Please contact me should you wish to discuss any of the points raised in the attached response.

Transcription

1 31 January 2008 Our ref: ICAEW Rep 1/08 Hazel O Sullivan The Auditing Practices Board Limited 5 th Floor Aldwych House Aldwych London WC2B 4HN By h.osullivan@frc-apb.org.uk Dear Hazel DRAFT REVISED ETHICAL STANDARDS FOR AUDITORS The Institute of Chartered Accountants in England & Wales is pleased to respond to your request for comments on the Draft Revised Ethical Standards for Auditors published in October Please contact me should you wish to discuss any of the points raised in the attached response. Yours sincerely TONY BROMELL Head of Accountancy Markets and Ethics T +44 (0) F +44 (0) E tony.bromell@icaew.com Silbury Court Silbury Boulevard Central Milton Keynes MK9 2AF T +44 (0) F +44 (0) DX DX Milton Keynes

2 ICAEW Representation ICAEW REP 1/08 DRAFT REVISED ETHICAL STANDARDS FOR AUDITORS Memorandum of comment submitted in January 2008 by the Institute of Chartered Accountants in England and Wales, in response to the Auditing Practices Board consultation paper: Draft Revised Ethical Standards for Auditors Contents Paragraph Introduction 1 Who we are 2 3 Overall comments 4 8 Responses to consultation paper questions 9 31 Comments on other aspects of the draft revised standards Appendix 1: Key Institute concerns previously expressed in relation to existing Ethical Standards Appendix 2: Summary of responses to ICAEW survey of audit firms attitudes to rotation requirements Silbury Court Silbury Boulevard Central Milton Keynes MK9 2AF T +44 (0) F +44 (0) DX DX Milton Keynes

3 INTRODUCTION 1. The Institute of Chartered Accountants in England and Wales (the Institute or the ICAEW ) welcomes the opportunity to comment on the Auditing Practices Board (APB) consultation paper: Draft Revised Ethical Standards for Auditors published in October WHO WE ARE 2. The Institute operates under a Royal Charter, working in the public interest. Its regulation of its members, in particular its responsibilities in respect of auditors, is overseen by the Financial Reporting Council. As a world leading professional accountancy body, the Institute provides leadership and practical support to over 130,000 members in more than 140 countries, working with governments, regulators and industry in order to ensure the highest standards are maintained. The Institute is a founding member of the Global Accounting Alliance with over 700,000 members worldwide. 3. Our members provide financial knowledge and guidance based on the highest technical and ethical standards. They are trained to challenge people and organisations to think and act differently, to provide clarity and rigour, and so help create and sustain prosperity. The ICAEW ensures these skills are constantly developed, recognised and valued. OVERALL COMMENTS 4. You will be aware of our concerns over specific aspects of the existing Ethical Standards (ESs) from discussions at the time of their introduction and subsequently. The key issues raised at the time are summarised in appendix We have not repeated these concerns in detail in this response but are obviously disappointed that they have not all been addressed, particularly the desirability of writing the standards on a think small first basis, adoption of the International Federation of Accountants (IFAC) Code, and the undesirability of a bright line fee dependency rule. 6. However, as noted in our response to question 2 below, we accept that this would require a major rewrite. Given that we see no evidence in the UK at present of a significant problem with auditor independence or public confidence, we endorse making only minor changes in the next iteration of the ESs. In particular we endorse retaining the PASE. 7. We have set out our responses to the questions asked by the APB, together with observations on a number of specific paragraphs, below. We draw particular attention to our comments on the partner rotation requirements, in response to question A number of the changes proposed are to align with the proposed revisions to the IFAC Code. At the time of writing this response, those revisions had not been finalised by the IFAC Ethics Standards Board for Accountants. We believe it important that the revised ESs should not be finalised until it is absolutely clear what provisions the revised IFAC Code will contain, as harmonisation is an important goal. We are aware of the desirability of early implementation of the Statutory Audit Directive (S.A.D.) requirements but the net impact of these on the ESs is minor and if necessary it would be preferable to delay the finalisation of 3

4 the ESs for a few months rather than risk aligning with an IFAC position that then changes. RESPONSES TO CONSULTATION PAPER QUESTIONS Question 1: Do you have any concerns about the nature of the services currently being provided to listed companies by their auditors such that the APB needs to develop further standards and guidance for inclusion in the ESs? 9. No: the whole point of principles-based standards is that there is no need to try (usually unsuccessfully) to cover every eventuality. In fact the more examples/rules there are, the more the underlying aim of complying with the spirit of the requirements becomes obscured. Question 2: Do you agree with the APB s view that there is no need to make major changes to the ESs? If not, why not? 10. We have previously raised concerns about a number of aspects to do with the ESs (desirability of following IFAC guidance, the absolute rule on fee dependency, the need to write the standards on a think small first basis, etc) and are obviously disappointed these have not been taken up. 11. However, we recognise that the amendments we have campaigned for would require a substantial rewrite. We see no evidence in the UK at present of a significant problem with auditor independence or public confidence in financial reporting and change for the sake of it is undesirable. Therefore we accept that a minimal changes approach is appropriate at this point. Question 3: Do you believe that any of the proposed changes to ESs will add to audit cost? If so which changes and why? 12. Any new absolute requirement or restriction is likely to add to cost so there will inevitably be a cost of the proposed changes, to auditors and to the businesses they serve. In particular the changes in respect of networks and the widening of the scope of key audit partner may have a noticeable effect. This is commented on further in paragraphs 14 and 15 below. 13. As noted above, as we see no significant problem with auditor independence or public confidence, we do not believe there is likely to be a significant benefit. The exception to this is where there has been alignment with international requirements. As noted above, we encourage alignment with (indeed adoption of) the IFAC Code as this will significantly reduce the costs of compliance for many firms operating in more than one country. Question 4: Given that the revised ESs will be effective for audits of financial statements for periods commencing on or after 6 April 2008, are there any changes to the ESs proposed by the APB which will be difficult to implement? If so, are transitional arrangements necessary? 14. The changes in respect of networks may bring audit firm groupings within the scope of network requirements that were previously considered to be loose affiliations. In addition, proposed ES1,[D] introduces a proactive requirement to ensure that all network firms comply with the IFAC Code, whereas previously the network monitoring requirements were restricted to firms in the UK and those 4

5 participating in the audit or providing non-audit services to the audit client. Depending on how that monitoring was performed some groupings may be faced with the need to set up new network monitoring systems. We believe there should be a two year transitional period for networks newly caught within the definition as such and network requirements newly introduced by the draft ESs. 15. The widening of the scope of key audit partner will require rotation of a number of individuals for the first time and will extend the impact of the cooling-off provisions in ES2. This will inevitably take time to set up while ensuring audit quality does not suffer. Accordingly we endorse the proposed transitional requirements in ES3,22 and believe similar provisions should be put in place in ES2 in respect of individuals newly affected by the requirements in respect of partners joining clients. Question 5: The arguments outlined above appear evenly balanced and therefore the APB would appreciate commentators views on whether to retain the existing requirement for audit engagement partners on listed companies to rotate after five years or move to seven years. What are your reasons for this view? 16. The CCAB agreed with the government a reduction of the period to five years in the immediate post-enron period. There was at the time a need to be seen to be doing something. However, this is a perception issue and we do not believe in practice that public/investor confidence has been or is impacted by the precise duration of the partner rotation period, one way or the other. 17. Indeed we believe there could be a negative impact on audit quality of the shorter period. Independence is one of a number of means of achieving high audit quality: knowledge of the client is another. Frequent changes of audit partner can reduce knowledge, which is particularly valuable in the audit of complex specialised clients as it takes time to acquire. We believe this outweighs the potential benefits of having a fresh view more often (which are in any event achieved in large teams by changes in other personnel). 18. In the time available for the consultation, we were able to conduct a short survey of audit firms views on the rotation period for listed entities. The results, summarised in appendix 2 to this response, overwhelmingly support an extension from five years to seven, citing loss of audit knowledge, the desirability of aligning with the IFAC requirements and problems with finding the right partners for the right engagements as reasons for the views given. 19. We also note that the Investment Management Association submission to the U.S. Treasury Advisory Committee on the Auditing Profession 1 supported a seven year rotation period as: a) being more practical than five years; and b) it would help remove one of the barriers to firms providing audit services to listed entities. 20. Supporting this, approximately half of the respondents to our survey thought that an extension would assist audit choice: a matter recently addressed by the FRC s Market Participants Group. There is clearly a need for a larger pool of partners to be able to audit a listed entity (especially one in a specialised industry) where the 1 5 December 2007, 5

6 rotation period is five years and this reduces the number of firms / offices able to provide audit services to such entities. Smaller firms in particular commented on the impact the rotation period has on the ability to service AIM clients. 21. The widening of the scope of key audit partners required to rotate after seven years will put further pressure on the situation, as will the slight but potentially significant change of wording so that partners should now not participate in the audit in any way. 22. In short we believe a five year partner rotation period gives no significant benefit, but imposes cost, and may reduce audit quality and auditor choice. We advocate a move to seven years, which would have the added benefit of aligning with the IFAC and S.A.D requirements. 23. Should the APB nevertheless decide that it is unable to support a blanket extension to seven years, there may be scope for an intermediate solution, of including an extension to seven years in ES3 but requiring the independence issues to be discussed with the audit committee after five years and ensuring that the audit committee, in the light of such discussions, is happy for the engagement partner to serve for seven years. Engagement Quality Control Review (EQCR) partner 24. We believe the case for extension of the rotation period for the EQCR partner from five to seven years is [even more] overwhelming. The EQCR partner has no contact with the client and the degree of familiarity threat to independence is accordingly very low. Question 6: Do you believe that APB should retain the existing requirement for audit engagement partners on listed companies to have a cooling-off period of five years? What are your reasons for this view? 25. The IFAC Code and the S.A.D specify a 2 year off period. This gives a long enough period to ensure that another partner has been involved properly in the key audit decision taking. Accordingly we see no reason why the APB should not align with the international position (which as noted above brings cost benefits in compliance). 26. In practice it may be appropriate in the particular circumstances for the new person to remain in place for a longer period than two years but we would expect the audit committee to keep that under review in its consideration of independence issues. Auditor independence standards should include only those requirements necessary to ensure independence and the appearance of independence are preserved. Question 7: Do you support the approach of the APB to continue relief for the auditors of smaller entities from a small number of the requirements in the ESs for a further period of time? 27. Yes: it is appropriate to recognise the different combination of factors that contribute to audit quality for small audits and the different cost-benefit drivers. As noted above, we believe that the provisions should in due course be incorporated into the main standards on a think small first basis but accept that this would require a full rewrite to be effective. We are also aware that the small entity provisions are used significantly (we referred to this in detail in our letter to the 6

7 APB of 11 May 2007). Accordingly we agree that the retention of the PASE is appropriate. Question 8: Do you support the proposed strengthening of the ESs with respect to valuations, actuarial valuation services and litigation support services? 28. In a principles based code, additional specific prohibitions do not constitute strengthening : rather the removal of an option to exercise professional judgment and match threats with safeguards. 29. However, we note that these changes are to retain alignment with the IFAC Code. Our response to the IFAC consultation indicated that we did not see evidence of a need for such changes and do not believe they will enhance the quality of the audit. However, on balance we support the APB s incorporation of the changes to preserve international harmonisation. Question 9: Do you support the proposed relaxation of ESs with respect to certain financial interests in audit clients held by immediate family members of partners where those partners are not involved in that audit? Question 10: Do you support the proposed relaxation of ESs with respect to certain business relationships with audit clients? 30. Yes: we do not believe that either of these sets of changes will increase threats to independence but will reduce problems in certain circumstances. 31. While on the subject of the scope of individuals covered by the relationship requirements, we believe it would be appropriate to revisit the need to include all partners in the audit firm. This dates back to the original codes maintained by the profession, where the application to all audit partners and others performing the audit was a rough and ready approximation for what IFAC has now evolved into those in a position to influence the audit. The APB has included the latter notion in its standards as well as the former, which could be considered to be an unnecessary belt-and-braces approach. Alignment with the scope of persons covered in the IFAC Code would remove a number of individuals unnecessarily covered by the current ESs, advance international harmonisation but ensure that all those in a position to influence are still covered by the requirements. COMMENTS ON OTHER ASPECTS OF THE DRAFT REVISED STANDARDS. References below are to paragraph numbers in the draft revised standards 32. ES1, 17 Compliance Footnote 5 refers to draft legislation. Of more relevance is the underlying audit regulations. The ICAEW s new regulation 3.07, coming into effect on 6 April 2008, states A Registered Auditor must make arrangements to prevent anyone who is not a responsible individual in the firm from having any influence which would be likely to affect the independence or integrity of the audit. 33. ES1, 28 Management threats - The discussion on management threats has been widened (and in ES5,26) but perhaps too far: there could now be seen to be a management threat on purely advisory assignments. It is important that a threat is not automatically seen to arise whenever such a service is provided. 7

8 34. ES1, [C] Safeguards This new paragraph seems to include a discussion, then a requirement which should be phrased as a shall and shown in bold, then a further discussion. 35. ES1, [D, E] Networks - Existing ESs concentrate on independence of the firm and other firms involved in the audit. The revision includes the IFAC requirement for all network firms to be independent. In this area we actually thought the existing APB approach was more focused on the actual areas of threat and would be happy to retain it. The change, if introduced, together with the changed definition of network firm (to align with the S.A.D and IFAC) will introduce additional requirements for some firms. The wording needs to be clarified in terms of the extent of the search required to be satisfied that other network firms are in compliance. Does, for example, [E] imply that it is necessary only to ensure there are policies and procedures to address the issue (which is what we believe should be the case) or is it necessary to drill down into the detail for each potential client? 36. ES2, 7, 17 Trustees We have interpreted financial interests to include ownership as a trustee and accordingly paragraph 17 as a relief from the general prohibition. On that basis, the extension of the relief to include other partners is a welcome correction of a drafting flaw in the existing ES2. However, a number of respondents to us have interpreted the trustee requirements differently: the definitions of financial interest do not clearly include interest held as trustee so paragraph 17 is seen as an extension to the underlying financial interest prohibition. On that basis the extension to other partners is seen as unnecessary (see our comments on questions 9 and 10 above). We believe it is important to clarify through the definitions, paragraph 17 (and paragraph 11a) how the trustee relationship requirements are to be read. 37. ES2, 45 Partners joining clients - The definition of Key Audit Partner has been widened to include partners in charge of key subsidiary audits, regardless of whether even when they are not involved at group level. We consider this change unnecessary and regrettable here and in respect of the rotation requirements, as the degree of threat for such partners is greatly reduced. The revisions to ISA 600 already impose greater oversight of subsidiary audits by the group audit engagement partner and this must automatically be directed with an emphasis to significant subsidiaries. With all the obligations of the group engagement partner imposed by ISAs and the ES rotation requirements there are already adequate safeguards. 38. We accept that the change is imposed by the S.A.D but note that this addresses only public interest audits. As the cooling off provisions address all non-pase audits, the wider scope could be applied only to listed entity audits while still complying with the S.A.D requirements. Indeed, as the S.A.D and the IFAC Code apply cooling off provisions only to public interest audits, an opportunity could be taken to align fully with the international position in this area. 39. As noted in the footnote to ES2,44, the S.A.D and the resulting UK legislation actually require, in respect of partners joining public interest clients, that the partner be prevented from joining the client. The APB requirements are phrased in terms of the audit firm having to resign if the partner does join the client. We agree that this addresses the independence threat to which the S.A.D requirement refers but we understand from the Department for Business, Enterprise and Regulatory reform that they do not believe the ES requirements fulfil the requirements of the S.A.D. The professional bodies are thus being 8

9 required, it appears, to include an additional requirement in our audit regulations, which will mean that all of the UK auditor independence requirements are not included in one place. It would be helpful if the APB were able to revisit the wording of the requirement to see if it can be made to align fully with the S.A.D requirements. 40. ES2, 50, 51 Governance role with an audited entity we believe paragraphs 50 and 51 should be written on a becomes aware of family relationships basis, which would be consistent with, for example, paragraph ES3, 9 Partners holding role for ten years As we have commented before, we believe this paragraph is clear but many respondents to us have taken the paragraph to require rotation on unlisted audit clients after 10 years. It may clarify matters to slightly rewrite the paragraph to show rotation as one of three options (the other two being the existing a and b) rather than something to be done unless a or b are applied. 42. ES3, 12, 16, [A] Partner rotation - See our response to question 5 above re our support for an extension of the five year rotation period to seven years. Also, in terms of actual threats, we believe the existing ES referral to partners who have rotated off the audit not holding positions of responsibility addresses the threats the provision is meant to deal with and the change to not participating in the audit is unnecessary. We note that ES3, [A] does envisage that the partner could have an ongoing non-audit role: this has precipitated some discussion amongst respondents to us as to whether a client relationship role would be acceptable. 43. ES4,A to C Audit fees not being influenced by non-audit services This requirement has been introduced by the S.A.D, which does not go on to explain what it means. We welcome the attempt by the APB to include some discussion as to the meaning of the requirement but a lot of questions will arise. Is it necessary, for example, to have set the audit fee before embarking on any discussions about non-audit services in the period covered? What sort of policies and procedures will monitoring bodies be looking for to implement this requirement? 44. ES5, [B] Providing services to e.g. pension schemes We do not believe any issues arising out of providing services to an audit client and its pension scheme are independence matters: where the auditor is acting for both client and pension scheme it will be independent of both. If anything, issues will be conflict of interest matters which are addressed by the professions own code of ethics. We do not believe they should be addressed specifically in the ESs. 45. ES5, 68 Tax services - Paragraph 68 has been amended so that (a) applies to services provided "to an audited entity" but the scope of (b) is not similarly specified. 46. ES PASE, 12 Management threat In order to take advantage of this exemption, the firm is presumably not required to adhere to the requirements of ES1, [A] as well as ES Definitions: listed company We draw attention to the comments made by a number of respondents to our survey on partner rotation about the impact of the additional requirements for listed audits on small listed/aim clients (see appendix 2). 9

10 Appendix 1 to ICAEWREP 1/08 Key Institute concerns previously expressed in relation to existing Ethical Standards a) International alignment between the APB standards, IFAC Code of Ethics and EC directives could be enhanced further by the: removal of unnecessary differences in the APB Ethical Standards, for example, the existence of a management threat which the Institute believes can be incorporated into one or more of the following categories: self-interest, self-review, advocacy, familiarity or intimidation; recognition of the importance of safeguards created by the profession, legislation or regulation in eliminating or reducing threats to an acceptable level, for example, education, training and experience requirements for entry into the profession and continuing professional development requirements. b) Bright line economic dependency rule may result in auditors of small and medium sized entities having to resign from audits when adequate safeguards could be applied. The standard (ES 4 para 23 and 24) prohibits audit firms from providing audit services to clients where the firm s total income from that client regularly exceeds 10% for listed and 15% for nonlisted clients, regardless of available safeguards. c) Restriction of non-audit services provided to audit clients (ES 5) which were previously permitted to be carried out by practitioners for their clients, provided safeguards were put in place to ensure independence. The restrictions which are of particular concern include prohibitions on representing clients in tax tribunals and restrictions on the types of safeguards that would be acceptable when providing permitted non-audit work. The latter may be of particular concern for sole practitioners and small practice firms who audit and provide accounting services and tax compliance work to SMEs. d) Application to audits of smaller entities The ES-PASE was introduced to address concerns that the main ESs do not reflect particular issues on SME audits. It permits some auditors of small entities (broadly a company which has not more than 5.6m of turnover) not to comply with certain of the requirements included in the main standards. We believe it to be inappropriate that SME auditors have to read more standards than auditors of larger entities. The ESs should be written on a small-first basis. e) Transactions between audit firm and audit client (ES 2 para 26) prohibits the purchase of goods and services from the audit client where material, even in the ordinary course of business and on an arms length basis. This may causing some difficulties in geographical areas where the audit client is the only supplier, for example, the only house builder or car dealer for a particular make of car in that area. f) Restrictions on the movement of staff between clients and their audit firms (ES 2 para 44) requires firms to resign as auditors (for a minimum of two years) if a partner of the audit firm is appointed as a director (including 10

11 non-executive directors) or key senior management position with an audit client, having acted as audit engagement partner (or similar) for that client. There is some concern that these restrictions are not appropriate in respect of all audits since they further limit the pool of talent in finance, for example, charities and other organisations may be prevented from benefiting from the advice of experienced people. 11

12 Appendix 2 to ICAEWREP 1/08 Summary of responses to ICAEW survey of audit firms attitudes to rotation requirements Firms surveyed All firms registered with the ICAEW and shown as carrying out listed company audits Responses: 45, ranging from 3 partners to over 225 partners (percentages below are in terms of those responding) Q: Do you support the retention of a 5 year period for rotation of engagement partners on listed audits? Yes -7% No 93% Q: Would you support extending the period to 7 years? Yes 91% No -9% Reasons quoted (percentages of the 91% saying yes) Loss of audit knowledge - 63% Problems finding the right partners - 39% Align with international requirements - 36% Should be no maximum, as safeguards available - 49% Reasons quoted (percentage of the 8% saying no) Public perception - 100% Fresh view useful - 100% Q: Will extending period enhance ability to undertake listed audits? Yes 47% No 51% Several comments about impact on small listed clients, particularly AIM. Several comments were made that there should be a distinction between large listed audits and small listed/aim clients. 12

13 Institute of Chartered Accountants in England and Wales 2008 All rights reserved. This document may be reproduced without specific permission, in whole or part, free of charge and in any format or medium, subject to the conditions that: it is reproduced accurately and not used in a misleading context; the source of the extract or document, and the copyright of the Institute of Chartered Accountants in England and Wales, is acknowledged; and the title of the document and the reference number (ICAEWREP 1/08) are quoted. Where third-party copyright material has been identified application for permission must be made to the copyright holder. 13