm under review

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2. Quality Assurance

• Quality assurance review must
• Assess the internal quality control of the firm
• Include adequate testing of selected audit files
• Have as objectives to assess
• compliance with auditing standards
• compliance with independence requirements
• the quantity and quality of resources spent
• the audit fees

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2. Quality Assurance

• Quality assurance reviews must take place at
  least every six years
• Report on quality assurance review must contain
  the main conclusions of the external quality
  assurance review
• Findings on individual firms are not disclosed
  but the overall results of the quality assurance
  system must be published annually by the body
  responsible for quality assurance

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2. Quality Assurance

• Recommendations of quality reviews shall be
  followed up by the statutory auditor or audit
  firm within a reasonable period
• If recommendations are not followed up, the
  auditors will be subject to disciplinary action

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3. Investigations (in case of malpractice) and
Sanctions

• Systems of investigations must be in place to
  detect, correct and prevent inadequate execution
  of the statutory audit
• Investigation are conducted in case of
• Complaints from a third party
• Lack of reaction of the auditor on
  recommendations after a quality review
• Specific initiative of the oversight body

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3. Investigations and Sanctions

• Disciplinary sanctions are already mentioned in
  the current 8th Directive but the system is
  reinforced.
• Member States must provide effective,
  proportionate and dissuasive sanctions in respect
  of statutory auditors and audit firms, where
  statutory audits are not carried out in
  conformity with the provisions adopted in the
  implementation of the Directive.

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3. Investigations and Sanctions

• Sanctions for malpractice can be
• Criminal sanctions
• Civil responsibility (damages)
• Disciplinary sanctions.
• Measures taken or sanctions imposed on statutory
  auditors and audit firms must be appropriately
  disclosed to the public. Sanctions may include
  the possibility of the withdrawal of approval.

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4. Audit of Public Interest Entities

• Definition of PIE listed companies, large banks
  and insurance companies
• Mandatory audit committees to support the
  statutory auditor
• More frequent quality review of the work of audit
  firms
• Firms to public public interest  reports
  summarising their quality control arrangements
  and those of their network

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5. International Aspects

• Major issues in the transatlantic regulatory
  dialogue.
• Possibility to approve third country auditors
  when providing an audit report on a EU company
• Registration of third country auditors when
  providing an audit report on companies listed in
  the EU derogation possible in case of
  equivalence
• Organisation of cooperation between regulators
  (competent authorities of EU and third Countries)
  on access to audit working papers in other
  countries.

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Conclusions

• The objective of audit regulation is to enhance
  audit quality in the public interest.
• The EU regulatory system has been gradually
  developed since 1984.
• When implemented by the Member States the new
  Directive will provide an important improvement
  of the framework.
• Additional efforts will be conducted at the level
  of regulators and at the level of the profession,
  including the European profession of accountants,
  to ensure appropriate development and enforcement
  of the principles.