n FTSE 250 auditors survey briefing may 2015 accountancy

It will definitely get busier, with peaks in 2020 and Given that the 2023 driven by the transition detail of how rules, and then we might this legislation get to a “business as will be adopted in the usual” base level UK is not yet determined Gilly Lord, regulation and in full, we have decided ‘‘public policy partner, PwC to defer the tender until such time as this is clear ‘‘ Ian McHoul, audit committee chairman,

It is a teenage market that is growing up awkwardly, but is thirsty for knowledge. We are developing a lot of relationships with a lot of people we have not spoken to before James Roberts, audit and public ‘‘policy partner, BDO 14 slow off the mark enior auditors are bracing themselves Despite efforts to increase competition and Big Four for an exceptionally busy year pitching reform the audit market, the Big Four audit firms domination for new business while trying to retain – PwC, Deloitte, KPMG and EY – still dominate existing audit clients. The FTSE 100 with only 10 mid-tier firm audit contracts across the marketS is already in the throes of its biggest- currently in place across the FTSE 250. Stripping FTSE 250 ever shake-up in audit work and the constituent out the audit revenue earned by the Big Four, members of the FTSE 250 are wasting no time in the mid-tier duo of Grant Thornton and BDO continues as reviewing their current audit arrangements. accounted for £2.3m in annual audit fee income, audit income According to Accountancy’s latest survey of a mere 1.3% of the total market, down from auditors in the FTSE 250, the total FTSE 250 £2.73m (1.6%) on the previous year. rises and audit market was valued at £170m in total audit But the market is not standing still. Some 24 audit tenders fees in 2014, up 4% from £163m in last year’s listed companies have announced a switch in survey based on the most recent annual reports auditor for either their 2014 or 2015 year ends. increase, of all the FTSE 250 constituent members (as of A further eight companies have put their audit 23 March 2015). out to tender but ultimately they decided to reports The top 20 FTSE 250 companies spent £59.7m retain the services of their existing auditor. That Philip Smith on audit, up from £56.5m on the previous year is nearly 13% of the market and is a figure that based on the changing constituent members year is set to increase in the coming year as more on year. This is equivalent to 34% of total audit companies indicate when they will be testing expenditure spent across the total 250. the audit market. While total audit fees are up year on year, This unprecedented activity, of course, all there are little signs that potential caps on non- stems from the EU’s push to open up the market audit fees are affecting companies as yet. In for audit services at the highest corporate levels, 2014, total non-audit fees were £102m, up from supported by the UK’s Competition and Markets £92m in the previous year. Authority’s (CMA) earlier investigation. The issue of a cap on non-audit fees could However, there are still legislative issues force changes as well. If a cap of 70% were to be that need to be settled, such as transition introduced today, some 74 (30%) of the FTSE 250 measures and the so-called ‘whitelist/blacklist’ could potentially be caught out. of non-audit services that can be provided by a However, some of these non-audit fees company’s auditor. include one-off situations such as an IPO (there Following a consultation period, further details were 11 new entrants into the FTSE 250 via this from the Financial Reporting Council (FRC) and route during the year under review). For instance, Department for Business, Innovation and Skills , which joined the index after its (BIS) are expected in the autumn. This has IPO in March 2014, recorded £1.8m in non-audit allowed many audit committees in the FTSE 250 fees, compared with an audit fee of £157,000. to sit on their hands.

www.accountancylive.com accountancy may 2015 briefing FTSE 250 auditors survey n

This is a market that is becoming more conventional We don’t think as a professional service the FTSE 250 bidding process and it is companies going to continue to put are responding in the downward pressure on fees same way as the FTSE 100 at the moment. The Guy Strafford, chief client 100 are more aware officer, Proxima ‘‘ of the legislation that ‘‘is coming and are just getting on with it Hywel Ball, head of audit, EY

What they don’t want to find is that they have to go through an audit tender process when they’ve just fired their CFO or are putting in a new IT system Tony Cates, head of audit, ‘‘KPMG 15 slow off the mark Wait-and-see approach Even some companies that had previously auditor who is switching? planned to put their audit out to tender are now In the last year, 24 companies have either changed or adopting a wait-and-see policy. For instance, confirmed plans to change their audit firms: last year drinks company Britvic said its audit would go out to tender this year. Company New Old Year of But as Ian McHoul, Britvic’s audit committee auditor auditor change chairman, says: ‘Given that the detail of how this GT PwC 2014 legislation will be adopted in the UK is not yet Berkeley Group KPMG PwC 2014 determined in full, we have decided to defer the Centamin PwC Deloitte 2014 tender until such time as this is clear, to ensure KPMG EY 2014 that we are in the best place to fully comply with PwC KPMG 2015 the new requirements.’ However, once these issues have been PwC BDO 2015 ironed out, then all companies in the FTSE 250, Dignity EY PwC 2014 as well as their peers in the FTSE 100, will be Dunelm PwC KPMG 2014 forced to review their audit contracts if they PwC KPMG 2015 have been in place for more than the ten-year Euromoney PwC Deloitte 2015 limit imposed by the CMA and EU regulations. Grainger KPMG PwC 2015 There are a few minor exceptions to this rule such as in the event of a major merger and Henderson Group PwC EY 2014 acquisition or IT overhaul, but otherwise there Interserve GT Deloitte 2014 will be no room for manoeuvre. IP Group KPMG BDO 2014 This is why audit firms are expecting the Kier PwC KPMG 2015 number of audit tenders to continue to rise over Ladbrokes PwC EY 2014 the coming years. Hywel Ball, EY’s head of audit, LondonMetric Property Deloitte BDO 2014 says: ‘We don’t think the FTSE 250 companies are responding in the same way as the FTSE 100 Deloitte PwC 2014 at the moment. The 100 are more aware of the EY PwC 2015 legislation that is coming, and are just getting Deloitte KPMG 2014 on with it. Those FTSE 250 companies that Spirax-Sarco Engineering Deloitte KPMG 2014 say they will be tendering in the coming years KPMG BDO 2015 are probably lining themselves up for the next WH Smith PwC Deloitte 2015 partner rotation. Worldwide Healthcare Trust ‘But we will probably have the new legislation PwC EY 2015 in the autumn, enacted next year, so I’m 16

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market share top 20 audits audit clients per firm 2012/13/14 Big four fee income 2012/13/14 (£m)

80 KEY 35 £m 74 71 71  BDO 30 70 67 66 25 63  Deloitte 59  EY 20 60 56 57  Grant Thornton 15  KPMG 10 50 45  PwC 43 42 5 0 40 35 2012 2013 2014 2012 2013 2014 30  Audit fee  Total  Audit fee  Total 30 25 £m 20 20 15 10 9 7 10 10 5 2 3 5 0 0 2012 2013 2014 2012 2013 2014 Note: figures relate to year of survey, reflecting different FTSE 250 constituents  Audit fee  Total  Audit fee  Total

16 performance Annual audit fee income 2012/13/14 (£m)

2012 48.4 36.9 36.1 29.9 2.33 0.99

2013 43.6 42.4 41.8 32.6 2.68 0.05

2014 45.1 45.3 42.9 34.3 2.22 0.07 £m 0 10 20 30 40 50 60 70 80 90 100 110 120 130 140 150 160 170 180

expecting the FTSE 250 to really pick up as we fee who is tendering? go through to 2016 and 2017, as they will be hit by both the non-audit legislation and audit The following companies plan to re-tender their audit: rotation legislation.’ 2015 2016 QQ QQ Aveva Group Audit tenders QQ BlackRock World QQ Electra Private Equity So far this financial year, at least 18 companies Mining Trust (by Sep) have already declared they will be putting their QQ BRIT QQ (by 2016) audit out to tender during 2015, and a further QQ Brown (N.) Group QQ Greene King 16 have pencilled in 2016 as the year they will (formal review) (no later than 2016) go to tender. QQ Cable & Wireless QQ Hays ‘At the end of 2014, we felt that it had been Communications QQ Home Retail Group an incredibly busy year,’ says Gilly Lord, PwC’s QQ Cobham QQ Marstons regulation and public policy partner, ‘but looking QQ Direct Line Insurance (2016/17, PwC not invited) forward to 2015, 2016 and 2017, it will definitely Group QQ Merlin Entertainments get busier, with peaks in 2020 and 2023 driven QQ Domino Printing Sciences QQ Perpetual Income&Growth by the transition rules, and then we might get to QQ Genus Investment Trust a “business as usual” base level.’ QQ Go-Ahead Group (before 2016) But there will still be companies that want QQ HICL Infrastructure QQ Shaftesbury to go out to tender earlier rather than later for QQ QQ a variety of reasons, as there could be sound QQ Laird (no later than 2016) business reasons not to delay. QQ Lonmin QQ Stagecoach Group ‘We have seen people going out to tender (review 2016) QQ Northgate earlier than they need to, just to get it out of the QQ Temple Bar Investment Trust QQ Paragon Group of way,’ observes Tony Cates, KPMG’s head of QQ Companies Holdings audit, ‘so I would say that the next 18 months QQ QQ RPC Group Unite Group will be pretty busy, and then after that we might QQ Virgin Money QQ Vesuvius see the market spacing out a bit more. ‘Companies are realising that they have

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audits fee trends companies ranked by audit value (£000s) top 20 v rest 2013/14 (£m) 2013 2014 Rank Company Auditor Audit Total Audit Total 2014 fees fees fees fees 56.5 59.7 (2013) 2014 2014 2013 2013 (£000) (£000) (£000) (£000) Audit Audit 1 (1) EY 7,366 8,386 8,264 10,235 fees fees 2 (3) Evraz EY 4,605 5,263 4,605 5,263 106.7 110.2 3 (2) Balfour Beatty Deloitte 4,500 6,900 5,100 7,900 4 (7) Thomas Cook Grp PwC 4,000 5,000 3,000 7,000 5 (4) ICAP PwC 3,600 4,300 3,600 4,500 83.7 85.9 6 (-) IMI EY 3,300 3,500 3,000 3,500 7 (5) Phoenix Group EY 3,200 7,600 3,600 7,600 Total Total Holdings fees fees 8 (-) Melrose Industries Deloitte 2,800 5,300 3,200 6,100 9 (-) Rexam PwC 2,700 4,100 2,800 5,900 10 (9) Rentokil Initial KPMG 2,500 3,300 2,500 3,600 184.8 199.4 11 (8) Cable & Wireless KPMG 2,368 3,553 2,829 4,145 Communications KEY  Top 20  Rest of FTSE 250 12 (14) Catlin Group Ltd PwC 2,266 3,951 2,185 2,733 13 (11) Cobham PwC 2,200 5,400 2,100 3,800 performance 14 (10) Jardine Lloyd Big Four v mid tier 2013/14 (£m) 17 PwC 2,108 2,586 1,968 2,411 Thompson Group 2013 2014 15 (16) Inchcape PwC 2,100 3,100 2,000 3,300 160.5 167.6 16 (12) Morgan Advanced KPMG 2,100 2,400 2,100 2,400 Materials 17 (20) Group Deloitte 2,100 2,900 1,900 2,800 Audit Audit 18 (18) Tate & Lyle PwC 2,000 2,100 1,900 2,200 fees fees 19 (-) Petrofac EY 1,974 2,632 1,316 1,974 20 (17) Tullet Prebon Deloitte 1,908 2,677 1,974 2,324 2.7 2.3 59,695 85,948 59,941 89,685  Figures relate to this year’s survey. Ranks relate to 2015 and 2014 surveys KEY  Big Four  Other auditors

got to do this at some point and can see a audit committee wants to demonstrate good change in [audit] partner coming, so are saying 16% governance, while the CFO wants to minimise they might as well tender now, particularly if disruption to the business.’ business is going well. But whether pushed or pulled, companies ‘What they don’t want to find is that they and their auditors are now trying to look for have to go through an audit tender process the positive aspects of the upsurge in activity. when they’ve just fired their CFO or are putting Share of FTSE ‘Initially everyone was saying that it was a in a new IT system.’ 250 companies regulatory burden, but I believe clients have now Some companies aren’t even letting the minor who have changed and have found the process has given issue of a flotation get in the way of reviewing retendered their a freshness to the audit,’ says Cates. their auditor. For instance, Virgin Money, which audit for 2014 or ‘You get a fresh pair of eyes when the 2015 year ends launched its IPO last year, has said that it will audit partner rotates, but when the entire firm tender the audit in 2015, even though a new audit changes you get someone looking at the audit partner has just been rotated on to the account. completely from scratch. They are asking This is because KPMG, which has been in place different people different questions.’ since 2004, took over the audit of the enlarged group following its acquisition of Northern Mid-tier perspective Rock in 2012 without a formal tender. PwC had Even the mid-tier firms of Grant Thornton and previously been auditor of Northern Rock. BDO can see the positives, despite having only won two audits during the period under review Role of ACs (Interserve and Bankers Investment Trust, Audit committees (ACs) are also flexing their both GT wins) and actually losing three (BDO’s muscles in a bid to demonstrate they are good Derwent London, IP Group and Telecom Plus). corporate citizens and this is also affecting when ‘Lots of people are having conversations companies call for audit proposals. leading up to tenders, even though we will Ball says: ‘We are seeing non-executives not pursue every opportunity,’ says Paul pushing for a tender when the CFO would Etherington, quality and professional affairs rather wait to the end of the [audit partner] partner at Grant Thornton. tenure. So there is a tension there, as the ‘We are even having conversations about 18

www.accountancylive.com n FTSE 250 auditors survey briefing may 2015 accountancy

longevity audit tenure (YEARS) 20 20 No of new auditors 20 22 No of years 36 30 1-3 16-20 15 14 4-6 21-30 13 No of 12 companies 32 7-9 > 30 11 45 10 10 10 10-15 9 8 8 8 7 65 5 5 5 4 4 2 2 2

0

1907194919581959196319641965196819701972197519761978197919801983198419851987198819891990199119921993199419951996199719981999200020012002200320042005200620072008200920102011201220132014 Change of auditor (year)

18 shared audits, where one firm might take on conventional as a professional service bidding no some subsidiaries or a division while another change process,’ says Proxima’s chief client officer firm works at a group level. It allows a group to Guy Strafford, ‘and it is going to continue to get to know another firm, and get a sense of put downward pressure on fees. It is the only the quality and people.’ service where the price of the incumbent is There are also signs that some companies known to all the other bidders. want to put external and internal audit out to The following ‘So a simple strategy would be to bid a tender, alongside tax work, at the same time. companies put bit less than the incumbent but also propose This is as a result of making sure the external their audit out to something that is radically different. It would be a auditor in particular is clean and uncompromised tender but retained the bold strategy to come in at twice the cost.’ by any potentially blacklisted services. incumbent firm: However, audit committees are aware of James Roberts, audit and public policy Edinburgh Investment the need to ensure audit quality is maintained, partner at BDO, adds: ‘It is a teenage market Trust KPMG particularly in light of comments made by the that is growing up awkwardly, but is thirsty Galliford Try PwC FRC, which highlighted concerns over audit fees for knowledge. We are developing a lot of KPMG in its 2014 Audit Quality Review annual report. relationships with a lot of people we have not Keller KPMG ‘Now that responsibility has really shifted to spoken to before. And we can also say to some Murray International the audit committee, you can see them thinking that if we are unlikely to win the audit, we can Trust EY that they want to get the best audit they can get do other things for you. Rightmove KPMG because, if it goes wrong in the future, that will be ‘If we get to 5% or 10% of the market in five Smith (DS) Deloitte their personal reputation on the line,’ says Lord. years, that would be fantastic.’ Tullett Prebon Deloitte ‘Audit committee chairs are playing very close attention to the FRC’s inspection results. But, Fee levels of course, people care about fees – they are But what effect is tendering activity having on commercial businesses, but the importance of fee levels? The audit market is valued at more the fee decision has gone a few notches down.’ than £170m, up by £2m on current constituents’ The tender process is becoming shorter and previous year’s audit fees. When non-audit companies are looking to complete within two services are taken into account, the market is to three months. At the same time, the bidding worth £285m, up 4% year on year. process is being carried out well in advance of But this overall increase masks diverging the date a new auditor would take over. trends. There are conflicting pressures on both ‘This gives everyone plenty of time to get to auditors and audit committees. Both want know each other,’ Lord says. It also allows the to ensure a high level of quality but they are company time to change other professional operating in a commercial environment. service suppliers. ‘With changes in the non- Proxima, a procurement consultancy involved audit services that your auditor can provide, it in a number of audit tenders, says audit fees are is likely that if you change your auditor, you are currently dropping an average of 10% following going to have to change who your non-audit a tender process. suppliers are as well. This has to be planned Dunelm, the homeware retailer, saw its audit quite carefully,’ Lord says. fee fall 9% when it switched from KPMG to PwC, So although the seismic shift in FTSE 250 while listed hedge fund Man Group cut its audit auditors is set to continue, companies will have fee by 26% when Deloitte took over from PwC. to change their mind sets. The Big Four party ‘This is a market that is becoming more could well end up with a bad hangover.

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