More questions than answers

Later this month the Financial Reporting Council will publish its views on
the recent research into audit competition and choice.

The paper will be eagerly anticipated by both the preparers and users of
audit reports following the findings that competition is not working as well as
it should at the top end of the audit market, and that choice for some is
severely limited.

Despite many saying that the report simply confirmed what had been suspected
for a long time, there is still the uneasy feeling in the audit community that
the scope of the report meant it raised more questions than it answered.

This was apparent at the stakeholder meeting held late last month, when the
authors of the report faced a flurry of questions from the floor, and were
unable to answer many as the report’s scope meant it was never intended to
address those issues.

Bill Ferrari, director at the London Investment Banking Association, wanted
to know if there was a dichotomy in perceptions between auditors and
non-auditors.

Mazars asked whether there was a correlation between the choice of auditor
and access to capital. Peter Montagnon, head of investment affairs at the
Association of British Insurers, wanted to know the impact on audit price of
non-audit work subsidisation.

None received truly satisfactory answers to their questions, simply because
of the narrow parameters set by the FRC and the government.

PricewaterhouseCoopers chairman Kieran Poynter took to the floor to querying
the figures on switching rates, which showed only 4% of the FTSE 350 change
their auditor in a year. He suggested this could be attributed to high levels of
satisfaction rather than lack of choice.

Again, the report could not resolve this, but a statement later on from
Wilson Bowden chief executive Ian Robertson provided a potential answer.

‘I don’t think we should disregard the issue of reputational risk from
changing auditor,’ said Robertson. ‘People question why you are doing it.’

There were also concerns that the report had not studied some of the current
issues playing out that may already be affecting the market. Audit quality was
mentioned by many as a vital component of the debate, yet the report did not
look into the matter.

Changes to liability currently going through parliament in the company law
reform bill will also play a major part in reducing the risk of a Big Four crash
and could encourage the mid-tier to compete more fiercely at the high end. Again
this potential change was ignored for the purposes of the report.

When it appears, the FRC paper will consist of three main threads with ways
to increase choice being top of the list. However, the body has already admitted
that it is likely to be years before there are any real results from this.

In the meantime, the watchdog will also explore ways of lowering the risk of
the market being unnecessarily reduced to a Big Three, but also ways of limiting
disruption costs to companies if it does happen.

The profession will wait with baited breath to see what these proposals are,
and what protection they will offer on top of what legislation may soon provide.
FRC chief executive Paul Boyle says that liability limitation may help address
competition issues but ‘it doesn’t eradicate the problems’.

In going down this road the body will have to tread very carefully to avoid
further upsetting investors who feel there is already enough protection for the
Big Four and that the firms have too much influence over regulators and standard
setters.

It will also need to be seen to be encouraging greater competition.

So far talk has been more on providing better information to shareholders on
the capabilities and appetite from the mid-tier to take on larger audits, but
this may not be enough to satisfy investors that things will truly change.