Update on Fees Chishala Kateka, IESBA Member and Fees Working Group Chair External Presenter, Prof. David Hay University of Auckland, New Zealand IESBA Meeting December 12-15, 2016

Overview of the Session Receive final report on review of academic and other relevant literature commissioned Receive update on regulatory responses within G20 Exchange views about next steps

Fees Initiative – Recap Undertake fact-finding re relationship between fees charged by firms and threats to auditor independence and compliance with FPs Review of academic literature and regulatory inspection findings Understand regulatory responses in G20 Outreach to various stakeholders, including large firms and SMPs Responsive to PIOB call to revisit issues on auditor independence from a broader perspective, including consideration of fee-related issues Supported by CAG and other stakeholders

Areas of Focus – Recap Any relationship between fees and threats to independence and compliance with FPs (or reasonable perceptions of such threats)? Level of audit fees for individual audit engagements Relative size of fees to the partner, office or the firm (incl. extent to which partner remuneration depends on fees from a particular client) Ratio of NAS fees to audit fees paid by an audit client Provision of audit services by a firm that also has a significant NAS business

David Hay Professor of Auditing, University of Auckland, New Zealand

Issues Level of audit fees Relative size of fees and dependence Ratio of non-audit to audit fees Audit services by firms that have non-audit service businesses

Overview Risks that are not confirmed by evidence Risks that are confirmed by evidence Risks where there is mixed evidence There are each of these Namely: not confirmed = loss leader Confirmed = lower fees after a change of auditor; NAS and independence in appearance Mixed evidence = competition in the market; high fees/dependence; NAS and independence of mind Also no evidence = firms with NAS biz

Concerns Lower audit fees after switch Non-audit services (NAS) and independence in appearance Mixed results: competition; dependence; NAS and independence of mind NAS to non-audit clients

Issue 1: Level of audit fees New engagements and low-balling

Issue 2: Relative size of fees and dependence High fees and loss of independence – or risk Partner income related to clients gained or lost, audit failures Dependence at office or partner level

Issue 3: Ratio of non-audit to audit fees Appearance of independence Independence of mind Generally Current concerns

Issue 4: Audit services by firms that have non-audit service business Audit firms that provide NAS to non-audit clients Evidence of reduced quality Evidence of reduced independence in appearance Studies are unpublished

Additional issues Other stakeholders Processes implemented by firms

Research suggestions More comprehensive meta-analysis Investigate mixed results Dependence Fees and inspection reports Non-audit services around the world Internal firm data Publicizing results of this study

Issues Level of audit fees Relative size of fees and dependence Ratio of non-audit to audit fees Audit services by firms that have non-audit service businesses

Not all law or regulations may have been considered Fees – G20 Benchmarking WG undertook a review of laws and regulations relating to fees for about 11 jurisdictions, including EU Not all law or regulations may have been considered Information was gathered from key individuals Findings summarized, key observations noted, but further analysis needed before forming final conclusions

Ethical Rules and Regulations in Local Jurisdictions Fees – G20 Benchmarking Ethical Rules and Regulations in Local Jurisdictions Level of audit fees for individual audit engagements Canada: RPC 204.4 (36) France: French Code of Ethics Article 31 Italy: Italian Law Article 10Italian Auditing Standard 5.8.4 UK: ES 4.1ES 4.2 4 jurisdictions have additional requirements re audit fees and pricing Remaining jurisdictions are aligned to the Code Key Observations Qualified engagement team members assigned Appropriate time devoted Applicable assurance standards, guidelines and QC procedures followed Canada: RPC 204.4 (36) A member or firm shall not provide an assurance service for a fee that the member or firm knows is significantly lower than that charged by the predecessor member or firm, or contained in other proposals for the engagement, unless the member or firm can demonstrate: (a) that qualified members of the firm have been assigned to the engagement and will devote the appropriate time to it; and (b) that all applicable assurance standards, guidelines and quality control procedures have been followed. France: French Code of Ethics, Article 31 - remuneration shall be in relation to the procedures based on size, nature and complexity of the business Italy: Italian Law, Article 10 - the fee for the statutory audit is determined to ensure the quality and the reliability of the work Italian Auditing Standard 5.8.4 - must be able to demonstrate that the fee for an audit is adequate to cover the assignment of appropriate time and qualified staff to the task and compliance with all auditing standards, guidelines and QC procedures If a PIE, statutory auditor should discuss the basis for calculating the audit fee with the audit committee UK: ES 4.1 - The engagement partner shall be satisfied and able to demonstrate that the engagement has assigned to it sufficient partners and staff with appropriate time and skill to perform the engagement in accordance with all applicable Engagement and Ethical Standards, irrespective of the engagement fee to be charged. ES 4.2 - Paragraph 4.1 is not intended to prescribe the approach to be taken by firms to the setting of engagement fees, but rather to emphasise that there are no circumstances where the amount of the engagement fee can justify any lack of appropriate resources or time taken to perform a proper engagement in accordance with applicable Engagement and Ethical Standards.

Ethical Rules and Regulations in Local Jurisdictions Fees – G20 Benchmarking Ethical Rules and Regulations in Local Jurisdictions Relative size of fees Australia: APES 290.217AUST 290.217 Brazil: CNSP-Resolution 321CMN-Resolution 3198 Germany: German Commercial Code 319(1) 3 countries have additional requirements regarding the relative size of audit fees Remaining aligned to standards in the Code Key Observations Large proportion of total fees referred from one source Total audit fees from audit client cannot be 25% or more of total audit fees Earned more than 15% in last 5 years from professional activities at the client Note: Some jurisdictions have disclosure req’ts in securities law re: disclosure of audit and NAS fees (CanadaUKUS) Australia: APES 290.217; AUST 290.217 - when the total fees in respect of multiple Audit Clients referred from one source represent a large proportion of the total fees of the Firm expressing the audit opinions, the dependence on that source and concern about losing those clients creates a self-interest or intimidation threat Brazil: CNSP-Resolution 321 and CMN-Resolution 3198: Total audit fees (including expenses) from the audit client, including all related entities, cannot represent 25% or more of the total fees of the auditor in that year, regardless of safeguards Germany: German Commercial Code 319(1) – a PA is excluded from being auditor of a company that is capital market oriented if he in the last 5 years earned more than 15% from his professional activities or if the company being audited owes more than 25% of its shares

Ethical Rules and Regulations in Local Jurisdictions Fees – G20 Benchmarking Ethical Rules and Regulations in Local Jurisdictions France: French Code of Ethics Article 32 Italy: Italian Auditing Standard 5.8.22 South Africa: South Africa King 3 UK: UK ES 4.3D, 4.4-5ES 5.25-27 EU: Regulation Art 4.2 Ratio of non-audit service fees to audit fees paid by an audit client 4 countries plus the EU Regulation have requirements regarding comparisons between non-audit service fees and audit fees paid by an audit client No standards exist in the Code Key Observations Complete ban on NAS Independent partner review of audit work required if NAS fee exceeds audit fee TCWG have active role in monitoring and approving fees 70% cap on NAS fees for regulated PIEs France: French Code of Ethics, Article 32 – a statutory auditor may not receive any fee from the audited entity other than for the scope of the audit Italy: Italian Auditing Standard 5.8.22 – Independence may be compromised if NAS becomes significant, factors to consider provided, and requires the firm to apply safeguards if NAS fee exceeds that of audit fee, an independent partner must review engagement work South Africa: South Africa King 3 – applicable to listed entities, requests those charged with governance to consider the nature and extent of NAS and to be accountable for monitoring the level of NAS fees verse Audit fees. The audit committee also approves the fees of the external audit firm. UK: UK ES 5.25-27 – PIE audits need to be assessed for impact of NAS fees and impact of threats, safeguards should be discussed with TCWG, the ethics partner needs to be notified and firm policies and procedures applied ES 4.3D (and 4.4 & 4.5): Fees for engagements shall not be influenced or determined by the provision of non-audit / additional services to an entity relevant to the engagement. [AD 25, ES 4.7] 4.4 The engagement fee ordinarily reflects the time spent, the skills and experience of the personnel performing the engagement in accordance with all the relevant requirements, and the competitive situation in the market. Paragraph 4.3D is intended to prevent any relationship between the appropriate cost of the engagement and the actual or potential provision of non-audit / additional services. 4.5 Paragraph 4.3D is not intended to prohibit proper cost savings that can be achieved as a result of providing non-audit / additional services in accordance with Section 5 of this Ethical Standard to the entity, for example, where information gained through undertaking a non-audit service is referred to by audit staff when carrying out the audit of the financial statements. EU Regulation Art 4.2 - 70% Cap on NAS for PIES in EU regulated markets.

Ethical Rules and Regulations in Local Jurisdictions Fees – G20 Benchmarking Ethical Rules and Regulations in Local Jurisdictions Provision of audit services by a firm that also has significant NAS business No jurisdictions have requirements regarding the provision of audit services by firms with significant non-audit services businesses No requirements exist in the Code

Preliminary WG Views WG Prelim Views about the G20 Benchmarking G20 did not reveal any key Ethical gaps in the current code. However, it did reveal, that there are: More rigorous disclosure and transparency regulations in certain jurisdictions, with respect to fees in comparison to the Code. There are requirements in some local laws and regulation re CAPS on audit fees and total fees, some regulators are stricter than others. No CAPs in the Code. Prelim Views about Gaps Should the Code include requirements to encourage more open and transparent communications with TCWG, including about matters such as the level fees paid for NAS vs audit services. While this might definitely be an area in the Code that might benefit from further enhancement – should it be part of a Fees or NAS project? WG Prelim Views about the Research Objective was to determine linkages between fees charged by firms and threats to compliance with the fundamental principles and to independence. The outcome of the research, seem to raise more questions than answers, not in relation to the linkages themselves, but rather about the relevance of the research findings to the WG’s objective. Some of the specific areas in the paper that raise questions relate to: 1. Findings about the issue of market competition, overdue fees, and fees being too high. WG questions whether: a) These matters are indicative of ethical issues that need to addressed. b) There is sufficient evidence in the research to draw meaningful conclusions about what actions that should be taken; c) The findings indicate a matter for IESBA to consider as part of a fees project.   2. Findings about the association between fees/audit quality and reduced independence. The WG is planning to get more insights about whether there is more specific evidence to further understand the actual or perceived issue that might exist.    3. Findings relating to NAS fees. WG questions whether the issues relating to NAS fees be addressed in the Fees/ NAS section of the Code

Next Steps WG to reflect on input provided by Board and report back at the March 2017 meeting with more specifics WG to liaise with existing Safeguards TF to understand whether/ how some of the NAS findings have been taken into account as part of their work Pending – Outreach to stakeholders (investors, TCWG, firms etc.,) to further understand their perspectives

Matters for IESBA Consideration IESBA members are asked to exchange views about the findings identified from: Prof. David Hay’s final research report; and The WG’s G-20 benchmarking Based on the final research report and the G20 benchmarking, do IESBA members believe that there is a need for a fee project? Is more research is needed to further understand specific issues first? Note to Chishala - IEBSA to Section 330 of the proposed restructured code deals with fees and include several conforming amendments arising from the Safeguards project. See Agenda Item 3-B. The Structure of the Code was intended to clarified the Code.