Member Article

Auditors under Competition Commission scrutiny

The audit market is not serving shareholders according to an ongoing investigation by the Competition Commission (CC).

Restrictions that stop companies switching auditors mean that competition has been undermined in the market, which has been reinforced by a trend for auditors to concentrate on management needs rather than those of shareholders.

CC published a provisional conclusion for its investigation on Friday, and said the market is dominated by the “Big 4” auditors.

This includes PricewaterhouseCoopers, Ernst & Young, Deloitte and KPMG, leaving little room for smaller competitors.

Initial findings say businesses often find it difficult to compare auditors and prefer to stay with their existing firm rather than paying significant charges to switch.

Companies also indicated they would be reluctant to switch auditors, and so lack bargaining power.

Laura Carstensen, Chairman of the Audit Investigation Group, said: “We have found that there can be benefits to companies and their shareholders from switching auditors but too often senior management at large companies are inclined to stick with what they know, particularly when it is difficult to compare with the alternatives and the incumbent auditors are in a strong position to hold on to the business.”

31% of FTSE 100 firms and 20% of FTSE 250 companies have had to same auditor for more than two decades, while 67% of the FTSE 100 and 52% of FTSE 250 firms have kept the same auditor for more than 10 years.

CC also concluded that lack of competition could lead to higher prices, lower quality and a lack of innovation.

Ms Carstensen added: “Whilst we accept that most audits are performed diligently and understand that those involved are behaving rationally in response to their incentives, auditors tend to focus on management interests over those of shareholders.

“For example, management may have incentives to present their accounts in the most favourable light whereas shareholder interests can be quite different.

“Shareholders play very little role in appointing auditors compared to executive management—and despite the presence of audit committees and other safeguards—audit firms naturally focus more on meeting management interests.

“The result is a rather static market in which too often audits don’t fulfil their intended purpose and thus fail to meet the needs of shareholders.”

CC found that businesses find it difficult to assess the quality of auditors and comparisons with other auditors are often difficult, unless carried out through a tender process.

Auditors may also find it face barriers when trying to access information required by shareholder, which often results in investor needs being neglected in favour of senior management expectations.

The Commission is considering the following solutions: Mandatory tendering; mandatory rotation of audit firm; expansion remit or frequency of Audit Quality Review team reports; prohibition of “Big 4 only” clauses in loan documents; more accountability to External Auditor or Audit Committee; between shareholder engagement and extended reporting requirements.

The Association of Chartered Certified Accountants (ACCA) welcomed CC’s findings, and said it was important auditors meet the demands of all parties involved.

Sue Almond, technical director at ACCA, said: “The whole point of this investigation has been about the audit market’s structure.

“While the audit market is static, it must be remembered that auditors act as society’s eyes and ears to report fraud, bribery and money laundering activities; they also assist the assessment and collection of both direct and indirect taxation, so the future of audit services need to be assured and supported.”

Ms Carstensen from the Audit Investigation Group concluded: “It will undoubtedly be challenging to change a long-standing and entrenched system but our proposals will look to create a situation where tendering and switching become the norm, and where greater transparency and information increase both contestability of the market and the ability of shareholders to judge the service they are getting.

“We now want to explore which combination of these proposals will be most effective in addressing the factors that inhibit competition and move towards a situation where auditors compete over the quality of service they provide to shareholders.”

This was posted in Bdaily's Members' News section by Miranda Dobson .