AICD responds to Treasury’s proposed audit and accounting reforms

Background 

In July, Treasury released an Options Paper detailing a broad package of reforms aimed at strengthening accountability, governance, independence and market dynamism in Australia’s audit sector. The consultation follows a period of heightened scrutiny of Australia’s largest multidisciplinary firms and concerns regarding ethical conduct. Notably, there is currently significant scrutiny on the conduct of KPMG around tender processes and whistleblowing practices.  

The Government’s proposals are wide-ranging and span options for firm-level licensing with Australian Securities and Investments Commission (ASIC) oversight, new governance requirements for large audit firms and changes to partnership arrangements. On conflicts of interest, the options explored include restrictions on the provision of non-audit services and the operational or structural separation of multidisciplinary firms such as KPMG, PwC, EY and Deloitte.  

New requirements for reporting entities (i.e. entities required to prepare financial reports under the Corporations Act) are also proposed, including periodic audit tendering every 10 years and mandatory firm rotation every 20 years.  

Collectively, if implemented, the reforms would result in a far more heavily regulated audit and accounting sector in Australia resembling some of the settings in other countries, such as the United Kingdom.  

See the AICD’s earlier summary for more details on key proposed reform options here. 

The critical importance of high-quality audit to effective governance

High-quality external audit and assurance is a critically important component of Australia’s corporate governance framework. A rigorous audit process is essential to directors discharging their duties through independent scrutiny of management’s financial statements.  

The AICD in its submission supported a number of Treasury’s proposed reforms aimed at improving governance, firm-level accountability and regulatory oversight of the audit sector. 

 We did not however support proposals where there was not a strong policy case and there is a real risk of significant unintended consequences. We raised concerns, in particular, with options that could result in a reduction in audit quality and market capacity, as well as access to capability and expertise within Australia’s largest multidisciplinary firms. 

Further, we are worried that a number of the reform options would impose significant and disproportionate costs on audit firms and reporting entities, many of which are medium sized and private organisations and businesses that have limited capacity and resourcing to meet onerous and complex new requirements.  

We strongly called for proportionate application and that obligations are limited to only the largest and most systemically important audit partnerships and separately the largest reporting entities. We also encouraged consideration of alternatives to prescriptive legislative mandates, including “comply or explain” disclosures, shareholder approval mechanisms and a principles-based code or standards, to reduce compliance costs and regulatory burden. 

These positions were informed by extensive consultation with experienced company directors and audit committee chairs. Key areas are explored in further detail below.  

Accountability within the audit sector 

We supported measures to strengthen firm-level accountability in the audit sector, including the introduction of an appropriately tailored licensing regime with ASIC regulatory oversight. 

In our view, any licensing requirements should be proportionate and apply on a tiered basis to reflect differences in firms’ scale, complexity and risk profile. We also supported the extension of Australia’s whistleblower laws to partnership structures – an option being actively considered by Treasury under its separate statutory review of tax and corporate whistleblowing. 

Conflicts of interest 

We provided cautious support for restrictions on the largest reporting entities engaging their auditor for non-audit services. However, we strongly recommended that clear and workable exceptions apply for services that are required to be delivered as part of the audit process or for related assurance purposes which the auditor is best placed to undertake. For example, the auditor may be best placed to provide assurance on sustainability related disclosures.  

We did not support proposals for operational or structural separation of multidisciplinary firms. These options would be a disproportionate intervention in the sector would not deliver clear audit quality or independence benefits when weighed against their complexity and potential for significant downstream costs for reporting entities. Directors shared concerns that these options would also substantially weaken the benefits of integrated professional expertise and put large Australian entities who rely on these capabilities at a disadvantage compared to international counterparts.  

Governance settings

We supported new minimum governance standards for large audit firms, including requirements for an independent chair, a minimum number of independent directors and duties for key personnel. We also supported governance standards being embedded as part of any new licensing regime or adopted under a principles-based code. 

We did not support options to reduce partnership limits or mandate audit firm incorporation. For example, the Treasury paper had floated a 400 partner limit consistent with law firms. The policy case for such a significant regulatory intervention was not apparent, including how it would improve audit quality or improve conflicts management.   

Audit market dynamism 

We supported a periodic tendering requirement for large reporting entities every 10 years. Directors noted in feedback that the audit tender process is an important discipline to benchmark the auditor’s performance, expertise and fees against alternative providers and to invite fresh perspectives.   

We called however for there to be scope for exceptions (with regulator approval) where specific circumstances make a tender impractical for a reporting entity at the time. As an alternative to a legislative mandate, we also encouraged consideration of a “comply or explain” disclosure and/or shareholder approval mechanism to extend the tendering period where necessary. 

We did not support a mandatory audit firm rotation requirement every 20 years. We heard strong concerns that the proposal does not reflect the realities of Australia’s audit market, where large complex reporting entities have a limited number of viable audit providers. A prescriptive firm rotation requirement, in addition to a periodic tendering requirement, could also undermine the objectives of a competitive tender process given existing market constraints.  

A combination of existing audit partner rotation requirements, a comprehensive auditor review every 5 years, and a periodic tendering requirement every 10 years, are effective measures to incentivise market dynamism. 

The AICD’s full submission can be found here. 

What happens next?

In a press conference announcing the consultation in July, the Assistant Treasurer, The Hon Dr Daniel Mulino MP said that the Government does not have a timeline on legislating reforms.   

The AICD will continue to engage with industry and government stakeholders on the proposals over coming months and keep members informed of key developments.