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PwC's Poynter hits back on audit choice and liability cap. By John Stokdyk

13th Sep 2006
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Kieran Poynter, in the chairman's statement of this year's PricewaterhouseCoopers annual report, published some forthright comments on the competitive scenario for large company audits.

Coincidentally, the annual statement was published the day after the Financial Reporting Council published its own briefing paper on 'Choice in the UK audit market'. In a section entitled, "Is four enough?", Poynter offered his own suggestions for the FRC and other regulators to consider, with an added plea to investment fund managers to stop sniping at the Big Four and back calls caps on auditors' liability.

The following is an extract from Poynter's statement. PwC's full 2006 annual report is available online.

Is four enough
There has been considerable interest in recent times in the question of whether there is adequate choice available to very large organisations requiring independent audit. This question arises in many developed economies in the world where typically four large firms conduct the audits of most of the larger enterprises. It is an issue which is presently the subject of public consultation by the FRC.

This question is only about choice. It is not about competition; it is quite clear that there is vigorous competition in this market sector. Nor is it a question about audit quality. Each competitor in this market is focused on quality far more by their professionalism and by the consequences of failure in terms of reputation and cost than any consideration of choice or competition. Furthermore the independent inspection of audit quality by regulators here and elsewhere is an effective mechanism for assuring audit quality. On the other hand any change in the regulatory environment must be driven by quality considerations above all others.

The FRC is also considering whether actions should be taken to reduce the risk of a reduction from four to three or less in the number of firms providing audit services to very large enterprises. Such a reduction could of course be voluntary or involuntary.

My view is that there are two specific things that regulators here and elsewhere could do now that would substantially reduce that risk.

First, regulators could promote legislation to introduce statutory capping of the liabilities associated with audit failures. Such a cap could be set at a level that hurts the firm concerned and incentivises audit quality but avoids the insolvency of the firm. This step would also encourage some of the smaller firms to compete for the audits of larger enterprises.

Second, regulators worldwide could make it clear now that they will not allow further consolidation amongst the Big Four even in the event of the loss of an important member firm in one of those networks. In such a circumstance, the relevant network would need to make arrangements to fill the gap and the regulatory environment should facilitate this. If such a policy decision were to be taken, regulators should promote the necessary legislation to create the powers to give effect to it.

More generally, as regulators develop their approach over time they should consult with the profession and the market to ensure that regulatory change does not inadvertently cause reduction of choice, either by disqualifying firms in certain cases or provoking firms to withdraw from the most difficult, risky or otherwise unattractive sectors or clients.

Ultimately, we should have confidence in the marketplace and rely on it to bring about change if indeed change is wanted. Here there is an important opportunity for the fund management sector to play a role. After all it effectively carries the proxy of individual investors whose interests are served by reliable audited financial statements. Later this year we expect Parliament to approve the Government's proposals, which we welcome, to allow companies and their auditors to agree on a limitation of liability subject to shareholder approval.

Fund managers should vote in favour of such proposals and thereby reduce the likelihood of partial or total withdrawal from the more risky audit sectors by one or more big four firms and remove one of the barriers to entry by the mid-tier firms into this part of the market. Fund managers should also add their voice to support the emerging view in Europe and elsewhere that statutory capping of auditors' liability will serve to enhance audit quality by enabling the profession to recruit and retain the best and brightest people to serve as auditors.


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