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Article
Publication date: 1 April 2005

Christie L. Comunale and Thomas R. Sexton

To explore the effects of mandatory auditor rotation and retention on the long‐term market shares of the accounting firms that audit the members of the Standard and Poor's…

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Abstract

Purpose

To explore the effects of mandatory auditor rotation and retention on the long‐term market shares of the accounting firms that audit the members of the Standard and Poor's (S&P) 500.

Design/methodology/approach

A Markov model is constructed that depicts the movements of S&P 500 firms in the period 1995 to 1999 among Big 5 accounting firms. Auditor rotation and retention are reflected in the transition probabilities. The impacts of mandatory auditor rotation and retention policies are evaluated by examining the state probabilities after two, five, and nine years.

Findings

The paper finds that mandatory auditor rotation will have substantial effects on long‐term market shares, whereas mandatory auditor retention will have very small effects. It shows that a firm's ability to attract new clients, as opposed to retaining current clients, will be the primary factor in determining the firm's long‐term market share under mandatory auditor rotation.

Research limitations/implications

The paper assumes that S&P 500 firms will continue their reliance on Big 5 firms and that the estimated transition probabilities will remain stable over time.

Practical implications

Excessive market share concentration resulting from such policies should not be a concern of regulators. The paper conjectures that, under mandatory rotation, accounting firms will reallocate resources to attract new clients rather than retain existing clients. This may result in lower audit quality.

Originality/value

Interestingly, over the past 25 years, several bodies have considered mandatory auditor rotation and retention. Surprisingly, the authors have found no studies of the effects of mandatory auditor rotation and retention on audit market share.

Details

Managerial Auditing Journal, vol. 20 no. 3
Type: Research Article
ISSN: 0268-6902

Keywords

Book part
Publication date: 4 September 2015

Jacqueline A. Burke and Hakyin Lee

Mandatory auditor firm rotation (mandatory rotation) has been a controversial issue in the United States for many decades. Mandatory rotation has been considered at…

Abstract

Mandatory auditor firm rotation (mandatory rotation) has been a controversial issue in the United States for many decades. Mandatory rotation has been considered at various times as a means of improving auditor independence. For example, in the United States, the Public Company Accounting Oversight Board (PCAOB) has considered mandatory rotation as a solution to the independence problem (PCAOB, 2011) and the European Parliament approved legislation that will require mandatory rotation in the near future (Council of European Union, 2014). The concept of implementing a mandatory rotation policy has been encouraged by some constituents of audited financial statements and rejected by other constituents of audited financial statements. Although there are apparent pros and cons of such a policy, the developmental process of such a policy in this country has not necessarily been an open-democratic, objective process. Universal mandatory rotation may or may not be the ideal solution; however, an open-democratic, objective process is needed to facilitate the development of a solution that considers the needs of all major stakeholders of audited financial statements – not simply accounting firms and public companies, but also investors. The purpose of this paper is to critically examine key issues relating to mandatory rotation and to encourage and stimulate future research and ongoing dialogue regarding this issue, in spite of efforts by certain constituents to silence the issue. This paper provides an overview of the various reasons, including practical, theoretical, political, and self-motivated reasons, why a mandatory rotation policy has not been implemented in the United States in order to address the potential conflict of interest between the auditor and client. This paper will also discuss how some deliberations of mandatory rotation have been flawed. The paper concludes with a summary of key issues along with two approaches for regulators, policy makers, and academics to consider as ways to improve the process and address auditor independence. The authors are not advocating for any specific solution; however, we are advocating for a more objective, unified approach and for the dialogue regarding auditor rotation to continue.

Details

Sustainability and Governance
Type: Book
ISBN: 978-1-78441-654-6

Keywords

Article
Publication date: 25 February 2018

Reiner Quick and Florian Schmidt

As a consequence of the global financial and economic crisis, the European Commission recently reformed the audit market. One objective was to restore public trust in the…

Abstract

As a consequence of the global financial and economic crisis, the European Commission recently reformed the audit market. One objective was to restore public trust in the auditing profession and thus to enhance the audit function. This study investigates whether perceptions of auditor independence and audit quality are influenced by audit firm rotation, auditor retention and joint audits, because regulators argue that these instruments can improve auditor independence and audit quality. Therefore, we conduct an experiment with bank directors and institutional investors in Germany. The results indicate a negative main effect for joint audits on perceived auditor independence, and that a rotation cycle of 24 years marginally significantly impairs participant perceptions of audit quality, compared to a rotation cycle of only ten years. Besides the main effects, planned contrast tests suggest a negative interaction between rotation and joint audit on participant perceptions of auditor independence. Moreover, a negative interaction effect is revealed between rotation after 24 years and retention on perceptions of audit quality. It is particularly noteworthy that we failed to identify a positive impact of the regulatory measures taken or supported by the European Commission on perceptions of auditor independence and audit quality.

Details

Journal of Accounting Literature, vol. 41 no. 1
Type: Research Article
ISSN: 0737-4607

Keywords

Article
Publication date: 8 July 2020

Michael Harber and Warren Maroun

This study aims to address an acknowledged gap in the literature for the analysis of experienced practitioner views on the effects and implications of mandatory audit firm…

Abstract

Purpose

This study aims to address an acknowledged gap in the literature for the analysis of experienced practitioner views on the effects and implications of mandatory audit firm rotation (MAFR).

Design/methodology/approach

Using an exploratory and sequential design, data was collected from South African regulatory policy documents, organisational comment letters and semi-structured interviews of practitioners. These findings informed a field survey, administered to auditors, investors, chief financial officers (CFOs) and audit committee members of Johannesburg Stock Exchange (JSE) listed companies.

Findings

Practitioners expressed considerable pushback against the potential efficacy of MAFR to improve audit quality due to various “switching costs”, notably the loss of client-specific knowledge and expertise upon rotation. In addition, the cost and disruption to both the client and audit firm are considered significant and unnecessary, compared to audit partner rotation. The audit industry may suffer reduced profitability and increased strain on partners, leading to a decline in the appeal of the profession as a career of choice. This is likely to have negative implications for audit industry diversity objectives. Furthermore, the industry may become more supplier-concentrated amongst the Big 4 firms.

Practical implications

The findings have policy implications for regulators deciding whether to adopt the regulation, as well as guiding the design of policies and procedures to mitigate the negative effects of adoption.

Originality/value

The participants are experienced with diverse roles concerning the use, preparation and audit of financial statements of large exchange-listed multinational companies, as well as engagement in the auditor appointment process. The extant literature presents mixed results on the link between MAFR and audit quality, with most studies relying on archival and experimental designs. These have a limited ability to identify and critique the potential’s witching costs and unintended consequences of the regulation. Experienced participants responsible for decision-making within the audit, audit oversight and auditor appointment process, are best suited to provide perspective on these effects, contrasted against the audit regulator’s position.

Details

Managerial Auditing Journal, vol. 35 no. 7
Type: Research Article
ISSN: 0268-6902

Keywords

Article
Publication date: 24 October 2019

Devi Sulistyo Kalanjati, Damai Nasution, Karin Jonnergård and Soegeng Sutedjo

The purpose of this paper is to investigate the association between audit rotation – at the audit partner and audit firm level – and audit quality. As mentioned in the…

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Abstract

Purpose

The purpose of this paper is to investigate the association between audit rotation – at the audit partner and audit firm level – and audit quality. As mentioned in the literature, audit rotation has several benefits, and one of them is it can bring a fresh look to audit tasks and subsequently improve audit quality. Moreover, audit itself can help a client to improve its financial reporting. However, ineffective communication between predecessor and successor audit partners or audit firms, and pseudo-rotation can hamper that benefit.

Design/methodology/approach

This study uses multivariate regression analysis to test its hypotheses. Using data from companies listed on the Indonesia Stock Exchange, the sample consists of 688 company-year observations covering the period 2003–2016.

Findings

This study finds that the cumulative number of audit partner rotations is positively associated with audit quality, indicating that rotations at the audit partner level will enhance audit quality. Conversely, it finds that the cumulative number of audit firm rotations is negatively associated with audit quality.

Practical implications

The study’s findings may assist regulators in crafting standards regarding audit rotation. As the findings show, audit partner rotation will improve audit quality, but the audit firm rotation will decrease audit quality. As this study tries to explain the decreasing audit quality from audit firm rotation could be a consequence of ineffective communication or pseudo audit firm rotation. Regulators should try to tackle these problems.

Originality/value

Instead of using tenure as a proxy for a rotation, this study creates a new proxy named the cumulative number of audit partner and audit firm rotations to provide evidence on the benefits of audit rotation.

Details

Asian Review of Accounting, vol. 27 no. 4
Type: Research Article
ISSN: 1321-7348

Keywords

Article
Publication date: 18 September 2007

Nieves Carrera, Nieves Gómez‐Aguilar, Christopher Humphrey and Emiliano Ruiz‐Barbadillo

In recent international debates on auditing regulation, Spain has assumed a real prominence as a claimed practical example of where a policy of mandatory audit firm…

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Abstract

Purpose

In recent international debates on auditing regulation, Spain has assumed a real prominence as a claimed practical example of where a policy of mandatory audit firm rotation did not work and was duly abolished. This study aims to provide an analysis of the implementation and subsequent removal of mandatory audit firm rotation in Spain in the 1990s.

Design/methodology/approach

This takes the form of historical analysis; the evidence in the paper derives from congressional hearings, financial newspapers and documents produced by the professional associations of auditors in Spain.

Findings

This paper demonstrates that at no stage was mandatory rotation of audit firms ever enforced on Spanish auditors. Further, the revision and subsequent removal of the Spanish law on mandatory audit firm rotation emerge as a rather politicized process, with no evident reference being made in the process of legislative reform to Spanish auditing experiences. The analysis also reveals that at the very time that Spain was being cited internationally for rejecting mandatory audit firm rotation, Spanish political parties and regulators were debating whether to “re‐introduce” such a regulation.

Originality/value

The clear implication of the paper is that considerable caution needs to be taken in today's international‐auditing arena, when analyzing the standpoints and claims made by professional associations and the evidence they provide to support their arguments for and against regulatory reform.

Details

Accounting, Auditing & Accountability Journal, vol. 20 no. 5
Type: Research Article
ISSN: 0951-3574

Keywords

Article
Publication date: 3 February 2014

Regan N. Schmidt and Britney E. Cross

– The purpose of this paper is to examine how audit partner rotation impacts the negotiation strategies client management intends to use to resolve a financial reporting issue.

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Abstract

Purpose

The purpose of this paper is to examine how audit partner rotation impacts the negotiation strategies client management intends to use to resolve a financial reporting issue.

Design/methodology/approach

An experiment that manipulates between participants on whether the audit partner rotates from the prior fiscal year (rotation versus non-rotation) is conducted to test the theoretical implications of rapport. Participants with a high level of business and managerial experience indicate their intended use of 25 reliable negotiation tactics that client management may use to resolve a financial reporting issue with the external auditor. These tactics underlie three distributive (contending, compromising, conceding) and two integrative (problem solving, expanding the agenda) negotiation strategies.

Findings

The results of the study indicate that client management is less contentious and more concessionary (i.e. accommodating) to a newly rotated audit partner, as compared to an audit partner that has established rapport with client management. Further, client management is more willing to intend using integrative and compromising (i.e. co-operative) negotiation strategies when negotiating with an audit partner with established rapport in contrast to a newly rotated audit partner.

Research limitations/implications

These findings underscore the merits and costs of audit partner rotation in auditor-client management (ACM) negotiations and document that partner rotation affects not only auditor behaviour, but also the behaviour of client management.

Originality/value

This paper is the first that considers how developing and maintaining rapport impacts ACM negotiations. The study provides empirical evidence to further inform debates over auditor rotation.

Details

Managerial Auditing Journal, vol. 29 no. 2
Type: Research Article
ISSN: 0268-6902

Keywords

Article
Publication date: 17 August 2021

Qiliang Liu, Lei Zhao, Li Tian and Jian Xie

This paper aims to investigate whether close auditor-client relationships affect audit quality over the tenure of the audit partner and the potential role of partner…

Abstract

Purpose

This paper aims to investigate whether close auditor-client relationships affect audit quality over the tenure of the audit partner and the potential role of partner rotation in mitigating this effect.

Design/methodology/approach

Using the Chinese mandatory audit partner rotation setting, the authors identify the existence of a close auditor-client relationship if the audit partner tenure with a client is larger than the audit firm tenure with that client. The sample period (1998–2009) is divided into voluntary and mandatory rotation periods when examining the effects of audit partner tenure on audit quality for the normal and close auditor-client relationship subsamples, respectively. The authors also conduct a propensity score matching analysis to address a selection issue.

Findings

The paper finds that under the voluntary partner rotation regime, audit quality decreases with audit partner tenure for the subsample with close auditor-client relationships, whereas this effect is not shown in the normal relationship subsample. However, audit quality no longer declines with audit partner tenure under the mandatory partner rotation regime.

Originality/value

This is the first study that directly examines the effect of audit partner tenure on audit quality associated with close auditor-client relationships under the voluntary and mandatory partner rotation regimes.

Details

Managerial Auditing Journal, vol. 36 no. 6
Type: Research Article
ISSN: 0268-6902

Keywords

Article
Publication date: 15 July 2013

Diana Mostafa Mohamed and Magda Hussien Habib

The purpose of this paper is to introduce the problem of the lack of auditor independence in the Egyptian context, how it might affect the audit quality, through assessing…

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Abstract

Purpose

The purpose of this paper is to introduce the problem of the lack of auditor independence in the Egyptian context, how it might affect the audit quality, through assessing reasons behind the voluntary switching of auditors, whether this switch is in the side of improving audit quality or not and the suggestion of the mandatory auditor rotation as a solution to such a problem.

Design/methodology/approach

The paper's findings are based on a survey analysis. The survey is done through a questionnaire created by the researcher (author) from the literature and distributed among audit practitioners from the Big Four audit firms operating in Egypt.

Findings

The problem of lack of auditor independence exists in Egypt due to many reasons. The main reason is the poor structure of corporations of being closely held. It was also found that the voluntary switching of auditors are for purposes improving the quality; from these reasons is the search of more reputable auditors and timelier audit opinions. Finally auditor rotation was suggested by the practitioners in order to overcome the problems of lack of independence and that the mandatory firm rotation is suggested instead of the mandatory partner rotation.

Practical implications

The mandatory audit firm rotation in different countries had some positive effect on audit quality. The application of mandatory rotation in the Egyptian context where there the problem of the lack of auditor independence is really clear is suggested so as to overcome the consequences of the independence problem and improve the audit quality.

Originality/value

This research work tries to dig more into the Egyptian context as a developing country regarding the threats to the auditing professionals in terms of the causes that might be impairing their independence as well as assessing the applicability of the mandatory rotation practice in Egypt.

Details

Education, Business and Society: Contemporary Middle Eastern Issues, vol. 6 no. 2
Type: Research Article
ISSN: 1753-7983

Keywords

Article
Publication date: 12 July 2013

David S. Jenkins and Thomas E. Vermeer

The purpose of this paper is to provide a succinct overview of academic research that has examined audit firm rotation both in the USA and in other countries.

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Abstract

Purpose

The purpose of this paper is to provide a succinct overview of academic research that has examined audit firm rotation both in the USA and in other countries.

Design/methodology/approach

The authors outline the unresolved nature of academic research on audit firm rotation, review recent literature, discuss why academics have been unable to resolve this issue and offer suggestions for improving subsequent research in the area.

Findings

Overall, the collective evidence is inconclusive at best; with earlier studies generally finding mixed results and more recent studies indicating that audit quality generally goes through two distinct phases during the auditor‐client relationship, the “auditor learning” and “auditor closeness” phases.

Originality/value

Given the importance of the issue, this article provides an overview of academic research that has examined audit firm rotation, discusses why academics have been unable to resolve this issue, and provides suggestions on how academics and practitioners can work together to enhance the quality of future research.

Details

Accounting Research Journal, vol. 26 no. 1
Type: Research Article
ISSN: 1030-9616

Keywords

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