Why the CBI was wrong to attack EC audit reforms

AUDITING is at a crossroads. The House of Lords Economic Affairs Committee, the Office of Fair Trading, the European Commission, the US audit regulator (PCAOB) and investors all have substantial concerns about the listed company audit model.

John Cridland of the CBI outlined the case for resisting the EC’s new proposals in these pages last week [The EC proposals for audit reform: a costly mistake, Friday]. But the EC’s and others’ investigations show that worries exist over the audit profession’s ability to instil confidence in the market at a time when wider business confidence is in such perilously short supply.

The profession can choose to bury its head in the sand or it can return to its roots. The word “audit” comes from the Latin verb to listen. We have to collectively engage in dialogue and listen to investors and wider society to understand how auditing needs to change.

How do you defend a market where the Big Four account for 99 per cent of FTSE 100 audit fees and FTSE 100 auditors can, on average, expect to remain in office for 43 years with some appointments going back to Queen Victoria’s reign. Is this a healthily competitive market or a cosy oligopoly?

It’s a fundamental economic rule that better competition means better value and quality of service for clients and auditing is no exception.

We need to create a more competitive FTSE 350 audit market with more audit firms involved and much stronger links from auditors and audit committees to investors. We need to focus on regular and fair tendering, a limit on any firm’s market share, a tougher approach to independence and more disclosure on audit findings. We also need a more mature debate on the benefits of joint audits at the upper end of the market.

Eliminating barriers to entry into the FTSE 100 audit market is essential if an open, vibrant market is to be created. In practice, many FTSE 100 companies now choose from one or two of the Big Four as their auditor. New entrants will lessen the systemic risk associated with one of the dominant players exiting.

Moreover, challenging the myth that size means quality is long overdue. Firms do not need to be the size of a Big Four firm to undertake most FTSE 100 audits.

Auditors and audit committees must be fully accountable in practice, as well as theory, to the shareholders. More information should be made publicly available on key audit findings. There should be more direct communication between auditors and investors.

We must also consider the range of non-audit services provided by firms to audit clients as this challenges the perception of the auditor’s independence from management.

The thrust of the EC’s proposed reforms deserve support. It’s about accepting the responsibilities of being a profession. It’s a choice between defending the past or working with investors and wider society to ensure auditing remains fit for purpose, playing an active role in promoting confidence in the capital markets.

Auditing is at a crossroads. We cannot afford to take the wrong road.

David Herbinet is London managing partner of Mazars and UK head of Public Interest Markets.