Auditing standards under scrutiny in parliamentary inquiry

Concerns over possible conflicts of interest for financial auditors have resulting in an inquiry by parliament due 1 March 2020. David Walker writes.

The audit profession is rallying to defend its work as the Parliamentary Joint Committee on Corporations and Financial Services investigates auditing in Australia. The big four accounting firms — Deloitte, EY, KPMG and PwC — dominate auditing of large companies. It used to make up the bulk of their work, but has sunk to less than 20 per cent in several instances as more remunerative consulting work has taken over (see table). The big four are expected to come under particular scrutiny over possible conflicts of interest between their consulting and auditing work, particularly for major banks.

Parliament approved the inquiry on 1 August. The topic of audit quality and alleged conflicts of interest has been the subject of extensive media coverage, including articles in The Sydney Morning Herald, The Age, The Australian and the Australian Financial Review.

The Australian Securities and Investments Commission’s (ASIC) audit inspection program results are also relevant. ASIC noted that for 2017–18, 24 per cent of key audit areas did not contain a reasonable assurance that the financial report as a whole was free of material misstatement, a figure relatively consistent with earlier results. The program found “three instances in the largest six firms where, in our view, the provision of non-audit services to clients raised concerns about the appearance of independence being compromised”.

The Financial Reporting Council and Chartered Accountants Australia and New Zealand have also been active on the issue.

Under the microscope

The joint committee said in an earlier 2019 report that it had “ongoing concerns” about company audit quality and wanted a “serious review” of audit. Along with conflict-of-interest issues, the committee says it will look at:

• Adequacy and performance of regulatory standards, disciplinary and other bodies.
• Level/effectiveness of competition in audit and related consulting services.
• Audit quality, including valuations of intangible assets.
• Changes in the role of audit and the scope of audit products.
• Role/effectiveness of audit in detecting/reporting fraud and misconduct.
• Effectiveness/appropriateness of current laws.

The committee has said it will look at overseas reviews of auditing. The UK has held a wide-ranging review of audit quality and effectiveness after high-profile collapses, and PwC has said it will split its UK audit assurance and consulting practice into two separate businesses.

The inquiry may also consider an audit commission to appoint the auditors of large listed companies and set their fees, as floated by former Australian Securities and Investments Commission chair Greg Medcraft.

In Sydney for a recent Governance Institute conference, Winfried Bischoff, head of the UK’s Financial Reporting Council told media the push for higher audit quality by regulators would force companies to pay more for auditing. “As chairman of an audit committee, you’ve got to ask yourself — do you want cheapness or do you want to actually have a really good audit, which highlights some of the shortcomings and does not gloss over them?”

Submissions to the inquiry close on 28 October and the committee is due to report by 1 March 2020.

The role of external audit is a core element of good governance frameworks. The AICD will be engaging with the inquiry and providing a submission on this important issue. It will keep members informed of key developments.

Access further information on the regulation of auditing in Australia at: bit.ly/2kFe06J