The Secretary
Parliamentary Joint Committee on Corporations
and Financial Services
Room SG.64
Parliament House
CANBERRA  ACT  2600

17 November 2003

Dear Madam,

CLERP (Audit Reform & Corporate Disclosure) Bill

The Association of Chartered Certified Accountants (ACCA) is pleased to have this opportunity to respond to the legislative proposals contained in the recently published CLERP (Audit Reform & Corporate Disclosure) Bill.

ACCA is the largest and fastest-growing international accountancy body.
Over 300,000 students and members in 160 countries are served by more 
than 70 staffed offices and other centres. ACCA's mission is to work in the public interest to provide quality professional opportunities to people of ability and application, to promote the highest ethical and governance standards and to be a leader in the development of the accountancy profession.

I set out below our comments on various aspects of the proposed legislation. An Annex to this letter contains our responses to the accounting and audit related “issues” questions posed in the Commentary paper.

In general ACCA finds much to support in the draft legislation. 

•	We welcome the proposals for independent oversight of the audit profession under the Financial Reporting Council and to establish a Financial Reporting Panel (though we think the name of this latter body could usefully be amended to reflect the “dispute resolution” nature of its activities).

•	Likewise, we support the proposal to introduce a proportionate liability regime for auditors. This will ensure that auditors are answerable for their own mistakes but not for the full consequences of a corporate failure where management and others may have played the major role.  

•	ACCA also welcomes proposals to allow audit firms to incorporate. 

•	The proposed changes to listed company reporting, such as the requirement to publish an Operating and Financial Review with a wide range of financial and non-financial information are welcome, and will bring Australia into line with best practice around the world.

•	We strongly support the proposal for investors to register non-binding votes on executive salary packages and company pay policies.  Such an approach encourages ordinary shareholders to attend AGMs and vote and also gives institutional shareholders a platform on which to flex their muscles. 

We do, however, have some concerns regarding specific aspects of the proposed legislation.

Auditor independence

•	A cooling off period of up to two years before an audit partner can go to work for a client is accepted international practice and, we believe, provides an effective safeguard against conflicts of interest. A four year ban, as the bill proposes, on both retiring partners and professional members of audit teams is unnecessarily restrictive and could well deprive companies of access to much needed specialist skills. 

•	The proposal to place a limit (of one) on the number of former audit partners who can be employed as a director or senior manager of an audited body seems particularly onerous in the case of multi-national companies.

•	With regard to the employment by an audit firm of a former employee of an audited (i.e. audit client) body, we believe that any prohibition should be restricted to officers and senior management of the audited body (i.e. “audit critical employees”. At present the word “employee” is used (on P 45 of the Commentary), thus casting a total prohibition net which would capture even junior administrative employees.  

•	We understand that an “audit firm’s rotation obligation” refer to the obligation to rotate audit partners at specified intervals and not to a general obligation on the client to rotate audit firms. Nevertheless, we feel that this distinction needs to be made more clearly. While we support the general principle of audit partner rotation, we believe that consideration should to be given to the impact of partner rotation requirements on the abilities of small and medium sized practices operating in remote or rural areas to service their clients effectively.

•	ACCA supports the requirement for audited bodies to disclose details of non-audit services and the related fees on a line-by-line basis. It is important, however, that appropriate comparative information is provided so the users of financial statements can make an assessment as to how the balance of audit to non-audit fees have changed over the years. This sort of information would be necessary if a shareholder wanted to ask an informed question on the matter at the AGM.

•	We understand the reasoning behind the suggestion (at 211. in the Commentary) that all directors (rather than just the audit committee) should put their name to the statement as to whether non-audit services threaten independence, but we suggest that this argument invalidates or nullifies a key role of the audit committee. Although we think that it is generally the responsibility of the audit committee to advise the Board on non-audit services, in order to put their names to such a statement, some non-audit committee directors might consider that they should have access to the same level of information as the members of the audit committee.

Financial reporting

•	We endorse the proposals to establish a Financial Reporting Panel. As noted above, we believe there is a case to be made for amending the name of the body so as to more clearly identify its mission. Thus, in the UK the equivalent body is called the Financial Reporting Review Panel.

•	We note that there have been suggestions that the remit of the proposed Financial Reporting Panel should be extended to cover dispute resolution activity at the pre-accounts publication stage. We support the current intention to limit the Panel’s activities to resolution of disputes or investigation of complaints subsequent to publication. We feel that to do otherwise could be potentially detrimental to the auditor’s duty to make objective professional judgements regarding the application of particular accounting policies and treatments. 

•	We support the proposals for a mandatory Operating and Financial Review statement but we are disappointed that the proposals have not followed the UK approach to this issue and so fail to mention the need to ensure that Boards take issues of corporate social responsibility (CSR) into account when formulating the OFR statement. There is a global trend towards encouraging greater CSR and better standards of transparency. Institutional investors are also beginning to see CSR as a major aspect of corporate reputation and hence value. The Operating and Financial Review statement is a useful vehicle for encouraging the CSR trend and responding to a growing demand for reassurance on CSR issues.

•	Unlike the provisions of the Sarbanes Oxley Act, the CLERP 9 proposals for CEO/CFO sign-off on the financial statements presented to the Board make no mention of representations regarding the effectiveness of systems of internal and financial control.  Were it to be introduced, we believe that such a requirement would add significantly to the costs of audit

Directors remuneration

•	Concerns about excessive executive remuneration will not be resolved solely by ex-post disclosures of the sort proposed in the Bill. The market would prefer to have prompt disclosure of remuneration (and pension) packages at the time they are entered into, supported by disclosures which index executive pay to normalised measures such as average employee earnings or A$ value added /A$ economic value added. It is through means such as these that concerns regarding excessive remuneration and “reward for failure” are best addressed.

•	ACCA does not believe, however, that shareholder activism will be stirred by executive pay disclosures alone. Investors are more likely to become active when they can see that there has been a clear failure to apply generally accepted principles of corporate governance. CLERP 9 endorses the benefits of shareholder activism but only suggests limited solutions.

Red tape, the culture of compliance and legislation vs. codes as a solution to the problem of market confidence

We observe that CLERP 9 seems intent on putting into law issues which, in other jurisdictions, are often dealt with in professional codes of ethics and independence, in corporate governance codes of practice endorsed by national listing authorities or in the Terms of Reference and due process procedures of bodies such as national accounting and auditing standard setters. 

The threat of on the spot fines of up to $1 million for breaches of continuous disclosure laws could lead to companies spending considerable time and resources ensuring that they meet the letter of the new law rather than on ensuring profitability. This may lead to more emphasis on compliance and less emphasis on competing for international markets.        
 
The so-called “culture of compliance” encouraged by the Bill is actually a double-edged sword: compliance is vital but it should never stifle innovation (as opposed to creativity) in financial reporting, the exercise of professional judgement in forming an audit opinion or entrepreneurship itself.

We would be happy to discuss with you in more depth any of the issues arising in this response.

Richard Francis
Head of ACCA Australia and New Zealand

Annex

Responses to the accounting and auditing related “issues” questions posed in the paper “Commentary on the Draft Provisions”

Issue 1.1 Does proposed paragraph 224(aa) adequately express the role auditing standards should be playing in Australia’s financial reporting system?

Auditing standards provide guidance on non-Corporations Act engagements as well as non-audit assurance engagements. These issues are not addressed by para 224 (aa). Auditing standards also play an important role in achieving an appropriately high level of quality assurance. This aspect seems to be missing from para 224(aa) at present.

Issue 1.2 Proposed section 227B is silent about the ability of the AUASB to formulate standards to be used for assurance engagements and to develop guidance material for auditors performing audit and assurance engagements. Comment is sought on whether AUASB needs to be given such functions.

The distinction between “making” and “formulating” auditing standards as proposed is a fine one. There may be situations – for example with respect to specific industry sectors – when it may be appropriate for the AuASB to formulate a new standard. AuASB should be given this ability.

Issue 1.3 – proposed section 227B(1) does not confer on AUASB the function of developing a conceptual framework for the purpose of evaluating proposed Australian and international auditing standards. Comments are sought on whether the AUASB needs to be given such a function.

Any standards organisation such as the AuASB will need to have either a framework or a set of criteria for evaluating the necessity of engaging in the making or formulating a standard. It seems unnecessary, however, to write such a functional necessity into statute law.
 
Issue 1.4 Comments are sought on whether the Working Party’s hours-based proposal should be adopted or whether the more general years-based requirement currently set out in the regulations should be retained.

We do not see that moving towards an hours-based approach provides any additional guarantee that the prospective registered auditor has obtained the appropriate and relevant practical experience.

Issue 1.5 Where the Board decides to take disciplinary action against an individual, under subsection 1296(1) of the Corporations Act, a notice setting out the decision must be lodged with the ASIC and also published in the Gazette. Further, pursuant to section 1274, a document lodged under subsection 1296(1) may be inspected. Comments are sought on whether, in addition to the information disclosed under S 1296, the notice should disclose details of the firm, where the individual subject to disciplinary proceedings is the (a?) member of a firm?

The experience of the Andersen demise must imply that there are potential reputational risks associated with expanding this disclosure requirement when it is the individual rather than the firm who is subject to the disciplinary action. ACCA does not, however, feel that it will be possible in practice to isolate a member from association with his/her firm name.

Issue 2.1 Some stakeholders have suggested that the FRC should oversee the operations of the FRP. Comments are invited on potential oversight arrangements for the FRP.

We can see benefits and drawbacks attached to almost all the possible oversight combinations. By placing accounting and auditing standard setting alongside FRP-type activity under the auspices of the FRC, one creates an easy to understand and easy to administrate model of oversight. Critics, however, may argue that the FRP needs to be independent of the standard setters if it is to have any real teeth. By putting the FRP closer to the ASIC, however, one runs the risk of turning the FRP into a policeman rather than, as we would prefer it, an arbitrator. On balance we should prefer that the FRC, which has been established as an independent and wise oversight body, has ultimate responsibility for the FRP.

Issue 2.2 Comments are sought on whether a company should also be allowed to refer a matter to the FRP, where there is a dispute between ASIC and the company regarding the company’s application of accounting standards in its financial report.

We have commented above that we see the role of the FRP as one of arbitrator on matters of the appropriateness or otherwise of the accounting treatments and policies adopted. Whilst we do not support pre-publication arbitration between client and auditor (which might lead to something akin to “opinion shopping”), we can see merit in the FRP being required to act in the event of a dispute between a reporting company and ASIC. 

Issue 4.1 Comments are sought on whether the Bill should provide protection in relation to disclosures made regarding contraventions of other legislation

It is reasonable that protection should be extended to disclosures made regarding breaches of all legislation which are administered by ASIC, together with those which have a direct impact on market information.  A list of the Acts are provided in ASIC's website, including the registration of auditors and the disqualification of directors.  These should be brought under the scope of protection rendered to personnel in relation to disclosure of breaches.

Issue 7.1 Should the issuer be allowed to withdraw the notice? Should the issuer be able to lodge a supplementary notice to replace the original notice? Should the issuer have access to a range of defences for a notice that is false, misleading or omits relevant information?

It is regarded reasonable to allow the issuer to withdraw the notice under Section 708A(9) where it is considered that the notice will mislead the market. The issuer should also be able to lodge a supplementary notice to replace the original notice, within a certain prescribed period subsequent to the first notice, if it is deemed that the replacement notice can better inform the market.

The issuer should have access to a range of defences, which must be proven, that such error was made in good faith and that the issuer has exercised caution and diligence in arriving at the information.  

Issue 7.2 Under S 719 a person may lodge a supplementary or replacement document with ASIC. Should the contemporaneous prospectus under para 708A(10)(b) make it clear that the supplementary or replacement document provisions continue to apply?

It is prudent to make it clear that the supplementary or replacement document is a replacement document under para 708(10b), with reasons for the replacement to be made.