EUROPE – The current audit market displays several "worrying" features, according to a group of European institutional investors, who have called on the European Commission to amend current proposals for reform.

In a position paper on the directive for regulation of the audit market submitted to the European Commission, the investors – comprising Swedish buffer funds AP1-4, the UK's Environment Agency Pension Fund and the Netherlands' Robeco, among others – argued that auditor independence and a lack of trust on part of investors were major sources of concern.

The group identified a number of issues related to the audit market, starting with the failure of auditors to provide "adequate" warnings prior to the collapse of a number of banks and insurers in the financial crisis.

They also claimed that audit services to the largest listed companies are currently dominated by "too few" large auditors: the average market share of the largest four audit firms in Union member states stood at over 90%, with this percentage rising to 100% in some sectors, according to the position paper.

The institutional investors also pointed their finger at the lack of rotation, arguing that, in the UK, audit firms retain a FTSE 100 client on average for 48 years, with some of them retaining certain clients for 100 years and above.

The group, including one of the UK's largest pension funds, the Universities Superannuation Scheme, Switzerland's Ethos and French pensioner association FAIDER, also denounced in its white paper the "high" levels of non-audit work conducted by the auditor for individual clients.

The group therefore recommended a number of changes both to the draft regulation and directive published by the Commission last year.

Among the recommendations, one aims to extend the rotation of firms to 15 years against the six years being proposed by Brussels.

"Audit Committees are required to set a maximum tenure period for auditors to suit their company’s complexity and size, and outline their reasoning to shareholders," the group said.

"An upper bound of 15 years should be set to safeguard shareholders long-term interests.

"It is expected that Audit Committees will undertake at least one competitive tender including the incumbent, and then again at the end of the full term, excluding the incumbent. There should be a 'clear water' period of at least five years before an auditor can be re-appointed."

The group went on to say that a system of mandatory tendering every 5-7 years, combined with mandatory rotation after no more than 15 years, should be introduced.

"The tender should involve at least two candidates, other than the incumbent, to ensure genuine competition and to open the market to new entrants," the group added.

According to the signatories of the position paper, auditors should also be permitted to undertake audit-related work. However, the group insisted it would favour restrictions on non-audit work for audit clients.

"We would like to see a requirement that where the value of non-audit work rises above 50% of the audit work, the Audit Committee must bring down the ratio below 50% within the next 12 months, or select a new audit firm at the next tender," the group said.

Finally, the group asked for a fuller audit report that draws attention to key areas of judgment, estimates, any weaknesses in the financial system, assumptions underlying fair value estimates, any disagreements with management. 

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