Auditors: Market concentration and their role - Economic Affairs Committee Contents

Letter from Mazars LLP (ADT 21)

  Mazars, the integrated international accountancy organisation is pleased to submit its evidence to the Select Committee's enquiry into the above issue.


  Statutory audit is a fundamental element of good governance. It provides assurance to shareholders on the stewardship of their businesses and plays an important role in ensuring confidence in the capital markets. We recognise the privilege afforded to us as a firm in being registered to undertake statutory audits and firmly believe that with this right comes the obligation to help foster an open vibrant audit market that is responsive to the needs of shareholders and the public interest more widely.


  It would be helpful to review the scope of the audit and whether this should be extended to encompass additional assurance on areas such as risk and other aspects of narrative reporting. We recognise, however, that support for such a move will only be forthcoming if there is a strong level of support from investors, regulators and others for the way in which the core statutory audit is operating with regard, for example, to how auditors report their findings and the structure of the audit market.


  A more open vibrant audit market, especially for large listed companies, would better serve the public interest. It would reduce the potential negative risks were one of the currently dominant four firms to leave the market unexpectedly and would also, in line with experience in other sectors, be likely to lead to audit firms as a group being more innovative and more responsive to shareholders' needs.


  Figures calculated from independent research by Oxera and published by the Financial Reporting Council in 2006 indicate that a FTSE100 auditor can expect to remain in place, on average, for a period of 48 years, with some having held office for over a century, and those in the FTSE250 for 36 years., Oxera also found that more than 70% of the FTSE 100 had not put their audit out to tender for at least 15 years.

  As the fifth progress report from the Financial Reporting Council on the implementation of the recommendations of its Market Participants Group highlights, the change to the above state of affairs brought about by market-led initiatives has been disappointing. It is now time to move on from a purely voluntary approach.


  To address the situation outlined above, we believe reforms are needed to bring about, in particular, fair and regular tendering; greater use of shared audits and an elimination of restrictive covenants.


  Large listed companies, as they constitute the part of the market with both the greatest concentration and the highest related systemic risk, should be expected to tender their audits at regular intervals. Without this change, the opportunities for a firm to increase their market share, whether one of the existing leading players other than the Big 4 or a new entrant, are extremely limited.

  Consideration also needs to be given to the arrangements to be made when audits are put out to tender. For listed companies, these might involve publishing tenders to ensure firms with the necessary capabilities are able to tender and having a two stage process providing for the submission of a short document at the first stage by a number of firms from which a shortlist would be selected for the final presentation. Arrangements for the independent oversight of tendering might also be helpful.

  More radically, exploration for alternative methods of appointment of auditors by, for instance, independent shareholder panels could also be explored.


  We strongly support considering how to actively promote the involvement of more than one firm in the audit of large listed groups. Innovative thinking is needed and the participation of each of the shared auditors may take a number of different forms. For example, one of the shared auditors may perform the statutory audits for certain subsidiaries.

  Joint audits, where two firms, take full joint responsibility for the audit opinion offered, are a particular form of shared audit. We believe there would be merit in requiring leading banks in the UK to appoint joint auditors given the systemic risk involved, the complexity of their operations and the inherent subjectivity in their financial statements.


  Our response to the detailed questions is set out in the attached appendix.

24 September 2010


1.   Why did auditing become so concentrated on four global firms? For example, do economies of scale make it too difficult for smaller firms to compete?

  There are some economies of scale in relation to the auditing of, for example, listed companies but they do not explain the current levels of concentration in the audit market for such companies especially at its upper end. Investment is clearly needed in areas such as the provision of technical expertise, training and development, the development and updating of audit methodologies and the maintenance of quality control systems and those related to independence. Significant investment has been made by our firm and a number of other firms in this area and thus the existence of some economies of scale cannot be used to justify the dominance of the largest four firms. There may also be some diseconomies of scale with respect to the largest firms due to their significant overhead structures covering areas other than those related to ensuring the quality of work undertaken. Moreover, the geographical coverage of Mazars and the main networks outside the Big 4 is sufficient to enable us to deal with the vast majority of listed companies.

Auditing has become very concentrated amongst the Big 4's global networks, each made up of a number of independent firms, due, for instance, to the absorption many years ago of regional firms by the leading players to create what at the time were the eight largest nationwide firms in the UK; the subsequent absorption of a number of mid-tier firms by the larger firms; the merger of some of the larger firms themselves and finally the collapse of Arthur Anderson in the wake of the failure of Enron, leading to the emergence of the Big 4. On the demand side, we understand that some investors and advisers have encouraged companies to appoint a Big 4 firm when first joining the listed market or subsequently. As large listed audits rarely come up for tender, there has been ratchet effect on concentration—it has steadily increased over time with little prospect of it reversing.

2.   Does a lack of competition mean clients are charged excessive fees?

  Any views on whether clients are charged higher fees than they would be in a more competitive market will tend to be inherently subjective as audit fees will always be dependent to some extent on company—specific factors in a given accounting period and over a period of years fees may vary due to both changes in the internal environment of the company and in the external marketplace, for example, as a result of the introduction of new accounting standards or changes in company law. That said, it would generally be expected that if there were more regular market testing of fees through tenders and a greater choice of firm that this would have an impact on audit fees.

3.   Does a narrow field of competition affect objectivity of advice provided?

  We do not believe that the lack of competition would lead any firm to offer advice that was other than professional.

4.   Alternatively, does limited competition make it easier for auditors to provide unwelcome advice to clients who have relatively few choices as there is less scope to take their business elsewhere?

  We are not persuaded by any suggestion that limited competition makes it easier for the auditor to provide unwelcome advice.

  This and the previous question seek to elicit views on the relationship, if any, between the objectivity of advice and the degree of competition. We would suggest the enquiry should also have regard to related issues such as the relationship between the quality of service and the degree of innovation on the one hand and the degree of concentration amongst the dominant firms on the other.

5.   What is the role of auditors and should it be changed?

  The current primary role of the auditor is to express their view on whether the financial statements show a true and fair view for the period covered by the audit. There are additional responsibilities relating to checking whether the financial statements are in accordance with the underlying accounting records, to the director's report and to separate corporate governance statements (with regards to the Transparency Directive).

  There has been recent discussion on whether the role of the auditor should be widened to encompass reporting, in some form or other, on matters related to the principal risks of the company and how they are being managed and also possibly to some other aspects of narrative reporting, eg concerning discussions of business performance and future prospects. We think these issues should be fully explored, as should assurance on sustainability issues, but it is vital that this be done by reference to which reforms would best serve the public interest and, within that, those of shareholders. Matters to be considered include which areas of reporting should be covered by any additional assurance requirements; what form of assurance would shareholders find to be of real value, eg on the processes undertaken by the board in the relevant area or on the outcomes: whether any additional assurance should form part of the statutory audit or represent a separate assignment; what would be the cost of providing the additional assurance and whether the additional costs involved are outweighed by the expected benefits?

  Before considering extending the scope of the audit it will also be essential to ensure that shareholders, including in particular institutional shareholders, have full confidence in the current core audit. This includes considering what is the most helpful way for auditors to report their findings or, alternatively, whether the audit committee should report on issues it and management have discussed with the auditor who could confirm his or her agreement with the disclosures made.

  There would be merit in discussing whether there is concern that the exercise of judgement in arriving at the audit opinion on truth and fairness has been reduced in recent years by greater emphasis on reporting and auditing standards.

6.   Were auditors sufficiently sceptical when auditing banks in the run-up to the financial crisis of 2008? If not, was the lack of competition in auditing a contributory factor?

  We are not in a position to comment on this issue as we do not have access to the necessary information. We are, of course, aware that the FSA and FRC have published a paper on this issue.

7.   What, if anything, could auditors have done to mitigate the banking crisis? How can auditors contribute to better supervision of banks?

  We consider that the introduction of joint audits would provide additional audit assurance in respect of leading banks and could be justified for them on the grounds of the systemic risks involved in their operation; the complexity of their business and the inherent subjectivity of their financial statements.

  With regard to whether the auditors could have helped to mitigate the banking crisis, we would observe that the peak of the banking crisis occurred some months after the auditors had reported on the last set of annual financial statements for the leading banks and that the drying up of liquidity in the financial markets had not happened for an extremely long period. Moreover, when it manifested itself during the crisis it did so with relatively little notice.

8.   How much information should bank auditors share with the supervisory authorities and vice versa?

  We support effective two-way liaison between the regulators of banks and their auditors. Each has access to information not available to the other and so gaining the full picture requires consultation between them. In appropriate circumstances it may be helpful also to involve the financial institution in such dialogue although there is likely to be benefit in some discussions taking place just between the regulator and auditors. Some of these discussions would best be on a collective basis between the regulators and the auditors of all the leading banks together at which sector trends, their impact and the regulator's general concerns could usefully be discussed. In addition, we would expect appropriate one-on-one discussions between regulators and a bank's auditors on bank-specific matters at appropriate times in the year, eg after the conclusion of the audit though, if circumstances merit it, meetings should naturally be held whenever necessary.

9.   If need be, how could incentives to provide objective and, in some cases unwelcome, advice to clients be strengthened?

  We believe that fulfilling professional obligations rather than incentives should be the primary driver for providing high quality objective advice whether welcome or not.

10.   Do conflicts of interest arise between audit and consultancy roles? If so, how should they be avoided or mitigated?

  Conflicts of interest can clearly arise between audit and consultancy roles. Ethical standards require that the audit partner should determine whether any proposed additional services provides a conflict of interest, including a perception of one, and that where this is the case the potential assignment causing it should not be taken on unless appropriate safeguards are first put in place. Notwithstanding the above, the provision of certain services by the audit firm is prohibited.

11.   Should more competition be introduced into auditing? If so, how?

  For the reasons discussed in the covering letter, we strongly believe that it is essential in the public interest for substantially greater competition to be introduced as a matter of priority.

  It is now clear that voluntary initiatives in this area are not achieving the desired results but if we thought the necessary change could be achieve through, for example, a robust code, eg the UK Corporate Governance Code, which was properly monitored such an approach may have merit. The issue is a European and global one, as well as a UK one and this needs to be taken into account in determining the best way forward. We believe a package of reforms will be needed and should probably include:

    — leading listed companies being expected to put their audit out to tender at regular intervals;

    — fair tendering processes that have proper regard to the capabilities of all appropriate firms; and

    — more use of shared auditors in the case of leading listed companies, including joint audits for banks.

  Other initiatives that it may be helpful to explore include alternative appointment processes for auditors, eg involving shareholder panels, and even limiting the number of listed audits any one firm may hold.

12.   Should the role of internal auditors be enhanced and how should they interact with external auditors?

  Internal audit has a vital role to play in the overall assurance framework relating to large businesses. We believe there would be merit in setting out in a little more detail in the UK Code on Corporate Governance the role of the internal audit function and appropriate reporting lines which emphasise its independence from management. The primary reporting line should be to the chair of the audit committee. We also consider the head of internal audit, assuming the function is not outsourced, should have a level of seniority equivalent to that of a member of the senior management team or an executive director on the board.

  If the external auditors are satisfied as to the level and range of skills of the internal audit team; the adequacy of the resources available to them and the independence of the internal audit function they should be able to place reliance on its work and take this into account in determining the amount and nature of external audit work to be undertaken.

13.   Should the role of audit committees be enhanced?

  We consider the UK Code on Corporate Governance and the supplementary guidance for audit committees contains significant guidance on the role of audit committees and on key issues impacting on their effectiveness.

  Whilst the guidance available is generally adequate, we would encourage audit committees to review how it is implemented in their company and to give particular attention to behavioural and cultural issues in order to ensure the committee is achieving its full potential.

14.   Is the auditing profession well placed to promote improvement in corporate governance?

  We believe the auditing profession is one of the players with an important role in promoting improvements in corporate governance. As a firm we seek to do this through the provision of assurance services and those on board and audit committee effectiveness, risk management and internal audit and through the development of publications and organising of events to disseminate best practice.

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