Auditor Independence-Its Importance to the External Auditor's Role in Banking Regulation and Supervision

The role of the external auditor in the supervisory process requires standards such as independence,objectivity and integrity to be achieved. Even though the regulator and external auditor perform similar functions, namely the verification of financial statements, they serve particular interests. The regulator works towards safeguarding financial stability and investor interests. On the other hand, the external auditor serves the private interests of the shareholders of a company. The financial audit remains an important aspect of corporate governance that makes management accountable to shareholders for its stewardship of a company2. The external auditor may however, have a commercial interest too. The debate surrounding the role of external auditors focusses in particular on auditor independence. A survey by the magazine “Financial Director” shows that the fees derived from audit clients in terms of non-audit services are significant in comparison with fees generated through auditing.3 Accounting firms sometimes engage in a practice called “low balling” whereby they set audit fees at less than the market rate and make up for the deficit by providing non audit services. As a result, some audit firms have commercial interests to protect too. There is concern that the auditor's interests to protect shareholders of a company and his commercial interests do not conflict with each other. Sufficient measures need to be in place to ensure that the external auditor's independence is not affected. Brussels proposed a new directive for auditors to try to prevent further scandals such as those of Enron and Parmalat.4 The new directive states that all firms listed on the stock market must have independent audit committees which will recommend an auditor for shareholder approval.5 It also states that auditors or audit partners must be rotated but does not mention the separation of auditors from consultancy work despite protests that there is a link to compromising the independence of auditors.6 However this may be because Brussels also shares the view that there is no evidence confirming correlation between levels of non-audit fees and audit failures and that as a result, sufficient safeguards are in place.7 This paper aims to consider the importance of auditor independence in the external auditor's role in banking regulation and supervision. In doing so, it also considers factors which may threaten independence and efforts which have been introduced to act as safeguards to the auditor's independence. It will also support the claim that auditor independence is indeed central to the auditor's role in banking regulation and supervision.