Viewpoints on Internal Audit

By Herve Gloaguen.

In several jurisdictions like in the USA and in the EU, in certain circumstances, the rotation of the lead external audit partner is required. These obligations aim at bringing a fresh perspective to the external audit process and mitigating potential conflicts of interest that may arise from long-term relationships between auditors and clients. This article summarizes such requirements and suggests that a similar rotation principle applies for internal audit to Chief Audit Executives (CAEs).

The Audit partner rotation in the EU

In 2014, the Directive 2014/56/EU and Regulation 537/2014 apply to European public-interest entities (PIEs: listed companies, credit institutions and insurance companies) and have modified the auditors’ relations with companies, with two main consequences:

• The compulsory rotation of statutory auditors. It is now mandatory for PIEs to rotate auditors every 10 years, to avoid situations where a client can have had the same auditor for decades. Allianz had KPMG since 1890 and changed in 2018. Barclays had PwC since 1896 and changed to KPMG, etc.
• The prohibition or limitation of certain “non-audit” services such as consulting, bookkeeping, tax-related services, or valuation. Fees are for non-audit services are also capped relative to the statutory audit fees.

Rules apply for the audit firm as well as for the signing partner.

The EU Directive allows a certain flexibility to State members to transpose these rules into national law. This leads to a patchwork of 13 different rotation regimes across 30 countries. See the summary prepared by Accountancy Europe in 2022.

As an example, in France, the rotation requirements for external auditors are outlined in the Commercial Code and are governed by the regulations of the French regulatory authority for auditing, the Haut Conseil du Commissariat aux Comptes (H3C). A “Commissaire aux Comptes (CAC)” (the statutory auditor) has a term of office of 6 financial years. With the rules introduced in the EU, the CAC mandate remains of 6 years, but there is now an obligation for PIEs to change statutory auditors beyond a term of office of 10 years maximum.

Note that in the French market it is possible to have two CACs. In the case of a single CAC, an additional extension is provided for 6 financial years (i.e. a total of 10 + 6 = 16) if the renewal is the result of a tender offer process. In the case of a co-CAC, the maximum term of office is increased to 24 years. But when it comes to the partner signing the certification report, the rotation period is of 6 consecutive years, up to a maximum of 7 years. And for PIEs, the waiting period for accepting a new statutory audit mission has been increased from 2 to 3 years.

The audit partner rotation in the USA

External auditors of US-listed public companies are subject to regulations established by the Securities and Exchange Commission (SEC) and the Public Company Accounting Oversight Board (PCAOB). For public companies and other issuers, the Sarbanes-Oxley Act (2002) (SOX) requires rotation of the lead engagement partner at least once every five years. The partner rotation rules provide that an accountant is not otherwise independent of an audit client.

The American Institute of Certified Public Accountants (AICPA) believes that this procedure provides the necessary “fresh look” to ensure objectivity.

A rotation rule for CAEs should be considered

In a previous article “Career management: the rule of 8,”I have stated that “no one should spend more than 8 years in the same position”, based on good career management principles.

In the specific case of Chief Audit Executives, I will add that the expectations independence, objectivity, and absence of conflict of interest do not substantially differ from those for external auditors.

As regulations, at least in the EU and in the US, impose a rotation of the “signing partner” between 5 to 10 years, I am convinced that a CAE should not be kept in the role beyond 8 years, at least for PIEs and large companies that can offer several career paths to internal auditors, including out of IA.

• I have personally walked that talk with my Group CAE mandates never exceeding 6 years.

• More importantly, when in charge of the Allianz Group Internal Audit function (900 auditors and 40 + teams across the globe at the time), I have introduced in the Allianz Group Internal Audit Policy (the magna carta of IA) a “hard rule”, a limitation of 8 years for all Allianz local CAEs as well as for the Group CAE. This rule, implemented about a decade ago, is carefully monitored and is part of the overall “workforce planning” of the IA staff and management, managed jointly by the Group CAE and Group HR. As for all rules, some exceptions may apply in rare and special circumstances such as a substantial scope change. But this rotation rule is otherwise systematically applied, for the sake of good career management of senior auditors, and to maintain objectivity and independence.

Irrespective of talent, goodwill and hard work, the CAE independence and objectivity erodes overtime. I am convinced that the IIA should introduce a rotation rule as part of the “Internal Audit: Vision 2035”.

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