Auditing and Assurance 2: Audit Firm Rotation and Independence

This report delves into the critical topic of audit firm rotation and its implications for auditor independence, a cornerstone of financial reporting integrity. It begins by outlining the context, including the role of the Public Company Accounting Oversight Board (PCAOB) and the controversies surrounding auditor independence. The report discusses the concept of audit firm rotation, mandated by the Sarbanes-Oxley (SOX) Act, and its aim to enhance audit quality and auditor objectivity. It explores the motivations behind these changes, primarily the need to ensure auditors are free from financial entanglements and maintain an unbiased perspective. The report further examines the potential impacts of audit firm rotation, including both advantages and disadvantages, and discusses alternative approaches to strengthen auditor independence, such as the appointment of independent audit committees and robust firm quality control measures. The report concludes by emphasizing the importance of audit firm rotation in preserving audit quality and auditor objectivity.

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Table of Contents
Audit Firm Rotation and Auditor’s Independence..........................................................................2
Reason and Motivation for Changes................................................................................................3
Impact of Audit Firm Rotation........................................................................................................4
Reference.........................................................................................................................................6

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Audit Firm Rotation and Auditor’s Independence
As per the Journal by L.T Williams and W.M. Wilder, in recent times the Public
Company Accounting Oversight Board (PCAOB) has issued number of standards which has
focused on improving the auditing process. However, there has been constant controversy when
it comes to an auditor’s independence. The board has tried to improve this situation by
incorporating a situation where the auditor needs to constantly revise the auditors-client
engagement by the use of certain time period. The solution which has been suggested to the
board is that the auditor must be mandatorily be rotated in order to maintain the independence
principle of an auditor. Audit firm rotation refers to the rule which limits the auditing firm from
carrying out audit for the same firm on the basis of years. The rule was introduced in Sarbanes-
Oxley (SOX) Act with the hope of improving the overall quality of audit and also promote
auditor independence. The independence of the auditor is one of the fundamental requirements of
the auditor (Blay & Geiger, 2013). As per Aubin, 2013 the companies in the United States are of
the view that audit firm rotation will lead to increase in the regulatory costs of the companies and
also lower the quality of audit which is being performed.
As per the upgrade which was introduced by Sarbanes-Oxley (SOX) Act 2002 in audit
rotation principle were related to the time period for which the audit partner was allowed to
conduct audit on a firm and also on the cooling off period of an audit partner. The audit
engagement partner rotation period was changed from seven years to five years and the cooling
off period which is mandatory changed from two years to five years as per the new requirement.
A research show that the most of the audit firms are of the view that continuing audit tenure with
the same client does not diminishes the quality of the audit which is performed by the auditor.
The impact of audit firm rotation on the independence of the auditor is still being considered. As

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per PCAOB, the board will be looking out for alternative which can improve the independence
principles and also the quality of audit for the business.
The alternative approaches which can be adopted by the by the firm to strengthen the
independence principle of the auditor are given below:
1. The appointment of an audit committee which can be independent and also supervise the
process of audit (Holland & Lane, 2012). The effectiveness of the audit committee will
be helpful in strengthening the audit of financial statement and thereby benefit the
shareholders of the company. The audit committee will look into the appointments of the
auditor and also supervise the audit process and the terms of engagement of the auditor.
2. Another alternative is firm quality control which states that the audit firm themselves
should strive for an independent approach for the process of audit and maintain integrity
and objectivity of the audit process.
3. Another alternative can be audit firms should not be providing non-audit services to the
client as it can hamper the independence principle of an auditor.
Reason and Motivation for Changes
The main reason for the various changes which have been taking place due to audit
rotation can be attributed to the fact that such improvements are likely to bring about
improvements in the principle which related to the independence of the auditor. The principle of
independence of the auditor states that the auditor should be free from the financial interest from
the firm and also ensure that the process of audit is conducted in a smooth and efficient way
(Tepalagul & Lin, 2015). In addition to this the independence principle of the auditor also
focuses on whether the process of audit is being conducted following the principles of integrity
and objectivity.

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The stakeholders of the company along with the general public who are general users of
the financial statement are dependent on the opinion of the auditor in order to make investments
decisions. If the independence of the auditor is compromised the opinion of the auditor may not
be appropriate. Thus, various changes are being made in the field of auditing to ensure that the
quality of audit is not compromised and moreover, the independence principle of the auditor is
not affected in case of audit of the same client over the years. The changes which are being made
in the field of auditing is aimed at improving and maintaining the quality of the audit. It is
expected that the principle of Audit Firm Rotation will bring about a change and also ensure that
the independence of the auditor is maintained (Lennox, Wu & Zhang, 2014). Alternative
suggestions are also suggested which can be used to improve the overall quality of the audit.
Impact of Audit Firm Rotation
The main objective of the principles of audit firm rotation is to ensure that the
independence principle of the auditor is not compromised and also improve the overall quality of
the audit (Mostafa Mohamed & Hussien Habib, 2013). Audit firm rotation is done the
assumption that the auditor when conducting audit for the same client for a long period then
there might develop a situation where a relationship may develop between the auditor and the
client which in turn will be hampering the principle of independence of the auditor. Another
impact of the rotation of the auditor is that continuous changes of client does not allow the
auditor to develop a sense of familiarity which is favorable for the process of audit as in this case
the auditor will be able to perform better and will be able to develop a clear opinion on the
financial statement of the company. Another impact of the audit firm rotation is that the auditor
needs to learn and gain an understanding of every new business which the auditor is supposed to
audit (Bowlin, Hobson & Piercey, 2015). Therefore, for every new company the auditor needs to

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plan separately the audit program for each new audit engagement the auditor enters. This makes
the work of the auditor a bit difficult however, the overall audit procedure becomes more
efficient as the auditor will carry out audit procedures more effectively in order to collect
necessary audit evidences. Thus, from the above arguments it can be concluded that auditor or
audit firm rotation is an effective technique which can be used to improve the quality of audit
carried out and also ensure that the principle of independence of the auditor is not endangered.

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Reference
Blay, A. D., & Geiger, M. A. (2013). Auditor fees and auditor independence: Evidence from
going concern reporting decisions. Contemporary Accounting Research, 30(2), 579-606.
Bowlin, K. O., Hobson, J. L., & Piercey, M. D. (2015). The effects of auditor rotation,
professional skepticism, and interactions with managers on audit quality. The Accounting
Review, 90(4), 1363-1393.
Harris, K. (2012). Mandatory audit rotation: An international investigation. University of
Houston.
Holland, K., & Lane, J. (2012). Perceived auditor independence and audit firm fees. Accounting
and Business Research, 42(2), 115-141.
Lennox, C. S., Wu, X., & Zhang, T. (2014). Does mandatory rotation of audit partners improve
audit quality?. The accounting review, 89(5), 1775-1803.
Mostafa Mohamed, D., & Hussien Habib, M. (2013). Auditor independence, audit quality and
the mandatory auditor rotation in Egypt. Education, Business and Society: Contemporary
Middle Eastern Issues, 6(2), 116-144.
Tepalagul, N., & Lin, L. (2015). Auditor independence and audit quality: A literature
review. Journal of Accounting, Auditing & Finance, 30(1), 101-121.