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Audit committee perspectives on mandatory audit firm rotation: evidence from Canada

Abstract

This study examines audit committee (AC) members’ perspectives on mandatory audit firm rotation (MAFR), mandatory audit partner rotation, ways in which ACs monitor auditor independence and objectivity, and the costs associated with switching audit firms. In-person interviews with AC members in Canada were conducted to improve our understanding of the reasons underlying AC members’ positions on MAFR. All AC members interviewed in this study were adamantly opposed to MAFR. MAFR was perceived as a threat to their shareholder-granted authority to make audit firm appointment decisions. Participants believe that their professional judgment and observations are the most effective means of ensuring auditor independence and view MAFR as an unnecessary intervention. We explain these results using self-determination theory. Our findings were also used to develop a conceptual model of AC relationships with external auditors and financial management.

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Fig. 1

Notes

  1. Beginning in 2016, European-listed companies, banks and financial institutions will be required to appoint a new auditor every 10 years, though this can be extended if companies put their audit contract up for bid at the 10-year mark or engage another audit firm in a joint audit.

  2. See Sarbanes–Oxley Act (SOX) Sect. 301 (for U.S.) and NI 52-100 (for Canada).

  3. Canadian stocks represent the largest group of stocks listed in the US from a single country outside of the US (Eun and Sabherwal 2003).

  4. One of Boivie et al. (2012) proxies for directors’ ability to influence was whether the director is the AC chair.

  5. Although in-person interviews are preferable, telephone interviews can be used productively in qualitative research (Sturges and Hanrahan 2004). No new response themes emerged from the last three interviews indicating that saturation was achieved (Sandino 2007).

  6. We expand on and illustrate this conceptualization in a subsequent section.

  7. Not depicted in Figure 1 is the AC’s direct relationship with internal auditors. A suggestion for future research is offered in a subsequent section.

  8. Herda and Lavelle (2013) find that perceptions of fair treatment and support between auditors and clients lead to strong but independent auditor–client relationships.

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Acknowledgments

We thank Roberto Di Pietra (editor), our interview participants, and the two anonymous reviewers for their helpful comments and suggestions. We are also grateful for the generous support provided by the Corporate Reporting Chair of the Accounting Department at the University of Quebec at Montreal. We would like to dedicate this article to our colleague and dear friend, Glenn Rioux. Thank you for your help Glenn, you will be truly missed.

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Correspondence to Richard Fontaine.

Appendix: Interview questionnaire

Appendix: Interview questionnaire

Panel 1: Mandatory rotation and overseeing the auditor-management relationship

  1. 1.

    What do you think about mandatory audit firm rotation?

  2. 2.

    What do you think about mandatory audit partner rotation?

  3. 3.

    Has your audit committee ever discussed the possibility of a corporate policy for audit firm rotation? Why or why not?

  4. 4.

    What discussions have you had regarding the importance of auditor independence?

  5. 5.

    Have you had any problems with auditor independence?

  6. 6.

    What mechanisms do you use to ensure auditor independence?

  7. 7.

    How do you manage the relationship between the external auditor and management?

  8. 8.

    Describe your relationship with the external auditor.

  9. 9.

    How many times a year do you meet with the external auditor?

  10. 10.

    Describe your relationship with management.

  11. 11.

    How frequently do you meet with management?

  12. 12.

    How much input does management have in audit firm selection decisions?

  13. 13.

    How important is a good relationship between the external auditor and management?

  14. 14.

    How important is independence between the external auditor and management?

  15. 15.

    How important is the management letter provided by the external auditors?

Panel 2: Switching costs

  1. 1.

    How difficult would it be for your company to change auditors? (effort, time, and other possible constraints).

  2. 2.

    Would these constraints stop you from changing?

  3. 3.

    How difficult would it be for your management team to adjust to the new auditors?

  4. 4.

    Describe the main costs (monetary and other) associated with changing firms.

  5. 5.

    What is keeping you with the current audit firm?

  6. 6.

    What would cause you to change auditors?

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Fontaine, R., Khemakhem, H. & Herda, D.N. Audit committee perspectives on mandatory audit firm rotation: evidence from Canada. J Manag Gov 20, 485–502 (2016). https://doi.org/10.1007/s10997-015-9308-2

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  • DOI: https://doi.org/10.1007/s10997-015-9308-2

Keywords

  • Mandatory audit firm rotation
  • Audit committees
  • Auditor independence
  • Self-determination theory
  • Canada