6Ensuring independence, challenge and professional scepticism
154.The ability to demonstrate professional scepticism and challenge should be a key attribute of any auditor and the foundation of any reliable audit. It is highly concerning that the CMA found that a frequent issue raised by the Financial Reporting Council (FRC) in its reviews of audits was a lack of professional scepticism shown by auditors,239 and that factors such as “cultural fit” and “personal relationships” were often driving auditor appointments by some audit committees.240 While it is important for auditors to display a professional and business-like approach to their work, going beyond this runs the risk of them becoming too close to management. This suggests that “there may be a systemic problem of insufficient challenge across a substantial portion of large company audits”.241 The CMA proposed several measures to tackle this problem, which are explored in this chapter, along with additional remedies.
The role of audit committees
155.Audit committees should play a key independent role in representing shareholders’ interests and ensuring oversight of a company’s internal controls and financial statements.242 The chair of the audit committee is appointed by the Board. Other members, who should be independent non-executive directors, recommended by the nomination committee, in consultation with the audit committee chairman. The chair of the audit committee is also a member of the main board.243 The FRC notes that audit committee members should “bring an independent mind-set to their role” in assessing the work of management and the assurance provided by internal and external audit functions”.244 The audit committee is responsible for relations with the external auditor, in terms of tendering for, recruiting and recommending their appointment.245 It is also responsible for communication with shareholders on audit matters.246
Are audit committees independent and do they represent shareholders?
156.We heard conflicting views on whether audit committees were independent. Two audit committee chairs told us that committee members were independent and were both challenging and supportive in helping to improve the performance of the company and its management.247 However, Vinita Mithani told us that despite rules to ensure the independence and competence of audit committees, they “remained under management power”:
A lot of the time the non-execs who sit on the audit committees have been recommended to the board by management, so there are social ties. There is also this view that they are independent although they are directors in the company and have a significant say in the commercial path of the company.248
157.There is also disagreement about the relationship between audit committees and shareholders. Several investors also told us that although the appointment of auditors should be agreed by shareholders, it was usually rubber-stamped with minimal scrutiny.249 There was generally little engagement between the audit committee and shareholders, including on ongoing audit work.250 In turn, the CMA and audit chairs suggest that there was little appetite amongst shareholders to engage with audit committees and the audit process.251
158.We do not doubt that many audit chairs and their committees strive to provide independent oversight of company management, financial controls and reporting. However, the fact that audit committee chairs sit on the main board and other members are appointed by the company will continue to raise questions about whether audit committees can be truly independent and whether some external validation is required. It is also clear, whether the fault lies with audit committees, shareholders or both, that shareholders too often are not involved in the audit process and are not engaging with their proxy, the audit committee. The fact that this is not happening, and shareholders are not holding audit committee to account, makes the case for external validation more persuasive.
Audit committees and audit
159.We are particularly concerned about the role of audit committees in appointing and overseeing audits. Audit chairs told us that their main criteria for appointing auditors was audit quality and their ability to challenge management.252 The CMA identified several problems with this view. They found that although the Competition Commission had previously sought to strengthen audit committees, the fact that they did not directly observe the quality of the audit work undertaken made the whole system “fragile”, because the committees could not ensure that auditors were exercising professional scepticism and challenge.253 The CMA also questioned the recruitment process of auditors, which they concluded could lead to “the selection of auditors with the interests of the company and its management rather than those of the shareholders”.254 It sampled several FTSE 350 companies audit tender processes to see what criteria were used to select auditors and found that factors such as ‘cultural fit’ and ‘chemistry’ were often overriding others such as providing independent challenge:255
Criteria Used to Select Auditors (Sample of FTSE 350 Companies)
Source: CMA, Statutory Audit Services Market Study: Update Paper, (December 2018), p 47.
160.Finally, the CMA found wide variations in the amount of time audit committees were spending on their duties; while some committees were spending more than 400-person hours on the external audit (excluding time spent on a tender), others were spending less than 20 hours, with some FTSE 100 companies recording less than 40 hours in a year.256
161.It is deeply concerning that many audit committees do not appear to be factoring professional scepticism and challenge into their criteria for selecting auditors and are instead using ‘cultural fit’ as a desirable attribute. Equally worrying is the finding that many audit committees are spending so little time on auditing matters. This questions whether many audit committees are committed to challenging management and to putting in the necessary time to ensure that auditors are as well.
Increasing regulatory oversight of audit committees
162.To address these concerns, the CMA proposed greater regulatory oversight of audit committees.257 Their remedy included:
- requiring FTSE 350 audit committees to report directly to the regulator before, during and after a tender selection process or a representative from the regulator to sit as an observer on the committee if there had been previous quality issues;258
- requiring audit committees to report directly to the regulator throughout the audit engagement to demonstrate how they are monitoring quality, and which could include direct observation by the regulator and the regulator having a right of inspection at any time;259
- permitting the regulator to issue public reprimands, or direct statements to shareholders in circumstances where it was not satisfied that audit committees had followed proper procedures.
163.The CMA proposed that this remedy should only apply to FTSE 350 audits in the first instance.260 It thought that this remedy would make audit committees more independent, increase transparency, ensure a level playing field for challenger firms and that audit committees focused on delivering quality audits.261
164.The majority of evidence to us supported strengthening the oversight of audit committees.262 However, some argued that they did a good job,263 and disagreed with the CMA’s analysis regarding cultural fit and lack of challenge and professional scepticism.264 Others who disagreed with the remedy thought that the regulator would not be able to develop the knowledge and experience to have meaningful oversight of audit committees,265 or that it would be too burdensome for companies and the regulator.266
165.There was disagreement amongst those who supported greater regulatory oversight about what form this should take. Some questioned whether the level of intervention proposed by the CMA was too much,267 and could put pressure on the resources of companies and the regulator.268 Some suggested a risk-based proportionate approach to intervention.269 BDO and KPMG argued that regulatory oversight should particularly focus on auditor appointment rather than ongoing monitoring.270 Investors told us that they supported the regulator holding audit committees to account but did not want the regulator taking over the role of the audit committee who represented the interests of shareholders.271
166.Because of our concerns about the independence of audit committees, their lack of attention to audit and the lack of emphasis they are placing on challenge, we fully support the CMA’s proposed remedy on greater scrutiny. We agree with the CMA and others that sharper oversight of audit committees would help ensure that audits are more independent, able to challenge management and address any bias in favour of the Big Four. It is for the regulator to decide how much intervention and oversight is required to deliver these objectives, both in general and in specific cases.
Other measures to ensure audit independence and challenge
167.We took evidence on several other measures that would seek to increase professional scepticism. These are explored below.
Independent appointment of auditors by the regulator
168.The idea of the independent appointment of auditors is not entirely new. For example, before its abolition in 2015, the Audit Commission appointed and reviewed the work of auditors to all the local authorities in England and Wales.272 However, applying it to the appointment of auditors for the FTSE 350 would be a novel step, though several commentators have proposed the independent appointment of auditors,273 or a statutory state-backed body to audit financial bodies.274 It was considered by Sir John Kingman and the CMA. Sir John, in a letter that accompanied his Review of the FRC, proposed that auditors could be appointed by the regulator in three specific certain circumstances: if there were quality issues in a company’s audit; if a company parted company with an auditor outside of mandatory rotation; and, if there was a meaningful shareholder vote, even one well short of 50 per cent, against an auditor appointment.275
169.Sir John thought that independent appointment of auditors could fall foul of the EU Audit Directive, which stipulates that the appointment of auditors must be agreed by shareholders. He suggested that this could be addressed by allowing shareholders the final say on appointment. However, it should be noted that Article 16(1) of the EU audit regulations states that member states can set up alternative systems to audit committees, and Article 37(2) of audit directive states:
Member States may allow alternative systems or modalities for the appointment of the statutory auditor or audit firm, provided that those systems or modalities are designed to ensure the independence of the statutory auditor or audit firm from the executive members of the administrative body or from the managerial body of the audited entity.276
170.The Government agreed with Sir John that these changes would not change the fundamental role of shareholders in appointing a company’s auditor, and that “the proposal is to develop an ability for the regulator to intervene, rather than a requirement to do so.”277
171.The CMA also considered independent appointment of auditors more generally, as opposed to specific circumstances as Sir John proposed. They did not think that the independent appointment of auditors would disenfranchise shareholders, if as Sir John argued, shareholders retained the final vote. They also did not think that a well-resourced independent body would be incapable of replicating the functions of audit committees, not least because they found evidence, as noted above, that audit committee members on average spent less than 35 hours on matters relating to the statutory audit in the last financial year.278 However, the CMA backed away from this potential remedy because they were concerned at widespread opposition, especially amongst shareholders, and because they were concerned that it might not be in keeping with EU legislation,279 though Sir John argued otherwise. Despite this, the CMA did note that if its package of remedies did not work it would revisit “more drastic but harder to implement remedies, like independent appointment”.280
172.Several witnesses told us that one of the key reasons causing a lack of audit independence and professional scepticism by auditors was the fact that they were auditing the very people they were paid by. Vinita Mithani told us:
In my opinion, the expectation gap is actually that we expect auditors to carry out their work independently when they could not possibly be fully independent, considering that they give an opinion on assertions by the very people who have the greatest influence in appointing them, remunerating them and dismissing them. The core conflict they have is balancing their commercial interests against any professional regulations as well as legislation.281
173.Vinita Mithani argued that this is built into the career path of auditors, because an auditor’s appointment, remuneration and dismissal is controlled by the audited company and that partner career progression within an audit company is predicated on delivering corporate and not necessarily audit goals.282 She told us that the independence of audit committees was also compromised because they were chosen by the company boards of which they were also members.283 Therefore she maintained that the best way of addressing this was to break the link between auditors and audited companies altogether by passing the appointment of auditors to the regulator.284 The independent appointment of auditors by the regulator was also supported by Grant Thornton, because along with ensuring independent auditors it could help break the bias of audit committees towards the Big Four.
174.Investors told us that they would be concerned if the appointment of auditors was taken away from audit committees or shareholder. Euan Sterling, of Aberdeen Standard Investment, thought that this would break the “relationship of stewardship” and might have further adverse unintended consequences.285 Two audit committee chairs told us that they were against independent appointment because they did not think that the regulator could replicate the understanding of a company to evaluate taking on an auditor, and were concerned about who would take responsibility if there were major problems with an audit.286 Jac Berry (Mazars) and Scott Knight (BDO) similarly did not think that it would deliver audit quality or replicate the role of audit committees.287
175.The independent appointment of auditors would be a radical reform: an admission that a broken sector is beyond being fixed by the market. We accept that many stakeholders are concerned if adopted this might disempower shareholders and audit committees. However, we note that shareholders rarely engage with audits and both Sir John Kingman and the CMA have argued that if shareholders have the final say after an auditor has been appointed it would probably not diverge drastically from current practices and, importantly, would not fall foul of EU law. We also acknowledge that if the regulator appointed auditors it could not replicate the knowledge and expertise of audit committees. However, the CMA has evidence that members of some audit committees are spending sometimes as little as 20 hours a year considering external audit matters.
176.If audit quality, choice, resilience and the professional scepticism and independence of auditors remain a problem despite the remedies proposed by the CMA, Sir John Kingman and Sir Donald Brydon, we believe that independent appointment becomes a viable option for reform. We recommend that the regulator and the CMA consider the potential independent appointment of auditors with a view to developing it as a viable remedy if other remedies and reforms fail.
Increasing the frequency of audit rotations
177.Currently, auditors must be changed every 20 years and audits must be re-tendered every 10 years.288 The CMA decided that it would not increase the frequency of rotation as one of its remedies.289 It accepted that this “could interrupt the close relationship that may develop among management, audit committees and the audit firms, over a long audit tenure”, and increase the independence of auditors, while it could also promote greater competition.290 However, the CMA was concerned that more frequent audit tenders and auditor rotation would increase the costs for the audit firms and companies, and might increase the audit, whilst reducing audit quality if recently appointed audit firms did not fully understand the businesses of their audit clients.291 This view was supported by the Big Four,292 and some of the others who gave evidence to the CMA, who were not sure it would deliver benefits.293 However, some stakeholders did tell the CMA that they thought that 20 year audit engagements were too long, which could damage audit quality.294 We were also told that 20 years were too long. Scott Knight thought that ten years was about the right time period.295 Clive Stephens and Jac Berry both agreed that 20-year audit appointments were too long.296 David Dunckley thought that audit terms should be limited to between five and seven years..297 It was also suggested that prohibiting clients from firing auditors during an audit engagement, except in exceptional circumstances, could also encourage auditors to challenge management and exercise professional scepticism.298
178.We accept that a number of stakeholders oppose reducing the frequency of auditor rotations from twenty years and that the CMA decided not to proceed with this as a remedy. We also accept that there might be some additional costs because of more frequent tendering. However, 20 years is far too long because it runs the risk of allowing audit firms to become too familiar with management, so reducing auditor independence and professional scepticism, which the CMA have identified as a key problem and which we have seen in several recent audit failures. For example, KPMG was paid £29 million for auditing Carillion for 19 years and complacently signed off the directors’ increasingly fantastical figures without question.299 Seven-year non-renewable terms are more appropriate and more likely to disrupt familiarity, while ensuring that engagements can only be terminated in exceptional circumstances will further engender and protect audit independence.
179.We believe that increasing the frequency of audit rotations will, especially if used alongside a market cap, also encourage challenger firms to enter the FTSE 350 audit market, which will increase choice, competition and resilience. We believe these benefits outweigh any possible increases in costs. We also maintain that seven years will allow an audit firm to gain a good understanding of the companies they audit and would contend that even with a twenty-year rotation, a new audit firm will be required to develop knowledge of the firms they audit and the sectors within which they operate. We recommend that the CMA should revisit increasing the frequency of audit rotations, which should be reduced to seven-year non-renewable terms that can only be terminated in exceptional circumstances.
A cooling-off period for non-audit services after an audit engagement
180.In terms of non-audit services, EU regulations currently prohibit audit firms selling certain non-audit services during an audit or in the financial year preceding the audit,300 and limit other non-audit services to no more than 70 per cent of the average fees paid in the last three consecutive financial years for the statutory audit(s) of the audited entity. KPMG announced in November 2018 that it would cease selling non-essential non-audit services for its current FTSE 350 clients because of perceptions over conflicts of interest.301 Bill Michael told us that this would be fully implemented within 12 months.302 David Sproul confirmed that Deloitte was planning to do the same and agreed with KPMG that it was because of the perceived conflict of interest between audit and non-audit services,303 as did Kevin Ellis of PwC.304
181.While current prohibitions and limits on the selling of non-audit services are in place during an audit, and certain controls are in place before an audit engagement is taken up, audit firms are allowed to offer non-audit services afterwards. We received evidence which suggested that this should be addressed so that audit firms would not be conflicted whilst auditing a client if it later wanted to sell non-audit services. The Association of Chartered Certified Accountants (ACCA) suggested that a “cooling-off” period of two years might allay fears that the “judgement in the final years of the audit relationship could be affected by the firm’s desire to sell consulting services to that entity in the following year”.305 Maggie McGhee of ACCA told us that two years represented a good balance between independence and competition, while it might also “increase the number of non-audit services for challenger firms, offer a different route to market and allow them to grow their experience.”306 Sarasin and Partners agreed with this approach, though they thought that at least three years was more appropriate,307 though Natasha Landell-Mills told us that this would not be required if there was a full structural split between audit and non-audit services.308
182.We are persuaded that a “cooling off” period during which non-audit services could not be sold after an audit engagement had ended would remove a major potential conflict of interest for auditors. It would help focus auditors’ minds on audit quality and remove any concern that challenging management or exercising professional scepticism would have adverse financial implications after an audit term ended. This would also be a good option if a full structural split of audit and non-audit services was not adopted. It would also most likely increase challenger firms’ non-audit work, which would allow them to build up experience, expertise and a fee base to develop and invest in audit work. On balance we think a cooling-off period of three years would be optimal in delivering audit independence. We recommend that the CMA seriously considers the benefits of a cooling-off period of three years across which non-audit services could not be offered after an audit engagement had ended. The CMA should see this is a viable option if it does not decide to proceed with a full structural split of audit and non-audit services.
Corporate hospitality for audit clients
183.Though we accept that there is a role for corporate hospitality in the business world, we question its role for audit, whose guiding principles should be independence, professional scepticism and challenge. The public would rightly be concerned if statutory inspectors in the public sector were offering or receiving hospitality from those they were about to inspect. Public servants are required not to accept gifts or hospitality “from anyone which might reasonably be seen to compromise their personal judgement or integrity”.309 In relation to statutory audit, the test should be the same. Where hospitality is accepted—where it was felt personal judgement or integrity was not compromised—we would expect total transparency.310 We have concerns that this is currently not the case for statutory audit.
184.The FRC re-issued its ethical rules in July 2016 to address conflicts of interest which might impact on the “practitioner’s judgment or actions”.311 In terms of hospitality or gifts, whether given or taken from current clients the rules state:
The firm, its partners and staff and any other covered person, and persons closely associated with covered persons, shall not provide or accept gifts and hospitality in relation to an engagement unless it is probable that an objective, reasonable and informed third party would consider the value thereof to be trivial or inconsequential.312
185.Figures supplied to us by the Big Four audit firms note that they have set maximum entertainment budgets per head: PwC (£20 per head313); KPMG (£200 per head314); Deloitte (£150 per head315); EY (175 per head316). Since the introduction of the rules in 2016, two of the Big Four have reported 35 breaches to the FRC.317 The FRC have also told us that EY needed to amend its policy and guidance on hospitality in relation to allowable thresholds.318
186.The rules on gifts and hospitality do not apply to prospective clients.319 Figures supplied by the Big Four suggest that over the last five years they have spent considerably more on such clients: KPMG on average each year spent £1,463 per client,320 PwC £1,709 and Deloitte £2,561.321 Deloitte spent on average a total of £60,184 per year on all such clients in 2017 and 2018.322 The equivalent figures for the other three Big Four firms were: KPMG £27,177 (2014–2018);323 PwC £43,300 (2014–2018);324 and EY £60,990 (2014 to 2018).325
187.Importantly, audit firms do not currently publish registers showing which companies, current or prospective, attend their hospitality events. However, the FRC, for example, publishes a gifts and hospitality register, including details of companies and organisations and whether it accepts or declines, which applies to members of the board, its committees and councils and to the FRC executive.326
188.The amounts being spent by audit firms for prospective clients seem high and lack transparency, raising significant concerns about whether this undermines auditor independence. Auditors themselves said that part of the current crisis of trust in the audit profession is the perception of conflicts of interest. We are therefore concerned that since the FRC’s policy on hospitality was introduced in 2016 there have already been 35 breaches. We recommend that the regulator tightens the current rules and applies them also to prospective audit clients and requires audit companies to publish details of all hospitality in full.
239 CMA, Statutory Audit Services Market Study: Update Paper, (December 2018), p 18. See also: Times, Crunch time for the big four bean counters, (August 2018).
240 As above, p 6.
241 As above, p 36.
242 FRC, Guidance on Audit Committees , (2016), p 7.
244 FRC, Guidance on Audit Committees , (2016), p 3.
245 The Audit Committee negotiates the fee and scope of the audit, initiates a tender process and makes formal recommendations to the board on the appointment, reappointment and removal of external auditors. The Audit Committee should also consider all relationships between the company and the audit firm, including throughout the group and with the audit firm’s network firms, and any safeguards established by the external auditor. The AC is also responsible for approving non-audit services, ensuring that such services do not impair the external auditor’s independence or objectivity.(FRC, Guidance on Audit Committees , (2016), p 10–12)
246 As above, pp 14 to 15.
248 Q6 (Vinita Mithani, Lecturer in Accounting, Department of Accounting and Finance, Middlesex University).
250 Q44 (Leon Kamhi, Head of Responsible Investment, Hermes Investment Management); Q47 to Q48 (Liz Murrall, Director, Stewardship and Reporting, The Investment Association).
251 Q131 (Margaret Ewing, Nomination, Audit and Risk Chair, ITV); Q131 (Steve Barber, Audit Committee Chair, AA plc). Steve Barber said that in his experience shareholder engagement was “almost zero”. See also CMA, Statutory Audit Services Market Study: Update Paper, (December 2018), pp 52 to 54. The CMA suggested that both Audit Committees and shareholders should do more to engage with each other.
252 Q103 (Margaret Ewing, Nomination, Audit and Risk Chair, ITV); Q104 (Steve Barber, Audit Committee Chair, AA plc). They told us that they judged this in part by looking at previous Audit Quality Reviews (AQRs) and through conversations with other firms they had audited.
253 CMA, Statutory Audit Services Market Study: Update Paper, (December 2018), p 44.
254 As above, p 45.
255 As above, p 49.
256 As above, pp 50–51.
257 As above, p 88.
258 The CMA noted that it would require a Audit Committee to demonstrate that it had: prioritised independence and challenge in its tender assessment; made its decisions independently of company management; competently managed conflicts of interest so as to maximise choice at the time of the audit tender; and (iv) given fair consideration to challenger firms – having an objective justification for excluding any challenger firm.
259 The CMA said that Audit Committees would need to demonstrate that they had made meaningful interventions to assess quality beyond simply seeking management feedback; and provide the regulator with an account of material disagreements between the audit firm and management, including the role of the Audit Committee in these discussions.
260 As above, pp 88–89.
261 As above, p 91.
262 See: Crowe U.K. LLP (FOA0010); Investment Association (FOA0014); Aberdeen Standard Investments (FOA0023); Sarasin & Partners LLP (FOA0024); Mazars LLP (FOA0025); Rathbone Brothers PLC (FOA0026); CFA Institute, Update Paper: Statutory Audit Market, (January 2019); Association of Financial Mutuals, Update Paper: Statutory Audit Market, (January 2019); Chartered Accountants Ireland, Update Paper: Statutory Audit Market, (January 2019); EY, Update Paper: Statutory Audit Market, (January 2019); Hermes, Update Paper: Statutory Audit Market, (January 2019); Kevin Parry, Update Paper: Statutory Audit Market, (January 2019); Nexia, Smith & Williamson, Update Paper: Statutory Audit Market, (January 2019); Professor Atul K. Shah (City University) et al., Update Paper: Statutory Audit Market, (January 2019);
263 See: BT, Update Paper: Statutory Audit Market, (January 2019).
264 See: Institute of Chartered Accountants of Scotland, Update Paper: Statutory Audit Market, (January 2019); Association of British Insurers, Update Paper: Statutory Audit Market, (January 2019); Association of Chartered Certified Accountants, Update Paper: Statutory Audit Market, (January 2019); Institute of Chartered Secretaries and Administrators, Update Paper: Statutory Audit Market, (January 2019);
265 See; Morrisons, Update Paper: Statutory Audit Market, (January 2019); Johnson-Matthey Plc, Update Paper: Statutory Audit Market, (January 2019);
266 See: 3i, Update Paper: Statutory Audit Market, (January 2019); Aviva, Update Paper: Statutory Audit Market, (January 2019); GC100, Update Paper: Statutory Audit Market, (January 2019); Rio Tinto, Update Paper: Statutory Audit Market, (January 2019); Serco, Update Paper: Statutory Audit Market, (January 2019);
267 See: UKSA & ShareSoc (FOA0005); Institute of Chartered Accountants in England & Wales (FOA0015); AstraZeneca, Update Paper: Statutory Audit Market, (January 2019); Deloitte, Update Paper: Statutory Audit Market, (January 2019); IFAC, Update Paper: Statutory Audit Market, (January 2019); RBS, Update Paper: Statutory Audit Market, (January 2019);
268 PwC LLP (FAO0029); HSBC, Update Paper: Statutory Audit Market, (January 2019);
269 See: Q137 (Steve Barber, Audit Committee Chair, AA plc) Q137 (Margaret Ewing, Nomination, Audit and Risk Chair, ITV); Nationwide Building Society, Update Paper: Statutory Audit Market, (January 2019); Rothesay Life, Update Paper: Statutory Audit Market, (January 2019); Royal Dutch Shell, Update Paper: Statutory Audit Market, (January 2019); Santander, Update Paper: Statutory Audit Market, (January 2019); Schroders, Update Paper: Statutory Audit Market, (January 2019);
270 BDO, Update Paper: Statutory Audit Market, (January 2019); KPMG, Update Paper: Statutory Audit Market, (January 2019); 100 Group, Update Paper: Statutory Audit Market, (January 2019);
271 See: Q81 (Liz Murrall, Director, Stewardship and Reporting, The Investment Association); Q54 (Euan Stirling, Global Head of Stewardship & ESG Investment, Aberdeen Standard Investments); Q54 (Leon Kamhi, Head of Responsible Investment, Hermes Investment Management).
272 Financial Times, UK to press for shake-up of Big Four auditors, (September 2018).
273 See: Vinita Mithani, More audit competition: who loses out?, Economia, (November 2018).
274 See: Prem Sikka et al., REFORMING THE AUDITING INDUSTRY, (December 2018), pp 4–5. They also called for the independent appointment of auditors for all non-financial sector large companies, as defined by the Companies Act 2006.
275 BEIS, Operation of the audit market: letter from Sir John Kingman to Rt. Hon Greg Clark, (December 2016), pp 6–7. See also: Q178 (Sir John Kingman, Chair of the Independent Review of the Financial Reporting Council).
276 EU Audit Directive (2006/43/EC), Article 37.2
277 BEIS, INDEPENDENT REVIEW OF THE FINANCIAL REPORTING COUNCIL: Initial consultation on the recommendations, (March 2019), p 37.
278 CMA, Statutory Audit Services Market Study: Update Paper, (December 2018), p 88.
279 As above, p 88.
280 As above, p 6.
281 Q1 (Vinita Mithani, Lecturer in Accounting, Department of Accounting and Finance, Middlesex University). See also: Vinita Mithani, Lecturer at Middlesex University V(FOA0016).
283 Q6 (Vinita Mithani, Lecturer in Accounting, Department of Accounting and Finance, Middlesex University).
284 Vinita Mithani, Lecturer at Middlesex University (FOA0016). See also: 38 Degrees, Update Paper: Statutory Audit Market, (January 2019).
285 Q52 (Euan Stirling, Global Head of Stewardship & ESG Investment, Aberdeen Standard Investments). See also Q55 (Leon Kamhi, Head of Responsible Investment, Hermes Investment Management).
286 See: Q136 (Steve Barber, Audit Committee Chair, AA plc); Q136 (Margaret Ewing, Nomination, Audit and Risk Chair, ITV).
288 This was introduced in 2016 in Schedule 3 of The Statutory Auditors and Third Country Auditors Regulations 2016. Before this was introduced companies could use the same auditor in perpetuity. For example, in 2015 Barclays Bank changed its auditor to KPMG. Before that PwC had been its auditor for 119 years. See: Financial Times, An illusion of choice: the conflicts that mire the audit world, (August 2018).
289 CMA, Statutory Audit Services Market Study: Update Paper, (December 2018), p 128.
290 CMA, Statutory Audit Services Market Study: Invitation to Comment, (October 2018), p
291 As above.
292 See: KPMG, Statutory Audit Market: Invitation to Comment, (November 2018); PwC, Statutory Audit Market: Invitation to Comment, (November 2018). EY, Statutory Audit Market: Invitation to Comment, (November 2018); Deloitte, though generally not in favour, did think that more frequent rotation could be considered if it was used alongside a market cap to increase competition. Deloitte, Statutory Audit Market: Invitation to Comment, (November 2018);
293 See: Crowe, Statutory Audit Market: Invitation to Comment, (November 2018); Santander, Statutory Audit Market: Invitation to Comment, (November 2018); Schroders, Statutory Audit Market: Invitation to Comment, (November 2018); Standard Life, Statutory Audit Market: Invitation to Comment, (November 2018); Moore Stephens, Statutory Audit Market: Invitation to Comment, (November 2018).
294 See: HSBC, Statutory Audit Market: Invitation to Comment, (November 2018); Grant Thornton, Statutory Audit Market: Invitation to Comment, (November 2018); Legal and General, Statutory Audit Market: Invitation to Comment, (November 2018); Professor Atul Shah et al, Statutory Audit Market: Invitation to Comment, (November 2018); Croda, Statutory Audit Market: Invitation to Comment, (November 2018); Investment Association, Statutory Audit Market: Invitation to Comment, (November 2018).
296 Q282 (Clive Stevens, Chairman, Association of Practising Accountants); Q279 (Jac Berry, UK Head of Quality and Risk, Mazars).
297 Q281 (David Dunckley, Chief Executive Officer, Grant Thornton). While Grant Thornton thought that this would increase auditor scepticism, it also believed it would stop current rotation rules merely increasing rotation amongst the Big Four for FTSE 350 audits. (Grant Thornton, Statutory Audit Market: Invitation to Comment, (November 2018). The Investment Association also thought that an audit appointment of 7–8 years more appropriate than 20 years (Investment Association, Statutory Audit Market: Invitation to Comment, (November 2018).
299 House of Commons Business, Energy and Industrial Strategy and Work and Pensions Committees, Carillion, (HC 769; 16 May 2018), p 4.
300 Such services include: tax services; services that involve playing a part in the management or decision making of the audited entity; bookkeeping and preparing accounting records and financial statements; payroll services; internal control and risk management; financial IT services; certain legal services; underwriting shares; certain human resource services. See: European Commission, Reform of the EU Statutory Audit Market - Frequently Asked Questions (updated version), (June 2016).
301 See: Guardian, KPMG to drop non-audit services for its FTSE 350 clients, (November 2018); Financial Times, KPMG acts to avert ‘conflicts of interest’ of consulting, (November 2018); Times, Pressure on rivals as KPMG limits work for audit clients, (November 2018).
304 Qq365–371 (Kevin Ellis, Chairman and Senior Partner, PwC UK.). He confirmed that PwC would implement the ban on non-audit services to audit clients within six months.
306 Q585 (Maggie McGhee, Executive Director, Governance, Association of Chartered Certified Accountants).
308 Q75 (Natasha Landell-Mills, Head of Stewardship, Sarasin & Partners). See also: Sarasin and Partners, Statutory Audit Market: Invitation to Comment, (November 2018);
309 See: Cabinet Office, The Civil Service Code, (accessed 21 March 2019). See also: Cabinet Office, CIVIL SERVANTS RECEIVING HOSPITALITY, (accessed 21 March 2019).
310 HMRC publishes its hospitality register for senior HMRC managers on a quarterly basis and discloses in full what hospitality was offered, by whom and whether it was accepted. See: HMRC, HMRC’s Hospitality register, (accessed 21 March 2019).
311 FRC, Revised Ethical Standard 2016, (June 2016), p 7.
312 FRC, Revised Ethical Standard 2016, (June 2016), p 15.
313 PwC advised us that PwC UK’s general policy is that hospitality may not be offered to companies that PwC UK audits—or to the directors, officers and employees of that company. However, they have a de minimis limit where the cost per person is less than £20 per person, to allow for the purchase of coffees or light meals, during the normal course of business. They also allow directors and employees of audited companies to be invited to “mass-participation” events hosted by PwC. The latter would include, for example, their Building Public Trust annual awards for excellence in corporate reporting.
314 Letter from KPMG to BEIS Committee Chair (6 March 2019). KPMG confirmed that the limit was £200 excluding VAT for FTSE 350 clients. KPMG also advised us that they have a further limit for listed and certain other companies. This sets a limit for lunches or dinners at £60 per head for food and £25 per head for wine.
315 Letter from Deloitte to BEIS Committee Chair (6 March 2019). This is for FTSE 350 clients.
316 Letter from EY to BEIS Committee Chair (6 March 2019). This is for FTSE 350 clients.
317 Letter from FRC to BEIS Committee Chair (22 March 2019).
318 FRC, ERNST & YOUNG LLP AUDIT QUALITY INSPECTION, (June 2018), p 5.
319 Financial Times, MPs call for five years of hospitality data from Big Four, (17 February 2019). The Financial Times stated: “ There are no rules on how much accounting firms are allowed to spend on hospitality for prospective audit clients”.
320 Letter from KPMG to BEIS Committee Chair (6 March 2019). KPMG supplied figures for each year for 2014 to 2018.
321 Letter from Deloitte to BEIS Committee Chair (6 Match 2019). Deloitte supplied data for 2017 and 2018.
322 As above.
323 Letter from KMPG to BEIS Committee Chair (6 March 2019).
324 Letter from PwC to BEIS Committee Chair (6 March 2019).
325 Letter from EY to BEIS Committee Chair (6 March 2019).
326 See: FRC, Gift and Hospitality Register, (accessed 1 March 2019). This includes details of hospitality that the FRC has accepted from audit firms, including the Big Four. See: Times, Audit watchdog enjoyed scores of Big Four hospitality events, (December 2018).
Published: 2 April 2019