Recent issues in the rotation of accountants

“Rotation extravaganza was unnecessary”. “Strict time constraint against EU-rules ”. “Political point-scoring creates wrongful accountancy act”. “Businesses suffer from political madness”. The Financieele Dagblad had quite the headlines in late September. What happened exactly?

In 2012, the Dutch Upper and Lower House passed legislation on the mandatory rotation of audit firms for Public-Interest Entities (PIEs; Dutch: Organisaties van Openbaar Belang, OOBs), such as listed companies and financial institutions. This by way of an amendment on the Dutch ‘Wet op het accountantsberoep’ (Wab), effective January 1, 2013.

Initially, the Wab intended the formation of a new professional organisation for auditors. However, because of a number of amendments passed by parliament, the effects became much more severe. One of these amendments caused that as of January 1, 2016, the Dutch ‘Wet toezicht accountantsorganisaties’ (Wta) should be extended with a new rotation rule. PIEs would have to change their auditors after eight consecutive years of conducting the statutory audit. This auditor may then only re-engage after a cool-down period of two years.

During the relatively short discussion in Dutch parliament, there was a concurrent European debate (already since 2010) on, amongst others, the rotation of accountants on the job. In April 2014, this resulted in an European Regulation, effective June 17, 2016, encompassing accountant rotation rules. This order has a direct approach, which overrules any defying national legislation, albeit that the Regulation has a maximum duration which member states may shorten for national purposes.

Europe has a rotation duration of ten consecutive years and a cool-down period of four years. Moreover, as opposed to Dutch law, a step-by-step implementation and transitional arrangement are part of the law: the longer relationship duration between auditor and auditee, the sooner rotation will be mandatory.

After pressure from the Upper House, in December, 2012, the Minister of Finance decided that due to feasibility and the proposed European legislation, the transitional period would be lengthened. The new rotation of audit firms would only take effect as of January 1, 2016, as opposed to January 1, 2014. In addition, the Minister agreed to change the Wab in case the law would conflict with the European regulations.

Through the ‘Wijzigingswet Financiële Markten 2016’ (WFM 2016) bill, in May 2015, the Minister proposed, in accordance with a carried motion, to increase the allowed audit period to ten years and the cool-down period to four years. Just prior to the vote in parliament, a NautaDutilh analysis was published, stating this bill was contradicting the European Regulation.

Allegedly, the Minister incorrectly stated that a transitional period would not be necessary, and that without this Dutch national arrangement, no European imposed transitional period would be in effect. Moreover, stating to not allow the Autoriteit Financiele Markten (AFM, Dutch market regulator) to unilaterally extend the audit period with an additional two years in special cases, would be contradicting the European Regulation even more.

The NautaDutilh analysis led to parliamentary questions on September 18, and in his response on September 23, the Minister concluded that the Dutch law of direct effect indeed contradicts the European Regulation. This is why the legal clause in the Wta and the amendments to the WFM 2016 with regard to the rotation of audit firms will not come into effect, just the European Regulation will hold.

What are the consequences of this important decision?

First of all, the European imposed audit period of ten years with a cool-down period of four years is in effect. An EU member state can extend this period with an additional ten years by means of a public tender, or an additional fourteen years in case of a joint audit. However, because Dutch parliament has decided against this, it is not possible in the Netherlands. The AFM will be allowed to unilaterally extend the audit period with an additional two years in special cases.

The most important change is the transition period. Under old bills, Dutch PIEs should have switched their audit firm as of January 1, 2016, if they were audited by them for over ten years. With the new European Regulation, this is mandatory as of June 17, 2020 for PIEs which have had the same audit firm for twenty years or more, as of June 16, 2014. PIEs with an audit firm tenure of eleven to twenty years as of June 16, 2014 should have changed their auditor by June 17, 2023.

All other PIEs are set to rotate by June 17, 2024. In short, the Dutch bill would have evaluated audit firm tenures retrospectively whereas the European Regulation sets the audit firm tenure to start at June 16, 2014, with exemption of tenures of over eleven years. Moreover, the cool-down period will only start after the expiration of the tenure. PIEs which have already switched, could potentially return to their former audit firm after just one year without them, and sign a new ten year period with the audit firm.

After parliamentary questions, the Minister answered that “The Dutch legislators have moved in an excellently defendable manner, as at that moment in time no European legislation existed.” One can argue whether or not the Dutch legislators should have waited for further developments in the European debate and European legislation, and, when passed, have this regulation analysed more closely for contradictions with Dutch bills.

I have argued elsewhere that a phased implantation in accordance with the European regulation would put significantly less stress on the audit firm market. PIEs have had little choice in alternative audit firms because of a sorrowful collision of circumstances: few PIE-certified audit firms with specific expertise, mandatory separation of audit and consulting services, and the fact that many PIEs had to change auditors in the same year. I fiercely hope that in the future, the Dutch legislator will combine decisiveness and care more flowing.