“Quality” should top auditor selection criteria | KPMG | CA

“Quality” should top auditor selection criteria

“Quality” should top auditor selection criteria

Fee hunting can blind audit committees to the quality imperative

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“Quality” should top auditor selection criteria

Audit fees have become a major issue on numerous, sometimes contradictory, fronts for audit committees. As companies look to constrain their costs, including the cost of an audit, auditors on the other hand are dealing with increasing regulatory audit requirements that consume more and more time and resources. For Canadian audit committees, that inherent conflict between reducing costs and ensuring a high-quality audit becomes a front-and-centre challenge when their organization is contemplating, or required, to change its audit firm, as the committee is responsible for both auditor selection and fee approval.

In the current economy, where many companies are struggling to thrive, management is justifiably concerned with reducing costs in as many areas as possible, including audit fees. As such, there is also a clear corresponding audit committee oversight responsibility—as part of its mandate to act in the best interests of the organization—to help ensure fees are kept under control.

At the same time, good governance and regulatory necessity require audit quality to be maintained at as high a level as possible. Audit committees must walk a fine line between cost and quality during the auditor selection process.

Putting quality first

The tide is clearly turning toward audit quality as the selection process’s defining criterion, a development stemming largely from the discourse surrounding auditor rotation requirements in the EU. Audit firm rotation is not mandatory in Canada and it remains uncertain whether it is the global wave of the future or not. Nonetheless, “fee-blind” audit tendering, an approach gaining support as a way to ensure that audit quality is the key decision driver in choosing a new audit firm, is emerging as a best practice all audit committees should consider when faced with the selection process.

The fee blind tendering process involves first selecting the audit firm and team assessed as having the best qualifications to serve as auditors—without taking into account, or even seeing, any fee information—and only after that preliminary selection, negotiating a market-competitive fee with that firm. The premise is that, though still consistent with the responsibility to manage fees effectively, auditor selection shouldn’t hinge entirely, or even principally, on cost. Key elements such as experience, cultural fit, relevant geographical reach, sector experience, reputation, clientele, and tools and methodologies all become part of the decision, with the overall demonstrable ability of the candidates to deliver the highest quality audit serving as the key determinant.

Only then does the process turn to negotiating a fair and appropriate fee, with reference to past fees, market information on fees paid by comparable firms, etc. This approach sends a strong message to management—and the audit firm—of the importance the audit committee places on the quality of the audit.

Support for the fee blind tendering process, while far from universal, appears to be growing. Certainly, a lot of the debate is occurring in Europe where regulations make it an ongoing concern. Yet, given the rising rate of approval, Canadian audit committees may want to consider its best practice potential. Paul Beswick, former chief accountant at the Securities and Exchange Commission, suggests as much, adding a pointed caveat on the dangers of fee hunting:

“The bottom line should not drive the decision to retain and/or hire an auditor. Moreover, if the audit committee is solely fee hunting and if there was a subsequent audit failure, this may raise questions about the diligence of the members of the audit committee in fulfilling their responsibilities.” [1]

Multinational banking giant Barclays used a fee blind process when it put its audit out to tender in fulfillment of UK auditor rotation regulations. Barclays’ description of its tender process notes that proposals were evaluated “on a ‘fee blind’ basis, i.e., the fee information was not seen either by Management or the Board Audit Committee before finalizing their recommendation.” [2]

Key audit committee questions around auditor fees and audit quality:

  • Have we conducted an assessment of our current fees and discussed them with the auditor, taking into account all aspects of the relationship?
  • Have we asked our auditor to provide us with an analysis of competitive fee data based on publicly-disclosed fee information?
  • Do we fully understand management’s position on audit fees and what they feel audit value should comprise?
  • Is the question of audit fees overshadowing quality in our auditor tendering and selection process?

Rebalancing the equation

Whether or not fee-blind auditor selection is ultimately widely adopted as an audit committee best practice, it is always imperative to find the balance between fair fees and audit quality. The cost-quality dichotomy, however, may not be as cut and dried as it appears. Experienced directors recognize that, in times of economic volatility—when cost control moves to the top of the corporate agenda—the need for audit quality only increases.

[1] U.S. Securities and Exchange Commission, December 9, 2013. “Remarks at the AICPA 2013 Conference on Current SEC and PCAOB Developments,” by Paul Beswick. Accessed at http://www.sec.gov/News/Speech/Detail/Speech/1370540488257 on February 2, 2016.

[2] Barclays. “Audit Tender Process Overview,” July 3, 2015. Accessed at https://www.home.barclays/content/dam/barclayspublic/docs/AboutUs/Corporate-Governance/Audit%20Tender%20-%20Process%20Overview.pdf on February 26, 2016.

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