Will Mandatory Auditor Rotation Help?

02.09.2011
Earlier this month, with the goal of soliciting input on ways that "auditor independence, objectivity and professional skepticism" could be enhanced. One approach up for discussion, the PCAOB said, is mandatory audit firm rotation.

"[T]he global financial crisis has tested the credibility of the audit in the public mind once again," notes the Public Company Accounting Oversight Board, the private-sector non-profit corporation created by the Sarbanes-Oxley Act. "What is clear from the Board's inspections, as well as from the experience of other audit regulators, is that questions persist about whether more can and should be done to enhance auditor independence, objectivity and professional skepticism."

If one uses the number of restatements of financial filings as a barometer of audit quality, the trends are improving, albeit not in a straight line.

Of course, one would expect the number of restatements to tail off sharply after the initial post-Sarbox wave of them, when reporting issues were cleared up for many companies. Indeed, the number of restatements jumped from 613 in 2001 to 1,795 in 2006, then dropped to 735 in 2010, according to the research firm Audit Analytics, after some year-to-year ups and downs. (Its numbers showed a 2010 rise from 683 restatements in 2009, for example.) Audit Analytics' database includes about 7,000 public registrants.

Could mandatory audit firm rotation drive the number of restatements even lower, and improve the overall quality of public company audits? To be sure, a credible argument can be made in support of the idea. "When you have a long auditor tenure, the auditors tend to develop a familiarity (with the client) that can manifest itself in negative ways. They may lose the healthy skepticism that auditors are supposed to have," says Don Whalen, director of research with Audit Analytics.