1 Financial audits
| (a)
(33497)
16971/11
COM(11) 778
+ ADDs 1-2
(b)
(33513)
16972/11
COM(11) 779
+ ADDs 1-2
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Draft Directive amending Directive 2006/43/EC on statutory audits of annual accounts and consolidated accounts
Draft Regulation on specific requirements regarding statutory audit of public-interest entities
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| Legal base | (a) Article 50(1) TFEU; co-decision; QMV
(b) Article 114 TFEU; co-decision; QMV
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| Department | Business, Innovation and Skills
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| Basis of consideration | Minister's letter of 19 October 2013
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| Previous Committee Reports | HC 83-viii (2013-14), chapter 1 (3 July 2013); HC 428-xlix (2010-12), chapter 3 (1 February 2012)
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| Discussion in Council | November/December (no date set)
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| Committee's assessment | Politically important
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| Committee's decision | For debate in European Committee C (decision reported 3 July 2013)
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Background
1.1 The Commission proposes both a Regulation and
a Directive in the area of statutory financial audit of companies.
The proposals lay down conditions for carrying out such audits,
rules on the organisation and selection of auditors and rules
on the supervision of compliance by auditors with those requirements.
The main objectives are to deal with (1) the expectation gap
(the gap between the public perception of the assurance that an
audit provides and what auditors actually do provide); (2) risks
of conflicts of interest which impair the independence of auditors;
(3) barriers to entry into the audit market for listed and large
companies; (4) additional compliance costs due to fragmented national
regulation; and (5) the lack of effective national and EU-wide
supervision of audit firms.
1.2 We have set out the details of the proposals,
and the Government's policy on them, in our Report of 1 February
2012. In our subsequent Report on these documents, we noted that
many of the amendments to the original proposals met the UK's
negotiating objectives, or did not harm them significantly; but
that some provisions still did not meet UK negotiating objectives.
We noted in particular the Government's concern about:
· the proposed 70% cap on fees for permitted
non-audit services;
· the scope of a "black list"
of forbidden non-audit services, which prohibits almost all non-audit
services and additions by Member States to reflect national concerns;
· burdensome requirements for members of
audit committees of Public Interest Entities (PIEs);
· mandatory rotation of the auditors of
PIEs every 14 years; and
· the role of the European Securities and
Markets Authority as a pan-Europe audit supervisor.
1.3 These struck us as significant concerns that
could affect whether the proposals met national interests. We
therefore recommended them for debate in European Committee C,
to take place before a General Approach was adopted in the Council.
In the course of the debate we expected the Minister to provide
both an update on the negotiations and an assessment of whether
it is in the UK's interest to be bound by them.
The Minister's letter of 19 October
1.4 The Minister for Employment Relations and Consumer
Affairs at the Department for Business, Innovation and Skills
(Jo Swinson) writes with an update on the negotiations.
1.5 The Minister attaches the Presidency compromise
text on the proposals, which was the subject of a mandate from
the Council at COREPER on 4 October for the Presidency to begin
informal trilogues with representatives of the European Parliament
and the Commission. This text is limité as these
are informal trilogues being taken forward with a view to achieving
a first reading deal.
1.6 If agreement can be reached, the Council will
not need to adopt a General Approach, but will confirm the agreement
by accepting a European Parliament first reading. However, if
a first reading deal is not possible through the current process
and the European Parliament adopts a first reading that Council
cannot accept, the Council may yet have to adopt a common position
as the basis for future negotiations. These would be unlikely
to recommence much before the end of next year after the new European
Parliament has organised itself after the European elections in
May.
1.7 In an annex to the letter the Minister sets out
key areas where the Presidency's compromise text differs from
the original proposal. She also includes a list of the key differences
between this text and that proposed by the JURI Committee of the
European Parliament. We set these out below.
CONTENT OF THE LITHUANIAN PRESIDENCY'S MANDATED COMPROMISE
TEXTS ON THE AUDIT DIRECTIVE AND REGULATION
The provision of non-audited services by auditors to their
listed audit clients and to audit clients that are banks and insurers
1.8 Average fees for permitted non-audit services
are now capped at 70% of the average audit fee paid by the audited
entity, with both averages taken over three years. The Government
is prepared to accept a cap on this basis as there is now an option
to allow the relevant regulatory authority in a Member State to
lift the cap in exceptional circumstances such as the merger of
two global businesses. Also the cap does not now apply to non-audit
services required by EU or Member State law.
1.9 There is now a "black list" of non-audit
services that are not permitted. In contrast to the original proposal,
there is no "white list" of services that are. There
are no services that are permissible subject to the approval of
the regulatory authority. The Government is content that all permitted
non-audit services are subject to approval by the audit committee,
the auditor having first assessed the threats and safeguards to
independence. The Government agrees with the principle of having
a black list only, which sets out services where there is a lack
of independence. This now applies with a "cooling off period"
to cover the period after the auditor has filed the audit report.
There is also a "cooling in" period preceding the provision
of audit services where the specific non-audit service to which
it applies creates an ongoing conflict of interest. The Government
expects there to be further discussion of the "black list"
but is prepared to accept its current form. Member State audit
authorities are now able to add to it.
1.10 The Government has secured the removal of the
provisions that prevented non-audit services being provided at
all where certain important but common threats to the auditor's
independence arose.
1.11 The Government has achieved the removal of the
proposal to force audit firms which exceed certain size criteria
to turn into "pure audit firms".
The audit report
1.12 The Government has succeeded in moving further
elements of the audit report to the Directive. However, some elements
of the audit report, which only apply to Public Interest Entities
(PIEs), remain in the Regulation. In the Directive it has also
secured two important technical amendments: to the auditor's opinion
that the accounts present a "true and fair" view; and
that the auditor's report on the management report should be based
on the knowledge gained in the audit of the financial statements.
The requirements for the auditor to report on going concern and
risk have also been simplified.
1.13 The requirement for Member States to ensure
that audits are carried out in accordance with adopted international
auditing standards now includes an explicit ability for Member
States to add to the standards where necessary.
1.14 Some elements of the audit report in the original
proposal (details of the audit work undertaken) have been moved
to the private report of the auditor to the company's audit committee,
which the Government welcomes. This will cut clutter in the annual
report and accounts as well as enable the auditor to bring confidential
information formally to the attention of the audit committee.
The audit committee
1.15 The requirement for PIEs to have one member
of the audit committee with competence in auditing in addition
to the existing member with competence in accounting or auditing,
has now been dropped. This removes a significant unnecessary additional
cost from the proposals, which the Government welcomes.
Auditor appointment, retendering and mandatory
rotation
1.16 Audit firms are now appointed for a minimum
of one year, which the Government welcomes, rather than the two
years originally proposed.
1.17 In the final compromise text, mandatory rotation
of audit firms is now required at 15 years for banks and insurers
where there is a re-tender in the first ten years. For other listed
companies it is 20 years where there is a re-tender in the first
ten years. For joint audit, rotation must be within 20 years irrespective
of whether the company is a bank, insurers or other listed company,
or whether there has been a re-tender. The Government is prepared
to support this though it would expect the periods to increase
further towards the 25 years, which is the period proposed by
JURI Committee of the European Parliament. It has the benefit
of being consistent with the measure that has been identified
by the Competition omission in its final report on the UK market
for the largest audits.
Pan European audit regulation
1.18 The compromise text no longer gives the European
Securities and Markets Authority (ESMA) a significant role as
a pan-European audit supervisor. A significant blocking minority
of Member States including the UK worked together to replace the
ESMA proposal with on Committee of European Audit Oversight Bodies
made up of national audit supervisors. The Committee will have
a Member State appointed chair, the Commission as Deputy Chair
and ESMA as a non-voting member. This represents the less expensive
and lighter touch proposal which the UK and a significant number
of other Member States were seeking.
Audits covered by the Regulation
1.19 As explained previously, the Government has
been successful in securing a definition of PIEs that is less
extensive than that in the Commission proposal. The following
have now been excluded from the definition: unlisted undertakings
for collective investment in transferable securities (UCITS);
unlisted Alternative Investment Funds payment institutions; electronic
money institutions; investment firms; central securities depositories
and central counterparties. Member States will now have the flexibility
to designate other entities as PIEs. The Government supports these
changes, which are in line with those proposed by JURI Committee
in the European Parliament.
Contents of the Directive and Regulation
1.20 In line with the UK negotiating aim of moving
elements of the proposal from the Regulation to the Directive,
Articles on increasing independence, professional scepticism and
clarifying the appropriate internal organisation of auditors have
been transferred from the Regulation to the Directive. This will
make them easier to reflect in existing UK Ethical Standards.
In addition to these items, the Government also secured the reliance
on provisions in the Directive for the constitution of Audit Committees
and, in large part, for the investigation and disciplining of
auditors. This includes the enhanced powers of sanction for national
competent authorities, though they are now sufficiently flexible.
Provision of audit services cross border
1.21 Though the framework provides for a pan-European
"passport" for statutory audit firms to allow them to
provide statutory audits in Member States other than the Member
State in which they have been approved, a more problematic framework
on individual auditors has been dropped. Discussion in the working
groups is as to whether the choice of aptitude test and adaptation
period should be the candidate's or the Member State's concluded
that this should be for the Member State, which the Government
supports.
Delegation of regulatory responsibilities to the
professional accountancy institutes
1.22 The Government had secured the removal of the
original proposal's prohibition of the inspection of non-PIE audits
being delegated to professional accounting bodies. The Government
supports this removal. Also important for the UK was increased
flexibility on the delegation of investigation and disciplining
of auditors in relation to non-PIE and PIE audits. For non-PIE
audits, these functions may now be delegated. For PIE audits there
is now sufficient flexibility.
KEY DIFFERENCES BETWEEN THE PROPOSALS IN THE PRESIDENCY
COMPROMISE TEXT AND THOSE SUPPORTED BY THE JURI COMMITTEE OF THE
EUROPEAN PARLIAMENT
1.23 JURI supports mandatory rotation of all PIE
audits every 25 years, provided there has been a tender after
a maximum of 14 years.
1.24 It supports the removal of any cap on audit
related or other non-audit services as a proportion of the audit
fee and a number of differences in respect of the content and
drafting of the "black list".
1.25 It supports a more significant role for ESMA
in pan-European audit supervision.
1.26 JURI supports some different approaches in respect
of the content of the audit report.
Conclusion
1.27 We thank the Minister for this useful further
update, and take note of the improvements to both texts she outlines.
1.28 This chapter of this week's Report will be
included in the debate pack for the European Committee debate
on these proposals, which will take place on Wednesday 30 October.
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