Home > Reports > FRC Report on Auditor Independence 2006-07

4. Compliance with audit-related disclosure requirements

The FRC is required by the ASIC Act to monitor the overall compliance by companies, registered managed investment schemes and disclosing entities with audit-related disclosure requirements of the Corporations Act and the accounting standards.

Level of compliance

In its 2005-06 independence report, the FRC indicated that in 2006-07 it would continue the work of earlier years by reviewing, and analysing, the level of compliance with audit-related disclosure requirements by considering the information provided by the MOU bodies.

The MOU that the FRC has entered into with ASIC provides for ASIC to give the FRC regular reports identifying matters arising from its financial reporting or auditor surveillance activities in relation to compliance by auditors and companies with the independence disclosure requirements in Part 2M.3 of the Corporations Act. The MOU with ASX also provides for that body and the FRC to exchange information.

ASIC has informed the FRC that, as part of its 2006-07 financial reporting surveillance programme, it reviewed 381 financial reports of listed entities with financial years ending between 30 June 2006 and 31 May 2007 (both dates inclusive). As part of that review, ASIC considered the following audit-related disclosure issues:

• Did the directors’ report include (including by way of cross-reference to an attached document) an auditor’s independence declaration?
• Did the auditor’s independence declaration contain any exceptions?
• Did the directors’ report include details of non-audit services where there was an indication that such services were provided?
• Did the directors’ report include details of non-audit services where it appeared that such services were provided and, where there were details of non-audit services, did the directors’ report include an unqualified statement that these services had not affected the auditor’s independence?

The results of ASIC’s review showed that the majority of financial reports complied with the auditor-related disclosure requirements examined as part of the review. There were, however, a small number of financial reports that failed to comply with these disclosure requirements. One entity failed to include an auditor’s independence declaration and there were minor exceptions in the declarations for two other entities. The directors’ reports of five companies were identified as failing to disclose non-audit services where it appeared that such services were provided and/or did not include an unqualified statement that non-audit services had not affected the auditor’s independence.

In addition, ASX informed the FRC that it had reviewed financial reports filed by listed entities with ASX under the listing rules during the financial year ending on 31 December 2006. ASX’s review included an examination of the form and location of the auditor independence declarations required under section 307C and disclosed by directors under subsections 298(1) and 306(2) of the Corporations Act. The review indicated that, as in previous years, the preferred format for almost all entities was for the declaration to be presented as a separate attachment to the directors’ report on the auditor’s letter-head with a reference to the attachment in the directors’ report.

As part of its 2007-08 work programme, the FRC will continue to review, and analyse, the level of compliance with audit-related disclosure requirements by considering the information provided by the MOU bodies.

Provision of non-audit services

The FRC’s 2005-06 independence report indicated that the FRC intended doing research and analysis on the quantum of work involved in the provision of non-audit services as part of its 2006-07 work programme.

Preliminary inquiries by the FRC indicated that neither of the key bodies involved in the oversight of Australian corporate activity undertake a comprehensive review of information concerning the provision of non-audit services by the auditors of publicly listed entities. ASX, while examining compliance with a range of audit requirements including the form and location of the auditor independence declarations required under section 307C, does not analyse information about fees for audit and non-audit services except to ensure that the disclosure is made in accordance with the legal requirements. ASIC, the AQRB and the ICAA, which confined their work in this area to an examination of information for those entities whose audit working papers are examined as part of their inspection programmes, did not bring any issues to the FRC’s attention.

However, the FRC was able to review information about audit and non-audit fees paid or payable to the auditors of 84 entities, the majority of which are included in the S&P/ASX 100 index. While the FRC has not yet had the opportunity to analyse this information, having regard to the categorisation of the fees for each entity and the structure of the corporate group to which it relates, the FRC’s preliminary observations include that:

• fees for audit services represented more than 75 per cent of the total fees of the auditors of 43 entities, while the fees for these services for a further 28 entities were between 50 and 75 per cent of the total fees of their auditors;
• fees for audit and audit-related services represented more than 75 per cent of the total fees of the auditors of 55 entities, while the fees for these services for a further 20 entities were between 50 and 75 per cent of the total fees of their auditors;
• fees for other services represented more than 25 per cent of the total fees of the auditors of 10 entities (including, in the case of two of these entities, more than 50 per cent of their auditors’ total fees);
• fees for taxation services represented more than 25 per cent of the total fees of the auditors of 12 entities (including, in the case of two of these entities, one each in the ranges 50 to 75 per cent and over 75 per cent).

As part of its 2006-07 work programme, the FRC also examined IOSCO’s March 2007 report on the results of its survey on the regulation of non-audit services provided by auditors to audited companies. Australia was one of 43 countries that participated in this survey, which requested information based on regulations in place as at 31 December 2005. The IOSCO report provides analysis in the following areas:

• specific non-audit services that are permitted, restricted and prohibited for audit clients;
• the auditor independence principles and rationales that are applied in member jurisdictions permitting, restricting or prohibiting non-audit services for audit clients, particularly where there is a prevailing practice;
• the mechanisms or models for regulating and enforcing restrictions on non-audit services by auditors to audit clients;
• where there is no prevailing practice, provides perspective regarding the rationales given for different approaches.

In brief, the IOSCO report contains the following summary and general observations about the review:

• nearly all member jurisdictions regulate the provision of non-audit services in a broad sense, and most also have specific requirements of some type. In general, responsibility for regulation consists of a system that includes a legislative office, securities regulator, auditor oversight board, professional body or some combination of such bodies;
• 88 per cent of respondents regulate non-audit services by setting out principles that, when applied, determine which non-audit services are prohibited;
• over 90 per cent of respondents indicate that legislation and securities regulators have a role with regard to the form or development of auditor independence regulations while all respondents indicate that the rules of local professional bodies are considered in promulgating auditor independence requirements;
• most respondents indicate that the regulation of non-audit services is based on a principles-based approach, with principles most often relating to services that are prohibited rather than those that are permitted;
• 75 per cent of respondents use all or part of the IFAC Ethics Code in some way in establishing independence requirements.

In 2007-08, the FRC proposes to undertake research into the quantum of fees received by auditors of audited entities for audit and non-audit services provided to those entities. The FRC is also of the view that further research on this issue should be undertaken at periodic intervals for the purpose of monitoring trends in the levels of fees received by auditors for audit and non-audit services provided to audited entities.