Alert – Proposed audit reforms: what will change?

4 October 2011

David Bradbury, Parliamentary Secretary to the Treasurer, released an exposure draft of the Corporations Legislation Amendment (Audit Enhancement) Bill 2011 and explanatory material for public consultation on 30 September 2011. If passed, the Bill will make some important changes to audit procedures and the scope of ASIC’s audit supervision powers. In this Alert, we review the changes and update you on the next steps.

Background

The reforms proposed in the Bill arose from the March 2010 Treasury Consultation Paper Audit quality in Australia: a strategic review. The paper’s methodology was to identify the key drivers of audit quality in Australia, and then to ascertain whether any drivers were under threat.

The consultation was the first time Treasury had undertaken a measured assessment of whether Australia’s audit regulatory framework remained in line with international standards and trends, since the Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Act 2004. It was also an opportunity to see how the audit regulatory framework had fared under the particular stresses of the global financial crisis.  

The changes

 Extension of rotation period (new sections 324DAA-324DAB, Corporations Act)

The existing five year mandatory auditor rotation period will be retained. However, directors of a listed company or scheme will be able to extend the rotation period by up to two years, with the procedure for extension depending on whether an audit committee is in place.

If the listed company or scheme has an audit committee, the audit committee will be able to recommend to the directors that the rotation period be extended. The recommendation must: 

  • be in writing 
  • be endorsed by a resolution passed by the audit committee, and 
  • include the reasons why the committee is satisfied that the extension will not lead to a conflict of interest situation, and is necessary to ensure the quality of the audit.

The directors are not required to approve the extension, but any approval must be in the terms proposed by the recommendation.

If the company or scheme does not have an audit committee, the directors may approve the extension provided they are satisfied that it will not lead to a conflict of interest situation, and is necessary to ensure the quality of the audit.

In each case, director approval must not be given unless the individual auditor provides written consent to the rotation period being extended.

Once approval has been granted, the directors will be required to give a copy of the resolution to ASIC and the individual auditor within 14 days.

A listed company or scheme that extends the rotation period under section 324DAA will be required to give reasons for the extension in its directors’ report for the relevant financial year.

Transparency reports (new Part 2M.4A, Corporations Act)

The Bill introduces a requirement to publish an annual transparency report for an audit firm that conducts audits of 10 or more:

  • Australian listed companies 
  • listed registered schemes 
  • authorised deposit-taking institutions, or 
  • insurance companies.

Content requirements will be prescribed by regulations yet to be published. However, the explanatory material indicates that the requirements will include: 

  • information about the auditor’s legal structure and ownership 
  • information about the auditor’s governance structure 
  • details of when the last reviews of the auditor were conducted, whether by ASIC or as a quality assurance review by the professional accounting bodies 
  • details of the auditor’s internal procedures for quality assurance, continuing professional education and independence compliance, and 
  • names of the entities for which audits were conducted in the preceding calendar year.

Auditor independence functions (sections 225 and 225A, ASIC Act)

The Bill will remove the auditor independence monitoring function from the Financial Reporting Council. The Council’s new role will be providing strategic advice and audit quality reports to the Minister and the professional accounting bodies.

Audit deficiency notifications and reports (new Division 5A, ASIC Act)

Under the current law, ASIC regularly produces a public report aggregating the results of its audit inspection program during the previous inspection period, which may be up to 15 months. This report does not name individual firms. In a number of overseas jurisdictions, the regulator is permitted to make public disclosure regarding defects in a firm’s quality control systems (subject to appropriate natural justice protections).

In Canada, the Canadian Public Accountability Board produces a private report of findings and recommendations to an inspected firm. If the recommendations are not implemented to the Board’s satisfaction within a specified timeframe (usually six months), the Board may make relevant portions of the inspection report public.

The Bill follows the Canadian model. Under the proposed amendments, ASIC may issue an audit firm with a report that identifies any failures to comply with:

  • auditing standards
  • Corporations Act 2001 auditor independence and audit procedure requirements or 
  • applicable codes of professional conduct.

ASIC must also set out any remedial action it thinks necessary to remedy the deficiency, and invite the auditor to make written submissions to ASIC within six months regarding the deficiency and remedial action taken, or proposed to be taken, to remedy the deficiency.

If ASIC is not satisfied with the action taken by the end of that six month period, it may at any time prepare an audit deficiency report. If considered appropriate, ASIC may make that report public on the ASIC website, including the name of the relevant firm. A copy of the report must be provided to the auditor at least seven days before its publication.

Direct communication by ASIC with corporations, registered schemes and disclosing entities (section 127, ASIC Act)

Under the current law, the confidentiality provisions in section 127 of the Australian Securities and Investments Commission Act 2001 prevent ASIC from communicating directly with an audited entity if significant matters are identified in the course of an ASIC inspection or surveillance.

The Bill will remove this restriction and allow ASIC to disclose information to the directors, audit committee or senior manager of an audited entity regarding:

  • the audit’s conduct
  • compliance with the Chapter 2M requirements to prepare financial reports, or 
  • compliance with the continuous disclosure requirements in sections 674 and 675 of the Corporations Act 2001.

ASIC may only disclose information that has been obtained in the exercise of its functions and powers in relation to audit.

Next steps

If the Bill is passed, the amendments to the Corporations Act 2001 will commence on the 28th day after Royal Assent. The Bill’s amendments to the Australian Securities and Investments Commission Act 2001 will commence on Royal Assent.

Treasury has invited interested parties to comment on the draft Bill, which is open for comment until Friday, 28 October 2011. Information regarding the consultation is available on the Treasury website. Given the consultation period, it is doubtful that the amendments will become effective before early 2012.

Author(s) Robert Austin, Carolyn Reynolds