Auditor independence issues are complex. Set out below is an overview of the issues, followed by a list of key documents that consider them in more detail, including links to articles and research documents.
Company financial reporting is key to the efficient and effective operation of capital markets. A critical element is the quality of the audit, and auditor independence is one of a number of important blocks on which that quality is built.
ICAEW believes that:
We advocate a framework approach that:
In short, it represents a more rigorous means of ensuring auditor independence than the rules based approach favoured by many commentators and regulators, particularly in the US.
Under a framework approach:
The framework approach is considered the most appropriate to adopt as:
When a large company fails, the quality of the audit is often called into question. Typically, the accusation is made that the auditors have allowed inappropriate accounting treatments because their independence has been compromised by the non-audit fees payable to them.
We believe this sets an artificial distinction between the value of income from different sources. Ultimately, as long as audit appointments and fees are determined by the company being audited, the auditor can never truly be economically independent of the client. That is why there are broader codes of conduct which govern the relationship between both parties. Thus, rather than impose an artificial restriction on the types of income an auditor is allowed to generate from a client, ethical guidance in the UK stipulates that income from any one client, for whatever service, is kept to no more than a certain proportion of that firm's overall practice income. That way, dependence on the client cannot be reduced to levels at which the auditor's decision could be influenced by financial considerations.
The guidance also details the kinds of threats to independence which may arise during an audit and the corresponding safeguards which should be adopted to avert them. Both should be explicitly considered and documented where an audit client has offered non-audit work. Moreover in some instances, for example the promotion of the shares of an audit client, insurmountable conflicts of interest arise. In such cases the activity is prohibited.
Responsibility for ensuring auditor independence does not rest exclusively with the auditor however. The Combined Code on corporate governance requires audit committees, as representative of the shareholders, to oversee the relationship with the auditors and, inter-alia, keep the nature and extent of non-audit services under review. Their task is assisted by a UK Auditing Standard on quality control, which requires that with listed companies, the partner responsible for the audit in any given case must confirm the audit firm's independence in writing to the audit committee, including arrangements for ensuring this independence remains in place when non-audit work is undertaken.
In addition, shareholders themselves are able to assess the extent of non-audit services provided by auditors. The Companies Acts have for some year required the total amount on non-audit fees paid to auditors to be disclosed.
We believe that unnecessarily restricting the provision of non-audit services would have an unintended, adverse effect on the underlying quality of the audit through restrictions in knowledge and skills. Read further discussion of this issue.
Thus, in summary, assuming no undue overall economic dependence results from the auditor/client relationship and adequate safeguards can be implemented, we believe that companies themselves should determine whether they use auditors for non-audit services, in consultation with the profession's guidelines. The mechanisms are in place to allow this to happen.