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The link between in- and external rotation of the auditor and the quality of financial accounting and external audit


  • Patrick Velte


  • Carl-Christian Freidank


The European Commission (EC) regulation draft of 2011 contains the external mandatory auditor rotation (audit firm rotation) as a reform measure to increase auditor independence. The external auditor firm rotation could supplement the internal mandatory rotation (auditor rotation) by the 8th EC directive. This article presents an agency theoretical foundation of rotation. In this context, the main influences on low balling and on the expectation gap will be presented. The total effect of the rotation on financial accounting and audit quality is theoretically uncertain, because the rotation can also lead to a decreased independence in a low balling situation and is connected with interrupted or lost learning and knowledge effects by the auditor or the audit firm. Then, a state of the art analysis of empirical research results with regard to auditor and audit firm rotation is focused. In contrast to the assumption of the EC, the majority of the empirical results don’t lead to an increased financial accounting and audit quality by audit firm rotations. Furthermore, the positive effects of the internal rotation period of 7 years and the cooling off period of 2 years by the 8th EC directive are not empirically proved yet. Copyright Springer Science+Business Media New York 2015

Suggested Citation

  • Patrick Velte & Carl-Christian Freidank, 2015. "The link between in- and external rotation of the auditor and the quality of financial accounting and external audit," European Journal of Law and Economics, Springer, vol. 40(2), pages 225-246, October.
  • Handle: RePEc:kap:ejlwec:v:40:y:2015:i:2:p:225-246
    DOI: 10.1007/s10657-012-9361-0

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    References listed on IDEAS

    1. Ali Abedalqader Al-Thuneibat & Ream Tawfiq Ibrahim Al Issa & Rana Ahmad Ata Baker, 2011. "Do audit tenure and firm size contribute to audit quality?: Empirical evidence from Jordan," Managerial Auditing Journal, Emerald Group Publishing, vol. 26(4), pages 317-334, April.
    2. Sattar A. Mansi & William F. Maxwell & Darius P. Miller, 2004. "Does Auditor Quality and Tenure Matter to Investors? Evidence from the Bond Market," Journal of Accounting Research, Wiley Blackwell, vol. 42(4), pages 755-793, September.
    3. Reiner Quick, 2012. "EC Green Paper Proposals and Audit Quality," Accounting in Europe, Taylor & Francis Journals, vol. 9(1), pages 17-38, June.
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    7. Quick, Reiner, 2012. "EC Green Paper Proposals and Audit Quality," Publications of Darmstadt Technical University, Institute for Business Studies (BWL) 60560, Darmstadt Technical University, Department of Business Administration, Economics and Law, Institute for Business Studies (BWL).
    8. Arrunada, Benito & Paz-Ares, Candido, 1997. "Mandatory rotation of company auditors: A critical examination," International Review of Law and Economics, Elsevier, vol. 17(1), pages 31-61, March.
    9. Watts, Ross L & Zimmerman, Jerold L, 1983. "Agency Problems, Auditing, and the Theory of the Firm: Some Evidence," Journal of Law and Economics, University of Chicago Press, vol. 26(3), pages 613-633, October.
    10. DeAngelo, Linda Elizabeth, 1981. "Auditor size and audit quality," Journal of Accounting and Economics, Elsevier, vol. 3(3), pages 183-199, December.
    11. Neil Fargher & Ho-Young Lee & Vivek Mande, 2008. "The effect of audit partner tenure on client managers' accounting discretion," Managerial Auditing Journal, Emerald Group Publishing, vol. 23(2), pages 161-186, January.
    12. Patrick Velte, 2012. "External rotation of the auditor," Metrika: International Journal for Theoretical and Applied Statistics, Springer, vol. 23(1), pages 81-91, September.
    13. Andrew B. Jackson & Michael Moldrich & Peter Roebuck, 2008. "Mandatory audit firm rotation and audit quality," Managerial Auditing Journal, Emerald Group Publishing, vol. 23(5), pages 420-437, May.
    14. DeAngelo, Linda Elizabeth, 1981. "Auditor independence, `low balling', and disclosure regulation," Journal of Accounting and Economics, Elsevier, vol. 3(2), pages 113-127, August.
    15. Michael Spence, 1973. "Job Market Signaling," The Quarterly Journal of Economics, Oxford University Press, vol. 87(3), pages 355-374.
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    Cited by:

    1. Donato Masciandaro, 2016. "Banking Supervision Outsourcing: Economics, Rules and Drivers," BAFFI CAREFIN Working Papers 1616, BAFFI CAREFIN, Centre for Applied Research on International Markets Banking Finance and Regulation, Universita' Bocconi, Milano, Italy.
    2. Ioan-Bogdan ROBU & Maria GROSU & Costel ISTRATE, 2016. "The Effect of the Auditors’ Rotation on the Accounting Quality in the Case of Romanian Listed Companies under the Transition to IFRS," The Audit Financiar journal, Chamber of Financial Auditors of Romania, vol. 14(133), pages 1-65, January.
    3. repec:kap:ejlwec:v:44:y:2017:i:3:d:10.1007_s10657-014-9460-1 is not listed on IDEAS
    4. Donato Masciandaro & Davide Romelli, 2017. "Banking Supervision and External Autditors: What works best?," BAFFI CAREFIN Working Papers 1746, BAFFI CAREFIN, Centre for Applied Research on International Markets Banking Finance and Regulation, Universita' Bocconi, Milano, Italy.
    5. Michal Šindelář, 2016. "Rotation of auditors of companies listed on the stock market of the Prague Stock Exchange," Český finanční a účetní časopis, University of Economics, Prague, vol. 2016(3), pages 59-71.

    More about this item


    Low balling; Expectation gap; Audit quality; Empirical audit research; Accounting policy; Auditor independence; M4; H1; K2; G3;

    JEL classification:

    • M4 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting
    • H1 - Public Economics - - Structure and Scope of Government
    • K2 - Law and Economics - - Regulation and Business Law
    • G3 - Financial Economics - - Corporate Finance and Governance


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