Competition Commission confirms audit shake-up

MAJOR changes in the way big businesses are audited – aimed at making the market more competitive and better serve shareholders – will be implemented from late 2014.

After a two year investigation The Competition Commission has today published reforms which will challenge the dominance of the big four accountancy firms – Deloitte, EY, KPMG and PwC.

The CC reiterated its belief that competition is restricted in the audit market due to factors which inhibit companies from switching auditors and by the incentives that auditors have to focus on satisfying management rather than shareholder needs.

It has set out a package of remedies in response to these findings which includes measures to improve the bargaining power of companies and encourage rivalry between audit firms; measures to enhance the influence of the Audit Committee; and measures to promote audit quality and shareholder engagement in the audit process.

The main proposals are:

:: FTSE 350 companies must put their statutory audit engagement out to tender at least every 10 years. This differs from guidance introduced by the Financial Reporting Council (FRC) in 2012, which encouraged companies to go to tender on a ‘comply or explain’ basis. No company will be able to delay beyond 10 years, and the CC believes that many companies would benefit from going out to tender more frequently at every five years.      

::   The FRC’s Audit Quality Review (AQR) team should review every audit engagement in the FTSE 350 on average every five years. The Audit Committee should report to shareholders on the findings of any AQR report concluded on the company’s audit engagement during the reporting period.

::  A prohibition of ‘Big-4-only’ clauses in loan agreements (ie clauses that limit a company’s choice of auditor to a preselected list or category), although it will be possible to specify that any auditor should satisfy objective criteria.

:: There must be a shareholders’ vote at the AGM on whether Audit Committee Reports in company annual reports are satisfactory.

::  Measures to strengthen the accountability of the external auditor to the Audit Committee and reduce the influence of management, including a stipulation that only the Audit Committee is permitted to negotiate audit fees and influence the scope of audit work, initiate tender processes, make recommendations for appointment of auditors and authorize the external audit firm to carry out non-audit services.

:: The FRC should amend its articles of association to include an  object to have due regard to competition.

Laura Carstensen, chairman of the audit market investigation group at the Competition Commission, said:  “Our measures will deliver lasting change in a market where currently a major company putting its audit out to tender remains unusual enough to be a news story.

“Instead, all this business will be open to competition on a regular basis. The introduction of regular and predictable tenders will benefit shareholders, who will also have a much greater say and knowledge of whether their needs as customers are being met.”

She added: “Instead of long unchallenged tenures which can reduce the appearance of objectivity and scepticism essential to an effective audit, there will now be far greater transparency and scrutiny.  

“It will also open the door to other auditors who now have the chance to compete regularly for business and show they’re up to the mark.”