Striving for Absolute Independence

1
Striving for Absolute Independence Will the
Prohibition of Non-Audit Services Result in
Better Audits?
Hardld RING
Vice President, Institut der Wirtschaftsprufer Ger
many
2
Harald RingPresident of the Institut der
Wirtschaftspruefer, Germany

• Striving for Absolute Independence
• Will the Prohibition of Non-audit Services
  Result in Better Audits?

3
Introduction (1)

• Accountants a profession that is bound to very
  strict ethical standards
• Responsibility not limited to satisfy the
  clients needs
• Rather, acceptance of a particular responsibility
  to the public
• Particularly, when accountants act as auditors
• Today new debate about auditor independence
• Intensified by the Enron collapse and other
  accounting scandals
• One key issue Scope of services the auditor may
  provide to his audit client

4
Introduction (2)

• Opposing views as to the scope of permitted
  services
• Far going prohibition of non-audit services
  (audit- only approach)
• No general prohibition of non-audit services
• Both approaches can be found in current rule sets

5
Overview over the different rule sets (1)

• IFAC Code of Ethics/EU Commissions
  Recommendation on Auditor Independence
• Principles-based approach
• Catalogue of possible independence risks and
  safeguards to mitigate the risks
• Individual evaluation of each audit engagement is
  needed
• Amended by specific circumstances (examples how
  to apply the principles-based approach in
  frequently occurring situations where
  independence may be compromised)

6
Overview over the different rule sets (2)

• Provision of non-audit services
• Permitted if general safeguards (independent of
  the specific service) and specific safeguards
  (dependent of the specific service) exist
• Application illustrated for different kinds of
  services (e.g., preparation of accounts and
  financial statements, design and implementation
  of financial information systems, valuation
  services, )
• Prohibition of the service only as an ultimate
  safeguard

7
Overview over the different rule sets (3)

• Sarbanes-Oxley-Act in the U.S.
• Eliminated the exceptions and conditions of Rule
  2-01 of Regulation S-X which could result in the
  admissibility of a non-audit service
• Uniformly prohibits the following services
• Bookkeeping or other services related to the
  accounting records or financial statements of the
  audit client
• Financial Information systems design and
  implementation
• Actuarial services

8
Overview over the different rule sets (4)

• Appraisal or valuation services, fairness
  opinions or contribution-in-kind reports
• Internal audit out-sourcing services
• Management functions or human resources services
• Broker or dealer, investment adviser, or
  Investment banking services
• Legal services and expert services unrelated to
  the audit
• Any other service that the PCAOB determines
  impermissible
• Shift towards an audit-only approach

9
Deficiencies of an Audit-only Approach (1)

• Absolute versus relative independence
• Legislators view absolute independence as the
  ideal state that should be strived for
• However, auditor independence as a concept of
  relative independence
• Insufficient consideration of client-specific
  knowledge as the basis of todays audit
• Improving independence is not automatically
  equivalent to improving audit quality
• Increasingly complex and rapidly changing
  business environment

10
Deficiencies of an Audit-only Approach (2)

• Non-audit services assist the auditor in
  obtaining the knowledge required for high-quality
  audits
• Negative impacts on auditor quality and
  recruiting
• Audit quality depends on auditor quality
• Non-audit services assist the auditor in
  recruiting high potentials
• Inseparability of audit and certain non-audit
  services
• Lack of empirical evidence as to negative
  trade-offs between non-audit services and audit
  quality

11
Conclusion

• Non-audit services have the potential of
  impairing auditor independence and these risks
  must be eliminated
• However, a general ban on a wide range of
  non-audit services is not an appropriate solution
• Independence risks primarily depend on the
  circumstances of the individual case
• Thus, an audit-only approach may remove
  non-existent independence risks, thereby
  encumbering audit quality
• Rather, a flexible concept like the one pursued
  by the IFAC Code or the EU Recommendation is
  needed