CORPORATE LAW ECONOMIC REFORM PROGRAM (AUDIT REFORM AND CORPORATE DISCLOSURE) BILL 2003
(Circulated by authority of the Treasurer,
the Hon Peter Costello, MP)
Table of Contents
CLERP (Audit Reform and Corporate Disclosure) Bill 2003
1.1 The Corporate Law Economic Reform Program (CLERP) was initiated in 1997 as a vehicle for the ongoing review and reform of Australia’s corporate and business regulation to ensure that it is modern, responsive and promotes business activity.
1.2 The most recent stage in the Government’s reform agenda is CLERP 9. A discussion paper — Corporate Disclosure: Strengthening the financial reporting framework — was released in September 2002 and proposed a range of measures designed to enhance audit regulation and the general corporate disclosure framework. The Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Bill 2003(the Bill) implements the CLERP 9 measures and recommendations contained in the Ramsay report Independence of Australian Company Auditors (Ramsay report). The Bill also takes account of the relevant recommendations of the report of the Joint Committee of Public Accounts and Audit’s Report 391 (Review of Independent Auditing by Registered Company Auditors). In addition, the Bill implements a number of recommendations of the HIH and Cole Royal Commissions.
1.3 The Bill was released for public consultation on 8 October 2003 and over 50 submissions were received. The Business Regulation Advisory Group was consulted on both the policy proposals and the provisions of the Bill.
1.4 The underlying objective of the reforms is to improve the operation of the market by promoting transparency, accountability and shareholder activism. To this end, the Bill sets up a framework with the following features:
Measures designed to improve the reliability and credibility of financial statements through enhanced auditor independence:
The role of the Financial Reporting Council (FRC) will be expanded to cover oversight of the audit standard setting process and monitoring and advising on auditor independence.
Auditors will be required to meet a general standard of independence and make an annual declaration that they have maintained their independence.
Disclosure will be required of certain matters in relation to all non audit services.
Restrictions on certain employment and financial relationships will be introduced and/or enhanced.
Auditors will be required to rotate after five years (and up to seven years where ASIC relief has been granted).
Auditors will be required to attend company Annual General Meetings (AGMs).
Australian Securities and Investments Commission (ASIC) will be given a power to impose conditions on auditors’ registration.
Improved enforcement arrangements:
The operational capacity of the Companies Auditors and Liquidators Disciplinary Board (CALDB) will be enhanced by appointing a deputy chair and facilitating concurrent hearings. In addition, the majority of members will be non accountants.
A Financial Reporting Panel (FRP) will be established to resolve disputes between ASIC and companies regarding the application of accounting standards.
Auditing standards will be made legislative instruments in the same way as Australian Accounting Standards Board (AASB) accounting standards.
Protection will be available for employees and others who report suspected breaches of the law to ASIC and internally within the company.
The obligations for auditors to report suspected breaches of the law to ASIC will be strengthened.
Measures to better allocate and manage risk:
Auditors will be able to incorporate and a regime of proportionate liability will be introduced. Incorporation will protect auditors who are not responsible for loss caused by another auditor in the audit firm. Proportionate liability will ensure that liability rests with all defendants in proportion to their contribution to the plaintiff’s loss. The proportionate liability reforms are of general application and are not confined to auditors.
Better disclosure to shareholders and improved shareholder activism:
The presentation of disclosure documents and the operation of the secondary sale provisions are being improved.
Disclosure requirements applying to director and executive remuneration will be enhanced and shareholders will be better equipped to hold directors accountable for their decisions regarding remuneration.
Shareholders will have greater ability to ask auditors questions regarding the conduct of the audit and the content of the audit report.
Mechanisms for shareholders to participate and vote in general meetings will be improved.
Better enforcement mechanisms for continuous disclosure:
The maximum civil penalty for a contravention of the continuous disclosure (and other financial services civil penalty) provisions by a body corporate will be increased.
Persons involved in a contravention of the continuous disclosure regime by a body corporate will be subject to civil penalties.
ASIC will be given the power to issue infringement notices specifying payment of a financial penalty in relation to contraventions of the continuous disclosure regime.
A specific duty on analysts to manage conflicts of interest.
International Auditing and Assurance Standards Board
Trade Practices Act
Trade Practices Act 1974
Financial Impact Statement
3.1 Implementation of the measures in the Bill will require Commonwealth expenditure on an ongoing basis.
3.2 In the 2003-04 Budget, it was announced that the Australian Securities and Investments Commission (ASIC) would be provided with funding of $12.3 million over four years for its role in the implementation of CLERP 9. This funding will enable ASIC to conduct surveillance, investigate and take enforcement action in relation to alleged contraventions of the CLERP 9 provisions. Further funding will be subject to review.
3.3 It was also announced in the 2003-04 Budget that $4 million would be provided over four years to support the expanded role of the Financial Reporting Council, which will include oversight of audit standard setting and auditor independence issues.
3.4 These allocations for ASIC and the Financial Reporting Council total $16.3 million over four years, or $4.1 million per annum.
3.5 Funds will be expended in the establishment of the Financial Reporting Panel (FRP). There will also be ongoing costs associated with the running of the FRP. Funding will be administered along similar lines to the arrangements that apply to the Takeovers Panel, which falls within the Treasury portfolio. The introduction of referral fees will provide a mechanism for some of the running costs to be recouped.
3.6 The Bill will provide a mechanism for ASIC to issue infringement notices for alleged contraventions of the continuous disclosure provisions of the Corporations Act. These notices would contain a financial penalty which would be payable to the Commonwealth.
3.7 The Bill contains provisions that amend the administrative arrangements for the registration of auditors and the lodgement of documents by auditors. While fees will be prescribed for these activities, the low number of transactions involved means that there will be negligible effect on Commonwealth revenue.
Regulation Impact Statement
4.1 The Corporate Law Economic Reform Program (CLERP) was initiated in the mid 1990s as a vehicle for ongoing review and reform of Australia’s corporate and business regulation to ensure that it is modern, responsive and promotes business activity. Since that time, substantial changes have been made to the Corporations Act and the corporate regulatory framework more generally, particularly in the areas of accounting standards, fundraising, directors’ duties, takeovers and financial services reform. A policy proposal paper covering cross border insolvency has also been released is in the process of being implemented.
4.2 The Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Bill 2003 (‘the Bill’) is the next stage in the Government’s reform agenda. It will promote the Government’s broad economic objectives of increasing employment and growth by ensuring that regulatory structures remain strong, modern and flexible without burdening business with unnecessary regulation. The proposals in the Bill will implement measures that strengthen, as well as build on, the previous CLERP reforms.
CLERP 9 process
4.3 The policy proposals contained in CLERP 9 were developed in consultation with stakeholders and ASIC and build on the recommendations contained in the Ramsay Report (Independence of Australian Company Auditors) which was released in October 2001and the 1997 report of the MINCO Working Party (Review of the Requirements for the Registration and Regulation of Company Auditors).
4.4 CLERP 9 was released in September 2002 and over 60 submissions were received by the time the consultation period ended in November. Since then, the Government has met with a broad range of stakeholders to discuss the proposals.
4.5 The Treasurer released the draft Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Bill 2003(the CLERP 9 Bill) for public comment on 8 October 2003. The period for public comment closed on 10 November 2003. Over 50 submissions were received from a broad range of stakeholders.
4.6 The Business Regulation Advisory Group (BRAG) was consulted on both the policy proposal paper and the Bill. BRAG is made up of senior representatives from the business community and was established specifically to advise the Government on proposals arising out of CLERP.
4.7 The Bill also implements recommendations of both the HIH and Cole Royal Commissions and takes account of relevant recommendations of the Joint Committee of Public Accounts and Audit Report 391 (Review of Independent Auditing by Registered Company Auditors).
Problem identification and analysis of proposals
4.8 Audited financial statements are an important part of the financial information that is available to the capital markets and an essential element of effective corporate governance. Auditor independence is fundamental to the credibility and reliability of auditors’ reports and in turn independent audits perform an important function in terms of capital market efficiency. There has been widespread concern about the efficacy of the audit function, including the independence of auditors, as a result of major corporate collapses in Australia and overseas, including HIH.
4.9 The sound operation of Australia’s financial markets is dependent upon parties such as auditors providing information or services to investors free from any bias, undue influence or conflict of interest. Auditor independence is concerned with the auditor’s capacity, including the perception of that capacity, to exercise objective and impartial judgment in relation to the conduct of an audit.
4.10 The accounting profession has undergone a substantial transformation and the process of change continues. There has been a continuing trend in Australia and overseas for audit firms to merge, resulting in increased size, both domestically and internationally. Accounting firms have established international networks, affiliating under common names. There has also been a significant increase in non-audit services provided by audit firms to their clients, both in terms of the range of services offered and as a proportion of total firm revenue. Accounting firms have become multi-disciplinary service entities and have entered into new forms of business relationships with their clients which can potentially compromise independence.
4.11 The impact on investment levels and efficient operation of the market can be detrimental where shareholders and investors lose confidence in the market as a result of the persons that they rely on not acting independently. Given that a loss of confidence in the market can impact severely on operation of capital markets and the economy more generally, it is essential that broad measures be put in place which will promote independence and ensure that parties operate free from conflicts of interest.
4.12 Over recent years there have been a number of corporate collapses which have called into question the degree of independence of auditors. These cases have demonstrated that while a company’s actual financial position may have been poor, the financial statements and the audit report did not reflect the true condition of the company. This has impaired the ability of shareholders and the market more generally to adequately assess the financial health of their investment. The proposals to promote independence will improve the quality and reliability of information provided to the market.
4.13 The Bill looks to address these concerns by putting in place a broad regulatory framework governing audit oversight and independence arrangements. In doing so, the Bill retains the co regulatory approach in relation to auditor independence. Under the current requirements, while the Corporations Act contains some provisions directed at relatively specific employment and financial relationships, the professional rules issued by the professional accounting bodies contain more comprehensive requirements. The Ramsay report recommendations envisage the inclusion of a comprehensive legislative framework of auditor independence requirements in the Corporations Act which would be supplemented by the auditor independence rules in the professional codes of conduct. The Bill incorporates the recommendations of the Ramsay report (as refined in the CLERP 9 policy paper) and the relevant recommendations in the HIH Royal Commission (HIHRC) report. The objective is to establish best practice requirements on auditor independence in Australia.
4.14 The Bill introduces the following key auditor independence reforms:
A general requirement of auditor independence.
A requirement that auditors make an annual declaration that the auditor has complied with the auditor independence requirements of the Corporations Act and of any applicable codes of professional conduct.
The introduction of restrictions on specific employment and financial relationships between auditors and their clients.
The imposition of mandatory waiting periods before partners of audit firms, directors of audit companies and audit personnel may join an audit client as a director or in a senior management position.
A requirement for the compulsory rotation of auditors after a fixed number of years.
A requirement for an auditor to attend the AGM of a listed company at which the audit report is tabled and to answer reasonable questions about the audit.
A strengthening of the oversight arrangements of an audit firm’s procedures and processes, and the audit standard setting process. In particular the Financial Reporting Council (FRC) will assume responsibilities for overseeing the audit standard setting process and auditor independence.
A requirement for listed companies to disclose in their annual directors’ report the fees paid to the auditor for each non-audit service, as well as a description of each service. In addition, the annual directors’ report of each listed company must include a statement by directors whether they are satisfied that the provision of non-audit services does not compromise independence.
4.15 Many of these requirements are contained in rules of professional bodies and apply to members of those bodies only. The majority of the above proposals will apply to all 7075 registered company auditors regardless of membership of professional bodies. The audit committee requirements will apply to all public companies and the fee disclosure requirements will apply to public companies, registered managed investment schemes and large (and certain small) proprietary companies.