“The process of mandatory audit firm rotation (MAFR) is costly and will result in the promotion of a sales culture, rather than a focus on innovation and sustainable investment in audit quality,” says Michael Oddy, the partner in charge of audit at KPMG in South Africa. Moreover, he adds, it will have a negative impact on the audit profession.
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The Independent Regulatory Board for Auditors (the IRBA) is proposing to introduce MAFR for listed companies, effective 1 April 2023, to strengthen the independence of audit firms from their clients. Michael does not agree that this goal will be achieved. He says: "It will be disruptive to audit firms and companies and costly for companies to enforce. It will also disempower audit committees, which are better qualified to independently evaluate the re-appointment of incumbent auditors."
Like other firms, KPMG is of the opinion that the Companies Act should be amended if MAFR were to be introduced, as a change in the IRBA code only binds auditors and not their clients, who would have to go out to tender. "A change to the IRBA code would also not allow for an appropriate public consultation process and therefore all affected parties will not have sufficient opportunity to have their views considered before a decision is taken."
Michael feels that current measures to ensure audit independence are sufficient, with audit committees nominating independent auditors and including a statement in the annual financial statements confirming the independence of the auditor through a formal annual assessment of auditor independence.
"The audit committee culture is deeply entrenched in South Africa and a mature audit committee culture is one of the reasons that the South African profession has been rated number one in the world for seven years running by the World Economic Forum. This is a strong mechanism for ensuring the independence of auditors."
Undermining audit committees
According to KPMG, the regular external inspections of audit firms by the IRBA have resulted in fundamental and positive changes to audit firm oversight and an improvement in audit quality. Besides that, other regulators like the PCAOB and the JSE have instituted stringent accreditation requirements for auditors.
"It is already an IRBA requirement to disclose the number of years that an audit firm has served a client. In addition, audit partners are rotated every five years in accordance with the Companies Act. This provides for a fresh pair of eyes and reinforces independence. MAFR would undermine the audit committee's ability to select the best auditor for the job and determine whether changing auditors is in the best interests of the company and its stakeholders."
According to Michael, it can sometimes be important to retain an incumbent auditor. "For example, when there are major changes underway at a company like a merger, acquisition or implementation of new financial software."
Market concentration will also not be addressed by MAFR, Michael warns. He says that experiences in the UK and Europe suggest that whenever the audit firm is changed, the audit is awarded to another large firm, which services the same sector. He also cites Danish research which concludes that MAFR, if implemented, may actually weaken competition as companies gravitate towards a large firm upon rotation.
"For multinationals, appointing an audit firm that can perform their audit in all countries in which they operate is of paramount importance. This makes it unlikely that many multinational companies would move their audits away from larger firms, especially where a local firm is unknown in the home market of the multinational."
Complicating global audits
For international firms, Michael sees more problems on the horizon. "Imposing MAFR on a South African company that is part of a global group - either as a head office or component, or dual listed - could further complicate the global audit if different rules apply to different components operating in different jurisdictions."
A significant number of countries around the world including the United States, Australia and Japan have considered and rejected the implementation of MAFR as a means of enhancing auditor independence. The recent implementation in the EU is also likely to be reviewed.
