Auditor's Liability and its Impact on the European Financial Markets

Abstract:     
Statutory auditors serve as an integral device to safeguard confidence in European financial markets. The market for corporate auditing is highly concentrated. A collapse of one of the top four auditing firms could cause a severe lack in the availability of auditing services. In a 2007 Staff Working Paper the European Commission proposed to reform auditor liability and to protect auditing firms from catastrophic liability claims. This paper analyses the reform options suggested by the European Commission and pleads, in essence, for the following liability rules:

1. The company and its auditor may enter into an agreement limiting the amount of liability of the auditor in respect of any negligence occurring in the course of the audit, subject to approval by the general meeting of the audited company.

2. This limitation may not be set below a fair and reasonable amount. The definition of fair and reasonable should be laid down in a European framework, providing a set of basic criteria, including the sum of fees paid to the auditor and the size of the company.

3. If the amount of liability significantly deviates from what would be fair and reasonable, the court which decides on a damage claim against the auditor declares the agreement void.

4. In the assessment of the validity of the agreement, the court shall take into account the European framework basic criteria to be considered by the parties and additional factors such as auditor independence and the applicability of institutional and individual insurance excesses.

Number of Pages in PDF File: 7

Keywords: auditor liability, liability cap, general meeting, auditor independence

JEL Classification: M49, K13, K22, K23

Accepted Paper Series