Audit firms are seriously embracing fundamental change and improvements of the preconditions for increasing the quality of their statutory audits and thereby acting more in the public interest. This is the finding of the review by the Netherlands Authority for the Financial Markets (AFM) of the design of the measures audit firms are implementing in order to change their culture, organisation and processes in order to raise the quality of their statutory audits.
The review also shows that the five largest audit firms (the so-called Big 4 and BDO) are leading the way in the elaboration of these measures into vision, policy and procedures. These five audit firms perform approximately 60 per cent of all statutory audits in the Netherlands. They have made the most progress with an approach designed to effect a change in governance, culture and behaviour. They are followed at some distance by three other audit firms that conduct statutory audits of public interest entities (PIEs), while one audit firm is seriously lagging behind. Next year, the AFM will assess whether these organisational changes have actually been effected.
Following our critical report on the quality of audits last year, these audit firms and the sector as a whole publicly stated their commitment to improve
Review findings give assurance
Gerben Everts, an Executive Board Member at the AFM: “This report gives assurance. Following our critical report on the quality of audits last year, these audit firms and the sector as a whole publicly stated their commitment to improve. The audit firms have subsequently indeed made a start on strengthening the preconditions for improved quality.
One year later, and especially at the five largest audit firms, we are seeing the positive results of this initiative. While there are still items requiring attention, we expect this sounder organisational structure and culture to lead to improved quality. The progress at smaller firms is still variable, and they need to go further.”
Observations and conclusions shown in dashboard with scores
The AFM is monitoring the implementation of the improvements. Between April and September 2015, the AFM carried out reviews at audit firms licensed to audit PIEs. The review included Accon avm, Baker Tilly Berk, BDO, Deloitte, EY, Grant Thornton, KPMG, Mazars and PwC.
The AFM considered various issues, such as the governance of the audit firm (the management and internal supervision) and whether the public interest is the leading consideration in the firm’s culture, conduct and processes. The AFM also looked at the transparency of the audit firms towards their stakeholders and the extent to which the networks of these organisations influence quality.
The AFM has listed its observations and conclusions regarding the design of the improvement measures in its ‘Dashboard 2015 Changes and Improvements’. It awarded a score of 5 to firms that completely satisfied the expectations formulated for 2015 in all respects. A score of 1 was allocated to audit firms that failed to do this.
Greater awareness of the importance of culture and behaviour
The PIE audit firms are more aware of the importance of culture and behaviour in the realisation of their quality targets and as the basis of sound quality control that should ensure good audits.
Most PIE firms however still have to make further efforts in developing or addressing issues relating to behaviour and culture. For example, they need to form a more practical idea of the quality-oriented culture that they intend to achieve. In order to achieve this culture, it is also important that they adequately understand the already existing culture, for example by measuring this culture.
Nearly all audit firms have taken measures to strengthen their governance and the structure of their supervisory board. Some audit firms however still need to formulate the preconditions for their supervisory board in more detail. This concerns issues such as allocating specific powers to the supervisory board that previously were allocated to the shareholders meeting or partners meeting. Other issues include the development of practical expectations for time allocation, the available knowledge, experience and authority and the independence of the supervisory board members.
Measures from the report ‘In the Public Interest’
The AFM also assessed the progress made by the PIE audit firms in the implementation of measures from the NBA report ‘In the Public Interest’. This involved a review of 25 measures for which the initiative for implementation rested partly with the PIE audit firms. The PIE audit firms have shown serious commitment in this respect. Similarly to the scores in the Dashboard 2015, the five largest audit firms are leading the way, followed at some distance by the other PIE audit firms.
Follow-up in 2016 and 2017
With this review, the AFM has obtained insight into the design of the change and improvement measures at PIE audit firms. On this basis, the AFM will engage in consultation with these organisations regarding the progress and intensity of the change process. The AFM will also discuss whether additional measures are needed.
From 2016, the AFM will also review the ‘operating effectiveness’ of the improvement measures, namely whether the vision, policy and procedures have been introduced and are observed in practice. If it emerges that audit firms are not making adequate progress, formal enforcement measures may ensue.
The AFM moreover conducts regular inspections of the quality of the statutory audits performed by PIE audit firms. The next report on the quality of the audits performed by the Big 4 audit firms is expected to be published in the second half of 2016. In 2016 the AFM will start to carry out suitability checks of all existing and new executive and supervisory board members at PIE audit firms. The AFM will also naturally consider the roles that these persons fulfil in the change processes at the PIE audit firms.
The AFM is committed to promoting fair and transparent financial markets.
As an independent market conduct authority, we contribute to a sustainable financial system and prosperity in the Netherlands.