Fury over change
It’s not often that emotions run high in the relatively staid world of auditing, but a new rule intended to protect investors has sparked a furious behind-thescenes battle that may yet end up in the constitutional court.
A few weeks ago the Independent Regulatory Board for Auditors (IRBA) revealed that it would implement a mandatory audit firm rotation, essentially forcing companies to change auditors every few years. It’s a practice used in European countries, where audit firms must be changed every 10 years.
Bernard Agulhas, CEO of the regulator, says the aim is nothing more than to ensure auditors are properly independent from the companies whose accounts they sign.
“If auditors aren’t properly independent and are too cosy with their clients, the audit quality will be compromised, and shareholders will not have confidence in the information reported. This change will also allow for transformation as smaller auditors can now get a foot in the door,” he argues.
If tenure alone diminishes independence — an assertion that seems intuitive, but has yet to be established as fact — the statistics are worrying.
Naspers, for example, has used the same auditor, PwC, for more than 90 years, paying it R117m last year. AngloGold Ashanti has used Ernst & Young (EY) for 72 years, paying it R101m last year.
But some corporate heavyweights have taken issue with the regulator’s decision, saying the process to push through the new rules is inherently flawed.
Prof Mervyn King, the former judge who has given his name to SA’s governance codes, doesn’t pull any punches, describing it as a matter of grave concern.
“I fully support the quest for transformation, but these rules aren’t the correct tool to achieve this. Our audit quality is among the best in the world, our corporate governance is the best. Anything that interferes with this can only be adverse.”
King argues that there are more than enough safeguards in SA’s existing rules to ensure are independent, including the requirement that the partner in charge of auditing a company’s financials is changed every five years. In addition, he says, the Companies Act stipulates that shareholders must appoint the audit committee, which then has to ensure that auditors are independent.
He also says the IRBA didn’t do proper consultation before simply announcing the audit firm rotation as a fait accompli.
“Constitutionally, there should be consultation. But the IRBA certainly hasn’t consulted as legally required with the Institute of Directors and King committee on this. So there may well be a legal challenge on this front,” he says.
Agulhas, however, says there has been plenty of consultation over the past year.
“I must say, the opposition to this has surprised me. We had numerous submissions which our board considered before [going ahead], including from the Institute of Directors, the SA Institute of Chartered Accountants and the JSE.”
It has proved a heated tussle, with some of the companies lobbying Pravin Gordhan’s finance ministry to block the move — to no avail. With no other options, their last remedy may be the constitutional court.
Justifying the change, Agulhas points to worrying research that shows that 18% of the financial directors of the Top 40 JSE-listed companies previously worked for that company’s external auditor, either in a senior position or as a partner.
Equally, 25% of the audit committees of JSE-listed companies are chaired by someone who previously worked for that company’s external auditor.
“That creates a conflict, or, at the minimum, a perceived conflict. There are some very cosy relationships that pose a possible danger for investors, and it’s our job to protect those investors,” he says.
However, Lwazi Bam, Deloitte’s local CEO, says the IRBA hasn’t been transparent about where its numbers come from. “[Agulhas] refers to research he’s done suggesting that auditors lack independence, but he hasn’t shared that with us. Where’s the transparency?” he asks.
Bam says the evidence just doesn’t show unequivocally that if a finance director of a JSEauditors listed company once worked at Deloitte, for example, he’ll be less independent than someone who never worked there.
“We should be clear about what it is that we want to address, is it auditor independence or is it transformation? If it is transformation, we don't believe that this is the instrument to use. Though we are not where we want to be in terms of transformation, we have made great strides.”
Bam says that if shareholders were to raise the same concerns about independence, it would be different, “but no investors we’ve spoken to believe this is the best way to do things”.
When it comes to the slack pace of transformation and the dominance of the big four auditors, the IRBA seems to have a point. Clearly, there’s heavy concentration: PwC audits 47% of the JSE-listed firms; Deloitte 21%; KPMG 11%; and EY 13.8%. And three-quarters of audit partners signing off JSE-listed companies are white, while only 3% are black.
“That’s a big concentration,” says Agulhas. “What happens if one of those big auditing firms fails? Who will step in? It happened with Arthur Andersen and Enron. As the regulator, we need to do what we can do to provide opportunities to new entrants to gear up for entry.”
Victor Sekese, CEO of blackowned audit firm SizweNtsalubaGobodo (SNG), says the rules will certainly help smaller companies. “It’s like having a family doctor: most companies stick with a doctor who knows their history. So market access has been pretty difficult for us. These new rules could certainly open up the market to the smaller guys,” he says.
Not that SNG would count as a “smaller guy” any more; it has a client list that includes healthcare company Aspen, MTN and Pick n Pay franchises.
But on the issue of whether these rules are necessary to boost the independence of auditors, Sekese says it is “arguable”.
“Look, many people are arguing that we have a pretty solid regime which monitors the