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Mid-tier handed “permission to play” in FTSE 350 audit market

 MID-TIER ACCOUNTANCY FIRMS have been given “permission to play” in the FTSE 350 audit market as a result of measures introduced by the Competition Commission despite claims that the reforms do not go far enough to open up the market to firms outside the Big Four.

On Monday, the UK competition watchdog unveiled a raft of measures intended to increase rivalry among firms for the audit work of Britain’s largest businesses and break the cosy relationship enjoyed by company management and their auditors.

The measures, which include forcing companies to allow auditors to bid for their work every five years and prohibiting the use of Big-Four-only clauses in loan agreements, received mixed reaction from the profession.

While the Big Four blew a collective sigh of relief that the reforms were less radical than those that were originally floated, firms from the lower end of the top-20 were disappointed to see restrictions over the provision of non-audit services omitted from the Competition Commission’s plans.

Firms outside of the top-six – the Big Four plus Grant Thornton and BDO – were never realistically going to be able to compete for FTSE 350 audits with or without the commission’s reforms, but some had hoped for an opening in providing non-audit work.

“There remains scepticism about the independence of auditors who earn significant fees from other services,” says Fiona Hotston-Moore, senior partner at top-20 firm Reeves & Co. “It would have been nice if [the commission] had signalled that auditors of the FTSE 350 should be doing audit work and not providing their clients with services where there is a perceived or real conflict of interest.”

Nevertheless, those firms most likely to benefit from the reforms – Grant Thornton and BDO – were more upbeat about their chances of picking up a share of the market once work starts coming up for tender.

Although the frequency of tenders will play to the Big Four’s larger resources and ability to compete on a wide variety of bids, James Roberts, senior audit partner at BDO, believes the firm can pick up business if it is selective about where and when it competes.

“We will be quite careful that we don’t go in for everything and look at ways of managing our resources,” he says, adding that the firm will look at how a potential client fits with their sector and size.

“There are probably 35 or 40 companies that need the size and the resource that the Big Four have, such as the large financial institutions and oil and gas companies. But we have a strong resource in retail and small extractive companies in the FTSE 250 are no problem at all,” Roberts says.

“There will be an increase in cost in terms of the volume of work, but the price per transaction will go down,” he adds.

Similarly, Steve Maslin, Grant Thornton’s head of external professional affairs, said the firm would look at the size of the assignment before deciding whether to bid for the work. “If the audit is worth hundreds of millions then it will be too big,” he says, adding that the firm will look at businesses where it has a pre-existing relationship.

Those relationships are set to become more formalised as the new rules will restrict close personal relationships between auditors and managements in favour of handing audit committees more formal powers to set and agree audit contracts.

For instance, only the audit committee will be permitted to negotiate and agree audit fees and the scope of the work, initiate tender processes and make recommendations for the appointment of auditors, while the ability of shareholders to hold audit committees to account has been strengthened with the inclusion of a shareholders’ vote on whether audit committee reports in company annual reports contain sufficient information.

According to Roberts this will make choosing an auditor a “much more rational procurement exercise” with the buck stopping with the audit committee chair.
David Herbinet, partner at mid-tier firm Mazars, says the inclusion of a shareholders’ vote on the committee report will give investors everything they need “if they want to create competition” but raised concerns about how audit committees might align their interests.

“The question is whether they align their interests with investors and be totally independent of the board or align themselves with management,” Herbinet says, though he welcomed the five-year tendering period that would coincide with the rotation of audit engagement partners – meaning firms would be able to anticipate when contracts would come up for tender.

“We are already building a database around that and planning ahead,” he adds, despite there being a five-year transition period before the rules are enforced.
According to Herbinet, more can be done to streamline the tendering process to make it easier for companies to get used to, though the FRC has made progress in this area.

Earlier this month, the FRC published guidance on how to conduct an effective audit tender, such as establishing the objectives of the tender, inviting firms to tender based on clear criteria and the views of investors; and providing firms with adequate information to understand the company’s needs.

The mid-tier may not have been given everything they wanted, but the potential for tougher sanctions still exists in Europe where discussion around mandatory rotation and non-audit restrictions are still on going. The Competition Commissions measures, while not perfect, have given BDO and GT the opportunity to compete. The rest is down to them.

 

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