Competition Commission proposes five yearly audit tendering

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22 Jul, 2013

The Competition Commission has today published proposals that, among other things, would require FTSE 350 companies to put their statutory audit engagement out to tender at least every five years. Comments on the proposals are invited until August 2013 and will be considered by the Competition Commission in developing their final report on the supply of statutory audit services in the UK expected in October 2013.

The Competition Commission began an investigation into statutory audit services to FTSE 350 companies in 2011 following a request from the Office of Fair Trading.  They found that there were features within the UK market for the supply of audit services (such as barriers which prevented companies from switching auditors) which either combined or individually resulted in an “adverse effect on competition” (AEC).  The Competition Commission noted: 

As a result of the AEC, we provisionally found that companies are offered higher prices, lower quality and less innovation and differentiation of offering than would be the case in a market without the features, and shareholders and investors (as potential future shareholders) have demand which is unmet

The proposals of the Competition Commission are intended to address what they see as lack of competition within the provision of statutory audit services in the UK and ensure that competition is directed towards satisfying the demands of shareholders.  The Competition Commission comments that: 

The remedy package includes measures to improve the bargaining position of companies and encourage rivalry among audit firms; measures to enhance the influence of the AC in a company’s relationship with its external auditors; and measures to promote shareholder engagement in the audit process

The proposals are also intended to increase the influence of audit committees, something that the FRC has re-emphasised in publishing their guidelines for an efficient audit tender process

The proposal requiring FTSE 350 companies to put their audit out to tender at least every five years halves the timeframe for retendering recently introduced by the Financial Reporting Council (FRC) as part of their revisions to the UK Corporate Governance Code.  

The Competition Commission were of the view that ten years is “too long a time for an audit engagement not to be subject to the high level of scrutiny and competition that that we found takes place within a rigorous tender process”. 

In response, the FRC have commented that they would like the Competition Commission to “respect the ten year audit tendering cycle introduced to the Corporate Governance Code in 2012 and give that timeframe the opportunity to prove itself”.  They also comment that “the Commission’s proposed five year cycle for tendering also removes comply or explain which is a central tenet of the UK Corporate Governance Code”. 

The Competition Commission notes that “Companies may defer this obligation by up to two years if there are exceptional circumstances” and propose that there is a five year transitional period before the requirements take effect. 

Aside from the proposals for five year audit tendering, the Competition Commission also proposes a number of other measures to increase competition in their ‘Summary of provisional decision on remedies’: 

  • The Audit Quality Review team (AQR) should review every audit engagement in the FTSE 350 on average every five years. The Audit Committee (AC) should report to shareholders on the findings of any AQR report concluded on its company during the reporting period, stating the grade awarded and how both the AC and auditor are responding to the findings.
  • The AQR should review and report on the larger Mid Tier firms on an annual basis.
  • Provisions in loan agreements which restrict a company’s choice of auditor to certain categories or lists of statutory auditors should be prohibited.
  • An advisory vote should be introduced on the sufficiency of the disclosures in the Audit Committee report section of the Annual Report (the Audit Committee Report); and amendments to the UK Corporate Governance Code and Stewardship Code made to further encourage shareholder engagement.
  • Measures should be introduced to strengthen the accountability of the external auditor to the AC, including a stipulation that only the AC is permitted to negotiate and agree audit fees and the scope of audit work, initiate tender processes and make recommendations for appointment of auditors and authorize the external audit firm to carry out non-audit services (NAS).
  • The FRC should amend its articles of association to include a secondary objective to have due regard to competition.

There are a number of other measures that the Competition Commission have not included in their provisional remedies such as mandatory auditor rotation and further constraints on non-audit services .  The FRC has commented that it supports the removal of original proposals for mandatory auditor rotation, however they highlight that the proposed measures will result in increased costs to shareholders.

The Competition Commission will consider comments until August 2013 and expects to publish a final report in October 2013.  Interested parties should respond in writing to the email/address provided in the attached press release

Click for:

Competition Commission Press release (link to Competition Commission website)

Summary of provisional decision on remedies (link to Competition Commission website) 

Other documents supporting the Competition Commission proposals (link to Competition Commission website)

FRC press release (link to FRC website)

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