“The Impact of Non-Audit Services on Auditor Independence in European Banks” by Edgar Loew (Frankfurt School of Finance and Management gGmbH) and Thi Thu Thao Nguyen (Independent) was jointly published on 4 June 2024 in the EBI Working Paper Series No. 173.

Auditing contributes to financial stability by protecting investors from information risk, which in turn reduces the cost of capital for companies. To fulfil this role, auditors are desired to provide an unbiased opinion about financial statement. The value of audited financial statements rests on the assumption that the auditors are independent of their clients. However, when investigating the determinants of the 2008 financial crisis, the auditors were strongly questioned for not anticipating the banking problems. In response to the financial crisis, the EU Commission issued the Green Paper “Audit Policy: Lessons from the Crisis” in October 2010 to initiate a discussion about potentially necessary reform measures on the role and scope of the statutory audit as well as concerning the audit market. The EU Regulators assume that non-audit services fees weaken auditor independence and, as a result, impair audit quality. As a consequence, the European Union adopted the EU Regulation No. 537/2014 (hereinafter EU or Audit Regulation), which in practice prohibits the joint provision of audit and most types of non-audit services in Public Interest Entities (“PIE”) including banks. Most of the empirical literature does not show evidence that non-audit services fees impair auditor independence. Nevertheless, the appropriateness of non-audit services provided by auditors remains controversial. Furthermore, in the last decade, a lot has changed in both the regulations and the country’s enforcement regarding audit and non-audit services, and there has been little EU-based evidence since the EU Regulation 537/2014 came into force. As a result, further research is needed to examine the relationship between non-audit services and auditor independence. Despite the economic importance of the banking industry, accounting researchers have done little to investigate the various relationships that exist between banks and their auditors. To complement existing research in this matter, this study aims to investigate the impact of non-audit services on auditor independence in the banking sector. The following study contributes to the research by emphasizing the effect of other banks’ characteristics and audit partner tenure on auditor independence. In addition, the study will provide evidence on whether the relationship between non-audit services fees and auditor independence varies between different audit firms. Furthermore, nearly all previous studies are single-country studies. Accordingly, it is not possible to distinguish slight differences between results from different countries. Thus, the present study aims to examine how cross-country differences in the strength of banking regulation impact the association between non-audit services fees and auditor independence. The analysis is limited to seven Member countries of the European Union since the total assets of these banks constitute over 90% of the total assets of all significant European banks. This study should be of interest to regulators, audit firms, and banks because it advances the understanding of the potential issues related to the joint provision of audit and non-audit services.

Read the entire article here:  https://ssrn.com/abstract=4851856 or http://dx.doi.org/10.2139/ssrn.4851856