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Audit reform

Background

The FRC has been concerned for some time about the impact of concentration in the audit market and, in particular, the potential impact of a major firm failure on capital markets.  The FRC are working with the major audit firms to develop contingency plans which can be activated in the event of a firm finding itself in serious difficulty.  The FRC have also been actively involved in helping to shape the timing of audit tenders, advocating a 10 year audit tender period for FTSE 350 companies in line with the 2012 revisions to the UK Corporate Governance Code. 

 

Project Milestones

The FRC provided their comments to the Competition Commission, who initially proposed that FTSE 350 companies put their statutory audits out to tender at least every five years.  The FRC comments were considered by the Competition Commission and on 15 October 2013 the Competition Commission published their final package of remedies.  This included the requirement that FTSE 350 companies put their statutory audit engagement out to tender at least every ten years.

In January 2014, the Competition Commission announced that they would delay the release of their package for audit reform in the UK in light of the announcement by the Lithuanian EU Council Presidency and the European Parliament of agreement on EU audit reform.

The new EU rules, which were adopted by the Council of the European Union in April 2014 introduce mandatory rotation of auditors for PIEs, requiring such companies to retender at 10 years and change the auditor at least every 20 years. The reforms include a prohibition on the provision of certain non-audit services to PIE audit clients (including tax advice and services linked to the financial and investment strategy of the audit client) and also introduce a cap on the fees that can be earned from the provision of permitted non-audit services to PIEs.  Additionally the rules prohibit the use of restrictive clauses in contracts which limit a company’s choice of auditor in order to promote market diversity.  The new rules, in the form of a Directive amending the Statutory Audit Directive (Directive 2006/43/EC) (link to Europa website) and a Regulation on specific requirements regarding the statutory audit of public-interest entities (PIEs), have been published in the Official Journal of the European Union.  Both the Directive and the Regulation will enter into force 20 days after their publication in the Official Journal of the European Union.  The EU Member States have to incorporate the rules of the Directive within their national law by 17 June 2016.  The Regulation is effective from 17 June 2016.   

In light of the EU rules the Competition Commission announced that it would review its draft Orders to consider the implications that the EU legislation would have.  In July 2014, the Competition and Markets Authority (CMA) issued a consultation on a draft Order seeking to implement aspects of the Competition Commission’s package of remedies for audit reform in the UK in light of agreement at European level on audit reform.  The consultation period closed on 24 August 2014.

In September 2014, the Competition and Markets Authority (CMA) published its final Order implementing reforms of the audit market in the UK, following on from the Competition Commission's report into the market and  in light of agreement at a European level on audit reform.

The final Order includes:

  • a requirement for FTSE 350 companies to put their statutory audit engagement out to tender at least every 10 years, in line with the EU Regulation on the statutory audit of public interest entities; and
  • measures to strengthen the accountability of the external auditor to the Audit Committee and reduce the influence of management.

The Order will come into force on 1 January 2015 and apply to financial years beginning on or after 1 January 2015.  This means that the audit committee’s terms of reference will need to be revised for 2015.  However, in relation to tendering it contains transitional provisions, which align with those contained in the EU Regulation. 

The Department for Business, Innovation and Skills’ (BIS) issued a discussion document on the implications of the EU and wider reforms to auditor regulation and the Financial Reporting Council issued a consultation paper on the implementation of the EU Audit Directive and Audit Regulation.  Both were issued in December 2014. 

The BIS discussion document and FRC consultation paper together sought views of stakeholders on the implementation of the EU Audit Regulation and revised Audit Directive. Comments closed on 19 March 2015.
 
The BIS Discussion Paper is supported by a supplementary document, issued in March 2015.  The supplementary information indicates that BIS, the CMA and the FRC have agreed “that, in so far as possible, the CMA Order and the requirements of the Regulation should be applied consistently with one another”. 
 
In July 2015, the government announced that that all public interest entities (listed companies, banks, building societies and relevant insurers) will have to put their audit tender out at least every ten years and change auditor at least every 20 years.  The government has also announced that the Financial Reporting Council will be the UK competent authority for the regulation of auditors but that regulatory activities will continue to be carried out by the recognised supervisory bodies (RSB’s) (such as the ICAEW) that meet specific criteria under the delegation of the FRC.   
In September 2015, the FRC issued a consultation on changes to Ethical Standards for Auditors, International Standards on Auditing (ISAs), the UK Corporate Governance Code and the Guidance on Audit Committees arising from the UK implementation of the EU Audit Regulation and Directive.  Comments on the consultation closed on 11 December 2015.       
In October 2015 the Department for Business, Innovation and Skills published its consultation on draft implementing regulations and draft amendments to the Companies Act to implement audit reform changes in the UK.

A policy update on the UK implementation of the EU Audit Reforms was issued by BIS in August 2015.  The Financial Conduct Authority and the Prudential Regulation Authority both issued consultations on changes to audit committee requirements as a result of EU audit reform in September 2015.  In May 2016, the PRA issued finalised rules on audit committees under the revised statutory audit directive.

In January 2016, the government announced that the threshold for audit exemption will be aligned with the revised thresholds to determine whether a company is small.  The audit exemption changes take effect for accounting periods beginning on or after 1 January 2016 and cannot be early adopted unlike the accounting requirements of the The Companies and Groups (Accounts and Reports) Regulations 2015 which may be early adopted for accounting periods beginning on or after 1 January 2015.
 
In March 2016 the FRC issued a consultation on proposals for the Audit Enforcement Procedure, developed to implement its forthcoming responsibility for audit enforcement.  Comments closed on 4 May 2016.
 
In May 2016, the FRC issued “final drafts” of the 2016 UK Corporate Governance Code, the revised Guidance on Audit Committees, the Ethical Standard 2016 and revised International Standards on Auditing (UK and Ireland). These complete the FRC’s implementation of the EU Audit Regulation and Directive, together with parts of the Competition & Markets Authority’s (CMA’s) final Order.
 

Current status of the project 

In May 2016, BIS published the government’s response to its earlier consultation on measures to implement the EU Audit Directive and Audit Regulation (537/2014) in the UK as well as other changes to enhance confidence and strengthen the audit regime.
In June 2016 the FRC issued the 2016 UK Corporate Governance Code, the revised Guidance on Audit Committees, the Ethical Standard 2016 and revised International Standards on Auditing (UK).
            

 

 

 

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