Support For Mandatory Firm Rotation

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Support for mandatory firm rotation (MFRs) in Europe comes from both the academic community (e.g. Watts and Zimmerman [1983], Black [2000–2001], Ball [2001]) as well as from regulators such as the European Commission. Advocates claim that MFR plays an important role in preserving the transparency while improving the functioning capabilities of capital markets” (Gerekos and Syverson, 2015, 725). However, those against MFR argue that it is ineffective because of various market-based incentives already in place (e.g. AICPA 1992; DeFond et al. 2002; Geiger and Raghunandan 2002). For example, even in the absence of MFR, auditors are motivated to provide quality audit services because they face significant costs from the threat of litigation…show more content…
As MFRs are enforced, there becomes only three reasonable audit firms for big companies to choose from, assuming they want to maintain the reputational and signaling benefits associated with having Big 4 firms as their auditors (Blouin, Grein, Rountree 2007, 631). On the demand side, the same number of companies would be purchasing audit services at the onset of MFR regulation. Gradually, in anticipation for future rotations, companies will be forced to create schedules and strategies to cope with switching audit firms. In short, companies will have periods in which the demand they have for audit firms will overlap, therefore causing the anticipated steady demand rate to increase. Thus, while supply begins to shift down, we can see demand inversely shifting up. As a result, audit fees increase. However, it is possible that in anticipation of companies looking for new auditors, auditors would in turn compete for new clients by proposing lower audit fees. It is also important to examine the role of MFRs on audit fees for EU companies traded in the United States because of the mismatch that EU companies are subjected to by MFR regulation. These companies face potential audit fee changes. but are traded in the United States, where there is ambiguity as to whether investors are supportive of or against MFR regulation. Full company transparency is perceived as the best
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