RSS feedsNew signing It is a late winter morning in April 2006 when the board of beleaguered music company Sanctuary Group finally makes the decision to change auditors.
Over the last six months, the company has been through hell. Incumbent auditor Baker Tilly has qualified its latest set of annual accounts, saying the company understated losses by £15.6m in 2005.
The business has just raised £110m in rescue capital and takes the decision to call in KPMG and make a fresh start. The company takes enormous flak for its decision. It is accused of dumping its current auditor simply because the firm gave a negative audit opinion.
It takes weeks for the furore and negative headlines to subside. Changing auditors can be a traumatic experience.
Going through changes
Of course, not all auditor changes need to be, or indeed are, as dramatic as the Sanctuary Group example, but any finance director or company who thinks that changing an auditor is as simple as switching your electricity supplier is in for a rude shock.
Changing auditors is a complex and, if anecdotal evidence is to be believed, costly process; but if it is done correctly, the benefits can be significant; bringing cost savings, offering better value for money and producing an audit of higher quality and greater rigour.
Why change?
There are a number of reasons why firms should consider switching auditors. Serge Corel, the finance director of support services giant Mondial UK, describes what is perhaps the most important of these. 'After a certain period of time your relationship with your auditor can become a little bit too comfortable. If it were compulsory to change auditors, it would force you to put everything on the table and look at it with fresh pair of eyes,' Corel says.
'I think that when an auditor has worked with a company for a number of years it does not always give it the same attention that it could, because it is comfortable.'
Other, more practical reasons are when a business undergoes a rapid period of growth through acquisition and doubles or triples in size over a short period of time.
In such circumstances, it is highly likely that a firm has outgrown its current auditor and needs to look to a firm with more experience of auditing larger businesses.
Then there are questions of value for money. Are the services provided still at the standard as when the auditor was first appointed? Are the fees charged for audit still competitive with what other firms are offering?
Finance directors and audit committees need to work through all these questions. Audit committees should be asking these questions and conducting a formal review of their auditor at least once a year. It is where the process for changing an auditor begins.
Starting off the tender
Once the decision has been taken to make a change, it is essential that companies manage the process to make sure the right firm is hired. As companies, particularly larger ones, change auditors so seldom (once every 48 years if you are in the FTSE 100) there is no fixed formula for managing the process and there are different schools of thought on how to proceed.
Steve Maslin, head of external professional affairs at Grant Thornton, likes the idea of keeping the process focused and easy to manage. 'There are so many firms out there with all sorts of experience. A company needs to narrow its search to where it thinks it will find the expertise and experience it requires,' he says.
'Before a company makes any contact with firms it should draw up a shortlist of firms that will meet its needs. It needs to identify firms with the technical experience and right geographical spread for its purposes.'
Maslin suggests that a business should start tendering the audit only once a group of three or four such firms has been identified. 'I think it is better to have a small group of candidates rather than contacting every single top 15 firm when you know that some of them are not going to offer what is needed for the audit,' he says.
David Herbinet, head of public interest markets at Mazars, prefers to cast the net as wide as possible. 'I think it is best for a company to be open about the fact that it is planning to change auditors and I would advise advertising widely and inviting applications from all interested parties. From there you can shortlist the best candidates and then go through a more formal assessment before making you final choice,' Herbinet says.
Take a test drive
Herbinet also likes the idea of testing out potential future auditors by offering them other work. 'I think a business can gain invaluable knowledge by offering potential auditors work in other areas, such as tax or due diligence. There is no better way to develop a practical feel for how you relate to a firm and how you work together. If you go into a tender with this kind of knowledge you are in a much better position to select the right auditor for your business,' Herbinet says.
Managing the transition
Once your new auditor has been chosen, the next step is the perhaps the most challenging. When experts discuss the cost of switching auditors, it is the transition they are referring to.
Like it our not, your outgoing auditor will have an understanding and insight into your business that the new incumbent will take time to develop. This is perhaps the main reason why many businesses find it easier to stick with their current auditor, because even if the relationship is not as good as it could be they dread going through the turmoil of a transition.
Herbinet says that one way to ease the pain of an auditor transition is to make use of a joint audit. 'The handover is a big thing that can create additional cost and risk. Using a joint audit for a few months can smooth the out the transition and facilitate a transfer of expertise,' he says.
Quality assurance
Switching auditors has never been regarded as anything more than bringing in a fresh pair of eyes to look over the company books at the very most.
The focus on competition and choice in the audit market, however, has suddenly thrust auditor rotation into the forefront of the financial world's consciousness.
The practice is no longer regarded as merely good house-keeping, but rather as a possible solution to concerns that the audit market at the top end, particularly in the FTSE 350, is too concentrated.
As part of the Financial Reporting Council's drive to enhance audit quality, several recommendations have been made by its market participants group (MPG) with respect to the appointment and re-appointment of auditors. This includes improving information flow from and outgoing to an incoming auditor, using firms from more than one audit network and disclosing contractual obligations to appoint certain types of firm.
The MPG did not go so far as to demand compulsory auditor rotation, but the measures outlined above are a clear attempt to make changing auditors easier and more fluid. From being an issue that nobody paid attention too, audit rotation is suddenly in fashion.
Top tips for auditor transition
1. ASSESS YOUR OPTIONS
Does you auditor provide value for money? Are the fees charged competitive? Is the audit quality what you expect? Does your auditor still match your size and growth? These questions need to be asked annually by the audit committee. If the answers aren’t satisfactory it is time for a change.
2. IDENTIFY POTENTIAL REPLACEMENTS
This can involve advertising widely in order to select from as big a pool as possible, or identifying a select group of firms that meet specific auditing requirements.
3. TAKE A TEST DRIVE
Hiring potential auditors for tax or due diligence work can provide you with an opportunity to see how you relate with a firm’s culture and staff – invaluable knowledge to have when making a decision.
4. REPEAT STEP ONE
When you have drawn up a shortlist you should ask the new firms tendering for the audit the exact same questions you asked of your outgoing auditor. Value for money, fees, audit quality.
5. MANAGE THE HANDOVER
Ensure a smooth transition by setting out a clear handover timetable. Avoid making a change during a busy time such as year end or results day. One way to manage the transition is to have the two auditors working together over a transition period in a joint audit set-up
