Audit and Optimal Financial Disclosure

Moderator: Dr. Werner Brandt, CFO of SAP AG

Speakers: Prof. Yasuhiro Ohta, Keio Business School,

Prof. Holger Daske, University of Mannheim Business School

As an introduction to the session, Prof. Daske emphasized the gap between disclosure as an important governance measure and continuing scandals due to misreporting. The aim of the session was to discuss the pros and cons of further regulation on the enhancement of financial reporting.

The first speaker, Mr. Brandt, CFO from SAP AG, highlighted that external reporting is important to decrease the adverse information effects between management board and the supervisory board.

From an internal perspective, 5 layers of control at SAP enhance correct reporting, but Mr. Brandt also stressed the independence of auditors and the communication between auditor and the Audit Committee of the company as a key prerequisite for an effective audit. At SAP, the independence of auditors is guaranteed by measures such as a not providing auditors with additional advisory mandates which would increase a conflict of interests – an idea that was also put forward by the EU in the green paper to enhance audits. In his view, the set up of best practices to implement internal guidelines is more important than external codification. As major trends effecting future financial reporting oversight, he mentioned missing alignments on international level and audit market reforms.

Prof. Otha from Keio University established a different view on regulation: Under the title “Too costly to be listed? Establish markets that differ in their degree of regulations” he fostered the idea not to create one regulation market, but to establish multiple markets with different levels of reporting requirements. In his opinion, there has been an increase of cost for disclosure as a consequence of SOX, e.g. that SOX prescribes a certain amount of outside directors that might deviate from the optimal amount found in empirical studies. Also, small foreign firms prefer UK stock exchanges rather than US stock exchanges due to increase of regulatory requirements. To solve the problem of finding an ideal level of reporting regulation, he suggested to mobilize competition between stock exchanges with different reporting regulation for different companies.

As a final contribution, Prof. Daske first explained the recent flood of regulatory initiatives on financial reporting due to the idea to create one accounting language by a coherent set of accounting standards. In his view however, not only hight quality standards, but also enforcement bodies capable of acting appropriately (e.g. by fines) are pertinent to ensure compliance and a high quality of reporting. Prof. Daske underlined his proposal by recent empirical studies underpinning that the disclosure of financial instruments according to IFRS is incomplete and partly false, e.g. that globally, only 34% of the banks comply with IFRS 7, but that compliance in the US with strong institutions like the SEC or the FED comes close to 100%.

From the audience, it was also mentioned that reporting incentives dominate the application of standards and that discretion in standards results in deviation and lack of comparability of financial reports. Questions were also raised as to where the resistance to more transparency is coming from. In my point of view, getting a complete measure of the costs and benefits of disclosure changes to decide on an optimal regulation is empirically hard to elaborate. Despite statutory regulation itself, the role of enforcement bodies and the cost/benefit tradeoff, one can question how effective more regulation might actually provide decision-useful information to investors and maybe prevent scandals such as the recent financial crisis.

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