Competition Commission report mandates 10 year audit tendering

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15 Oct, 2013

The Competition Commission has today published a summary of their final package of remedies to increase competition within the provision of statutory audit services to FTSE 350 companies in the UK. Among other things, all FTSE 350 companies will be required to put their statutory audit engagement out to tender at least every ten years.

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 final package of remedies is intended to address what the Competition Commission sees 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 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 final decision to mandate audit tendering every ten years is in line with the revisions to the UK Corporate Governance Code (“the code”), introduced by the Financial Council (FRC) in September 2012, and is a change from the Competition Commission’s original proposals for a 5 year mandatory tender period in July 2013.  However, the Competition Commission does not agree that FTSE 350 companies should be able to delay a tender any longer than ten years on a “comply or explain” basis.  The Competition Commission highlights that ten years is the longest that a company can wait and indicate that they are still of the view that “many companies would benefit from going out to tender every five years”.  Where a FTSE 350 company chooses not to tender every five years the Competition Commission notes that “the Audit Committee should set out in the Audit Committee Report section of the Annual Report in which financial year it next plans to go to tender and why going out to tender in that year is in the best interests of shareholders”. 

Aside from the proposals for ten year audit mandatory tendering, the Competition Commission remedy package also includes: 

  • Additional responsibilities for the Audit Quality Review Team (AQR) of the FRC to “review every audit engagement in the FTSE 350 on average every five years”.  Less risky audits can be reviewed less frequently.  Findings are to be reported to the shareholders by the Audit Committee “during the reporting period” including the grade awarded and how both the auditor and Audit Committee are addressing the findings. 
  • The proposal for the companies to hold a shareholders’ vote at the AGM on whether “Audit Committee Reports in company annual reports are satisfactory”.
  • Reporting by the AQR team on firms within its scope on an annual basis.
  • Prohibitions on provisions in loan agreements which restrict a company’s choice of auditor to a pre-selected list or category. 
  • Measures to “strengthen the accountability of the external auditor to the Audit Committee”.  These measures include:
    • Only allowing the Audit Committee to negotiate and agree audit fees and the scope of audit work with the external auditor.
    • Only allowing the Audit Committee to initiate tender processes and make recommendations for the appointment of auditors and authorise the external audit firm to carry out non-audit services.
  • A requirement for the FRC to amend its articles of association “to include an objective to have due regard to competition”. 

There are a number of other measures that the Competition Commission have not included in their remedy package such as mandatory auditor rotation (something which the European Commission is pushing for) and further constraints on non-audit services by the auditor.     

Whilst the Competition Commission recognise that the measures will impose additional costs “principally arising from the increased activities of the FRC with respect to the AQR team”, they do comment that “the benefits of the package are considerable”. 

They comment: 

We expect the [above] measures taken together as a package will be effective and proportionate in remedying the AEC.  We expect this remedy package to result in a substantially improved environment for competition in the FTSE 350 statutory audit market. 

The FRC has welcomed the move to ten yearly audit tendering after having expressed their concerns in August 2013 over original proposals for five yearly audit tendering.  They also support the increased role of the audit committee, commenting that "the emphasis on audit committee reporting builds on the changes introduce to the Code in October 2012".  In relation to the proposals for AQR, the FRC comment that they will "consider the implications to our resource and funding requirements". 

Subsequent to their initial response, the FRC also published a letter to the Competition Commission in January 2014 providing their comments on the individual remedies that the Competition Commission addressed to the FRC.  This can be accessed below. 

The Institute of Chartered Accountants in England and Wales (ICAEW) also agreed that ten yearly tendering is "the right decision".  The Institute of Chartered Accountants of Scotland (ICAS), along with the ICAEW would, however, have "preferred" ten year tendering on a "comply or explain" basis. 

The full final report (including appendices) has now been issued and can be accessed on the Competition Commission website here.  The timetable published by the Competition Commission, on their website, shows that these remedies are to be effective from 1 October 2014. 

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