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February 6, 2011

EC AUDIT REFORM: Big Four clauses must go

Kreston International, Jon Lisby, Big Four lending clauses

Big Four only clauses should be banned in
order to tackle the Big Four bias, according to respondents to the
EC Green Paper on audit reform.

The Big Four said restrictive lending clauses,
often inserted by banks, should be discouraged or prohibited while
the mid-tier would like them eliminated altogether.

In a recent International Accounting Bulletin
roundtable on audit reform, public policy leaders from Ernst &
Young, PwC, KPMG and the leading mid-tier firms unanimously called
for an end to the practice but there was not consensus on whether
it should be discouraged or banned.

Not free or fair

Kreston International executive director told
the International Accounting Bulletin that restrictive
covenants “contravene the free and fair market that should operate
within the EU”.

“The UK Financial Reporting Council has
long encouraged full voluntary disclosure of such arrangements but
there has been minimal compliance,” he said.

“The clauses added to the unwarranted bias and
perception that only the Big 4 have the necessary quality and
capability. Publishing audit inspections will eliminate this
myth.”

Lisby said banks may insert restrictive
covenants “to gain an additional form of insurance in the event of
audit failure”.

Transparency could be improved

Pauline Wallace, the UK Head of Public Policy
& Regulatory Affairs, says she is aware that restrictive
lending clauses exist but the practice may not be that widespread.
Wallace is against the practice but said it is not up to accounting
firms to tell banks how they should operate.

Wallace says efforts should be made to improve
the transparency of the tendering process, such as why audit
committee chairs choose a specific firm.

The preparers, business and organisations of
companies said they believe some of the Big Four bias comes from
the introduction of IFRS. Their argument is that only the Big Four
are able to maintain sufficient knowledge of IFRS due to their
complexity and that even the some of the Big Four regional offices
struggle to maintain a sufficient knowledge.   

Academics said that one of the reasons for Big
Four bias might be the investors’ opinion that in case something
went wrong the Big Four would have “deeper pockets”.

One option that respondents would like to see
further explored is a European certificate of quality for firms
that meet specific criteria.

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