Audit Firm Rotation or Partner Rotation?

• In Event: Auditing 3

Abstract

Since the enactment of the Sarbanes-Oxley Act (SOX) in 2002, there has been an ongoing debate over the auditing independence rules within the United States. Section 203 of SOX requires that the lead and concurring partner must rotate off the client after five years, in addition to another five-year “cooling off” period before they may work on the same client again. Meanwhile, a few foreign countries require auditors to rotate their entire firm, not just their partners, off the client after a specific number of years. After years of discussion, it appears that the United States will maintain partner rotation, as the Public Company Accounting Oversight Board finally decided to abandon the idea of requiring audit firm rotation in February 2014. On the other hand, the European Union is moving closer and closer to mandating audit firm rotation for listed companies and financial institutions every ten years. The question thus looms of which rotation type is more sufficient in terms of preserving auditor independence and enhancing audit quality. Only a handful of countries have instituted mandatory audit firm rotation, and therefore past research has provided unconvincing conclusions. The purpose of this paper is to compare the audit quality in three particular countries with firm rotation experience—Brazil, Indonesia, and South Korea—to that of the United States (a country with partner rotation experience) before and after their current rotation rules were implemented to attempt to answer the enduring controversy. Audit quality will be measured in terms of the accuracy of audit reports, or more precisely, the percentage of reports that lacked an emphasis of matter paragraph or going concern opinion for companies that subsequently filed for bankruptcy.

Authors

• Bea B.H Chiang, The College of New Jersey

• Michael Palantone, The College of New Jersey