UK market regulators' proposals cite serious concerns and strong changes to the audit sector

Yesterday, the United Kingdom's (UK's) Competition and Markets Authority (CMA) released a report, "Statutory audit services market study," citing concerns over audit quality and competition in the audit market and proposing significant reforms. These reforms are being put forth for public comment.

As written about in a previous blog, some of the CMA's primary concerns were: 

  • Companies choosing their own audit firms based on cultural fit or chemistry, rather than the firm's ability to be tough
  • Lack of competition in the sector, resulting in 97 % of the audits of FTSE 350 companies by the big 4 firms
  • A significant percentage of big 4 firms' overall revenue coming from nonaudit services (i.e., 75%), which the CMA views as diluting audit quality

Remedies to address these concerns are laid out in the CMA's report (starting on page 132) as follows: 

Remedy 1: Regulatory scrutiny of Audit Committees - The regulator is calling for changes to the manner in which auditors are appointed, more scrutiny on the directors making those decisions and increased responsibilities for audit committee chairs.

Remedy 2: Mandatory joint audit - The CMA recommends a joint audit regime in which at least one non-big 4 auditor would participate on FTSE 350 audits along with a second auditor (which could be a big 4 firm).

Remedy 2A: Market share cap - Recommended measures to ensure that a subset of major audit contracts are only available to non-Big Four firms.

Remedy 3: Additional measures to reduce barriers for challenger firms - A few recommendations designed to ease non-big 4 firms' entry to audit the largest public companies include providing direct support to those firms by reducing barriers to senior staff moving between firms and by sharing technology among audit firms.

Remedy 4: Market resilience - Recommended approach to protecting against one of the Big 4 firms failing, further limiting choice in the audit market.

Remedy 5: Full structural or operational split - Though the CMA stopped short of suggesting a break-up of the big 4 accounting firms' audit and consulting arms or a ban on consulting services to audit clients, it is recommending a structural split between the firms' audit and consulting operations, profits and management, which would be a significant change in the industry.

Remedy 6: Peer review - Peer review of audits, commissioned by and reporting to the regulator, are recommended as a possible additional way of enforcing standards, by keeping auditors on their toes and making quality levels more visible.

Comments on the CMA report are due January 21, 2019 so this effort is still moving at top speed. Page 132 of the report provides instructions on how to respond to the proposals.

A second report, by Sir John Kingman, who was commissioned by the UK Business Ministry, said a new watchdog agency should replace the UK Financial Reporting Council (FRC). The new agency - led by new management - would oversee auditors and be given stronger powers and competition remit and be funded by the audit firms. (According to Reuters, the UK government is amenable to implementing Kingman's recommendations to replace the FRC.) 

For more information on these reports, please see below: 

GOV.UK press release

Statutory audit services market study


Wall Street Journal