FRC suggests ways to encourage competition in the audit market
The Chief Executive of the Financial Reporting Council (the FRC), in a speech on 10 February 2011 to the European Commission conference on financial reporting and auditing, discussed how competition in the audit market could be stimulated, with the aim of reducing reliance on the “Big Four” accountancy firms.
In his speech, Stephen Hadrill suggested the following changes to the audit market, with the two-fold aim of (1) increasing competition and (2) expanding the number of major auditors, to reduce the risk of a market of just three firms if one of the Big Four were to fail, “a situation that we could not tolerate”:
- Encouraging banks and other financial institutions to use non-Big Four firms as a source of advice to their risk committees.
- Giving “serious consideration” to amending the rules on audit firm ownership, to allow firms to access external capital.
- Prohibiting the use of “Big Four only” clauses in banking and loan covenants.
In making these proposals, Mr Hadrill noted that their implementation would require co-operation between authorities, between audit regulators and competition authorities, between regulators and firms and probably beyond the EU. He stated the FRC’s opposition to compulsory joint audits and to mandatory rotation of auditors.
Scrutiny of the auditors and their role
The context of Stephan Hadrill’s speech is both the scrutiny of the auditors’ role in the aftermath of the financial crisis and also what he referred to as the expectations gap between “what audit does and what users expect from an audit of financial statements”, and he discussed this second theme in detail, referring to how the demands on audit have changed, from its origins in the nineteenth century, when it was to “provide assurance about the numbers”, to its current and more demanding focus on “the strategy of the business and its risks”. Mr Hadrill concluded his speech with the thought that “this is a once in a generation opportunity to set the direction of travel for the future of corporate reporting and audit across the European Union”.
In that context, it is worth bringing together various work currently in train on the role of auditors and of audit:
- The FRC published recommendations on enhancing corporate reporting and audit on 7 January 2011.
- The APB tightened the ethical standard for auditors in December 2010.
- The European Commission Green Paper on “Audit Policy: Lessons from the Crisis” was issued on 13 October 2010 (and the conference at which the FRC Chief Executive spoke was to discuss this Green Paper); a summary of responses to the Green Paper was published by the Commission on 4 February 2011.
- The Auditing Practices Board (the APB) produced a discussion paper on raising the standard of “auditor scepticism” in August 2010.
- In June 2010 the Financial Services Authority and the FRC jointly published a discussion paper on “Enhancing the auditor’s contribution to prudential regulation“.
- The House of Lords Economic Affairs Committee is conducting into “Auditors: Market Concentration and their Role“.
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