Australia: Auditor Independence Moves Closer to Reality

The Corporate Law Economic Reform Program ( Audit Reform and Corporate Disclosure) Bill 2003 was introduced into Parliament on December 4, 2003. The Bill is the culmination of several years' work.

The Bill deals with various aspects of corporate governance, the most notable being the introduction of provisions relating to auditor independence.

There were two other corporate governance related developments in the past two years. In November 2002 , the Australian Stock Exchange ("ASX") amended its Listing Rule 4.10.3 (with effect from 1 January 2003) which now reads as follows:

"4.10 An entity must include the following information in its 'annual report'. The information must be current at the date specified by the entity which is no more than 6 weeks before the report is sent to 'security holders':

Subsequently, in March 2003, the ASX Corporate Governance Council released the following 10 best practice principles:

• Lay solid foundation for management and oversight;

• Structure the board to add value;

• Promote ethical and responsible decision-making;

• Safeguard the integrity in financial reporting;

• Make timely and balanced disclosures;

• respect the rights of shareholders;

• recognise and manage risks;

• encourage enhanced performance

• remunerate fairly and responsibly; and

• recognise the legitimate interests of stakeholders.

Principle 4 (Safeguard the integrity in financial reporting) deals with the manner in which the audit committee must be constituted and managed. The audit committee is advised to report to the board on its assessment of the performance and independence of the external auditors and whether it is satisfied that independence of this function has been maintained having regard to the provision of non-audit services.

The amendments proposed in the Bill go beyond merely regulating non-audit services and describe "auditor independence" in a broader context.

According to section 324 CD of the Bill, a conflict of interest arises where there is a "relationship" between the auditor and the audited body such that:

1. the auditor, or a professional member of the audit team, is not capable of exercising objective and impartial judgment in relation to the conduct of audit of the audited body; or
2. a reasonable person, with the full knowledge of all relevant facts and circumstances would conclude that the auditor, or a professional member of the audit team, is not capable of exercising objective and impartial judgment in relation to the conduct of the audit of the audited body.

In the case of an audited company, any relationship between the auditor and the current or former directors of the company or any person currently or formally involved in the management of the company, may result in the auditor not being objective or impartial in the conduct of the audit of the company.

A comparative review of the definition of "conflict of interest" in the Sarbanes –Oxley Act 2002 in the U.S. ("SOXA"), highlights the differences between the proposed amendments in Australia and the corresponding provisions in the SOXA.

SOXA added the following to sec. 10A of the Securities Exchange Act of 1934:

Accordingly, under SOXA, conflict if interest can be avoided if an officer of the audited issuer named in section 10A is not employed by the auditor. However, under the amendments to be made in Australia a conflict of interest may result even if the officer is not employed by the auditor, provided the auditor has a "relationship" with the audited body and can be considered as not having the capacity to exercise objective or impartial judgement in audit.

The amendments include comprehensive rules in determining whether the auditor has a "relationship" with the audited body.

Unlike under SOXA, the amendments in Australia do not prohibit the provision of specified non-audit services to audited bodies. However, the amendments require the mandatory disclosure of non-audit services provided to audited listed companies together with the fees paid for such services.

Under the amendments in Australia, every directors' report must include a copy of the "auditor's independence declaration". The written declaration must be given by the auditor stating that to the best knowledge and belief of the auditor there had been no contravention of the auditor independence requirements of the law. Any offence arising out of the declaration is a strict liability offence. Strict liability offences do not need a fault element to establish the offence.

Some of the other important amendments included in the Bill are:

• Auditors will be required to rotate after five years

• Disclosure will have to be made in relation to non-audit services

• Auditors will be obliged to attend annual general meetings

• Auditing standards will be given legislative backing like the accounting standards

• Shareholders will be able to hold directors accountable for their remuneration;

• Ability of shareholders to take part and vote at company meetings to be enhanced;

• The maximum civil penalty for infringement of disclosure obligations will be increased.

The content of this article does not constitute legal advice and should not be relied on in that way. Specific advice should be sought about your specific circumstances.