Explanatory Memorandum(Circulated by authority of the Treasurer, the Hon Peter Costello, MP)
Australian Securities and Investments Commission Amendment (Audit Inspection) Bill 2006
Cooperative arrangements concerning audit oversight and ASIC's audit inspection powers
Schedule 1 to this Bill will amend the Australian Securities and Investments Commission Act 2001 (the ASIC Act) and the Corporations Act 2001 (the Corporations Act) to facilitate the Australian Securities and Investments Commission (ASIC) entering into co-operative arrangements with foreign regulatory bodies relating to audit regulation and to provide ASIC with enhanced information-gathering powers in relation to audit inspections.
The amendments would enable ASIC to enter into a mutual co-operative arrangement with the United States (US) Public Company Accounting Oversight Board (PCAOB). To address the special issues raised by non-US audit firms, the PCAOB has developed a framework under which the PCAOB could fulfil its statutory mandate under the Sarbanes-Oxley Act (the SOX Act) by relying, to an appropriate degree, on a non-US oversight system. The PCAOB's approach towards the oversight of non-US audit firms endeavours to build upon the home-country's regulatory system. The more independent and rigorous a home-country system, the higher the PCAOB's reliance on that system. The single, joint inspection arrangement proposed under the cooperative arrangement between ASIC and the PCAOB will result in a reduction of the regulatory burden and eliminate duplicated processes relating to audit inspections.
The amendments in Schedule 1 to this Bill will:
empower ASIC, with the written consent of the Minister, to enter into an agreement or arrangement with a foreign audit regulator to assist the foreign regulator to ascertain whether Australian auditors have complied with audit requirements in that foreign country;
provide ASIC with enhanced audit inspection and information-gathering powers relating to ASIC's domestic and international responsibilities; and
ensure that ASIC can provide information to a foreign body which is not an agency of a foreign country, which will assist the foreign body to perform a regulatory function conferred on the body by a law of that foreign country.
Technical amendment to auditing standard provisions
Schedule 2 to this Bill will extend the current immunity against contravention of an auditing standard listed in sub-regulation 10.5.01 of the Corporations Regulations 2001 beyond 30 June 2006 to cover all financial reports for periods ending on or before 29 June 2007 that are audited using those standards.
The following abbreviations are used in this Explanatory Memorandum.
|ASIC||Australian Securities and Investments Commission|
|ASIC Act||Australian Securities and Investments Commission Act 2001|
|CLERP 9 Act||Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Act 2004|
|Corporations Act||Corporations Act 2001|
|FRC||Financial Reporting Council|
|PCAOB||US Public Company Accounting Oversight Board|
|SEC||US Securities and Exchange Commission|
|SOX Act||US Sarbanes-Oxley Act 2002|
Regulation Impact Statement and Financial Impact Statement
Schedule 1 - Cooperative arrangements concerning audit oversight and ASIC's audit inspection powers
The Sarbanes-Oxley Act of 2002 (SOX Act) substantially changed the US companies and auditors regulation regime. That legislation, and the rules made pursuant to it, creates extensive new obligations for companies that access US capital markets; for auditors of those companies; and for auditors indirectly involved in the preparation of audits for United States (US) capital market participants.
Many of the SOX Act obligations relate not only to the activities directly undertaken in the US, but also to the structure and operation of the activities of companies and auditors in Australia. This could result in an increased burden for Australian companies that seek to raise capital within US capital markets, or to have their securities listed on US markets. The SOX Act also has extensive ramifications for Australian auditors involved in the audit of entities regulated by SOX Act provisions.
A number of major Australian companies have asked ASIC for assistance with the potential inefficiencies created by the concurrent operation of both the Australian regime (as enhanced by the Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Act 2004 (the CLERP 9 Act)) and the US regime. These companies acknowledge the need for US-based capital raising rules to apply to US activities but point to the potential for substantial regulatory duplication between the Australian regime and the US rules as they apply more generally, including to the audit process.
ASIC has undertaken discussions with the US Securities and Exchange Commission (SEC) and the US Public Company Accounting Oversight Board (PCAOB) about the regulation of:
- Australian companies whose capital market activities are subject to regulation under both the Australian and the US regimes; and
- Australian auditors similarly subject to regulation under both regimes.
These discussions have concluded that there is potential for significant rationalisation of the two regimes applying to the audit inspection process. ASIC and the PCAOB are continuing their discussions with a view to concluding the details of a cooperative arrangement.
US regulation of Australian auditors
The PCAOB is the front line regulator responsible for ensuring auditors' compliance with US rules. The rules apply to any auditor who prepares or participates in the preparation of audit reports for an entity that is registered with the SEC as an issuer of securities within the US.
Compliance requires registration as an auditor by the PCAOB, adherence to US rules applying to audits of US issuers, and regular compliance inspections by the PCAOB.
To address the special issues raised by non-US audit firms, the PCAOB has developed a framework under which the PCAOB could implement the SOX Act provisions by relying, to an appropriate degree, on a non-US oversight system.
In light of the global nature of capital markets, the PCAOB believes that the effects of a corporate reporting failure in one country tend to ripple through the financial market of another, potentially causing substantial economic damage. The PCAOB considers that it is in the interests of the public, investors and the PCAOB's non-US counterparts to develop an efficient and effective cooperative arrangement where reliance may be placed on the home-country system to the maximum extent possible.
The PCAOB's approach towards the oversight of non-US firms endeavours to build upon the work of overseas regulators in order to minimize administrative burdens and legal conflicts that firms face and to conserve PCAOB resources, without undermining or ignoring the PCAOB's statutory requirements. The more independent and rigorous a home-country system, the higher the PCAOB's reliance on that system. The reforms introduced by the CLERP 9 Act have significantly enhanced Australia's auditor independence regime. In particular, the key regulatory role is played by ASIC as the statutory regulator, which is completely independent of the audit profession. This is a key determinant for PCAOB assessment of non-US based audit regulation regimes.
The other key determinant is the scope and adequacy of inspection programmes undertaken by the non-US audit regulator. For Australian companies and auditors, this means the auditor inspection programme undertaken by ASIC. The existing ASIC programme has been upgraded as part of the CLERP 9 implementation process. However, further modifications will be required to ASIC's audit information-gathering powers in order to take account of the PCAOB's requirements.
Canada and the UK have already concluded cooperative audit inspection arrangements with the PCAOB.
The audit function plays a key role in relation to the efficiency of capital markets and the independent auditor constitutes the principal external check on the integrity of financial statements. Auditor independence is fundamental to the credibility and reliability of auditor's reports. Auditor independence can be compromised by bias, conflict of interest or susceptibility to undue influence or pressure.
The SOX Act was enacted in 2002 in response to a series of major financial scandals in the US involving once prominent companies such as Enron, Worldcom, Tyco and others which undermined investor confidence in the integrity of the US securities markets. Among its goals, the SOX Act sought to:
- restore confidence in the accounting profession;
- improve corporate disclosure and financial reporting;
- strengthen the enforcement powers of the SEC and establish the PCAOB to create an independent regulatory board to oversee the accounting profession.
While Australia did not experience the same level of financial scandal or corporate governance concern as in the US, there was widespread concern about the efficacy of the audit function and some aspects of financial reporting in the wake of a number of corporate collapses, including HIH. The major audit and financial reporting reforms contained in the CLERP 9 Act include auditing standards being given the force of law, the introduction of a comprehensive auditor independence regime, enhanced executive remuneration disclosure, requiring CEO/CFO sign off of listed company accounts, strengthening the role of ASIC in relation to compliance with, and enforcement of, the audit process and financial reporting, and giving the Financial Reporting Council new monitoring and advisory functions in relation to auditor independence and a new role to oversee the setting of auditing standards.
There is potential for substantial regulatory duplication between the Australian audit regime (as enhanced by the CLERP 9 Act) and the US rules as they apply to the audit process. The concurrent but separate inspection programmes will lead to inefficiencies and increased regulatory complexity which will result in increased compliance burdens and costs for Australian companies that seek to raise capital within the US markets and their Australian auditors.
While the PCAOB is prepared to rely on the home jurisdiction's information-gathering powers for purposes of an audit inspection, the US still requires compliance by non-US based auditors with the US audit requirements, including registration with the PCAOB.
The objective of any action to address the problem of regulatory duplication posed by similar yet separate regulatory regimes in relation to Australian auditors registered with the PCAOB is to provide a legal framework to enable ASIC to cooperate with the PCAOB to ensure the streamlining of the information-gathering process, within a single, joint audit inspection process.
Identification of options
One option is for ASIC not to seek a cooperative arrangement with the PCAOB in relation to a joint inspection process in respect of Australian auditors registered with the PCAOB. This will result in Australian auditors being subject to two separate inspections by ASIC and the PCAOB.
The second option is for ASIC to enter into a cooperative arrangement with the PCAOB to ensure that Australian auditors that are registered with the PCAOB are subject to a single, joint inspection process by ASIC and the PCAOB in relation to the firm's compliance with Australian and US audit requirements.
This would require some amendments to the Australian Securities and Investments Commission Act 2001 (the ASIC Act) to support the co-operative arrangements entered into between ASIC and the PCAOB. The amendments to the ASIC Act would cover the following matters:
ASIC would require a power and functions relating to the entering into of a co-operative arrangement with a regulatory body of a foreign country so that ASIC could assist the foreign regulator to ascertain compliance by an Australian audit firm with the audit requirements of the foreign country.
ASIC's power to enter such arrangements would be expressed in general terms and would not be 'PCAOB specific'. The legislation should enable ASIC, in the future, to enter into similar co-operative arrangements on audit regulation with regulatory bodies from other foreign jurisdictions. With the advent of global capital markets, cross-border operations by multinational corporations and the development of international accounting and auditing standards, it is possible that ASIC will in the future become involved in co-operative audit inspection programmes with regulators in other foreign jurisdictions.
The legislation would require ASIC to publish a notice in the Gazette after it had entered into an arrangement with a foreign regulatory body which would identify the foreign body, give brief particulars of the arrangement and identify the audit requirements to which the arrangement relates. The notice would be published for purposes of certainty and transparency. The foreign laws, regulations and rules would be required to be identified in a generic form and at a sufficiently high level.
ASIC would be required to include in its annual report information about the activities it has undertaken during the reporting period in relation to audit inspections under a foreign audit regulation programme.
ASIC's information-gathering powers in relation to audit inspections would be enhanced to ensure that ASIC could participate in joint audit inspections with the PCAOB. The amendments would empower ASIC to seek information from an Australian auditor about the auditor's compliance with audit requirements applying to the auditor under a foreign law covered by a co-operative audit arrangement between ASIC and a foreign regulatory body. ASIC's enhanced information gathering powers would also apply to ASIC's domestic audit functions both to reduce compliance costs and to clarify uncertainty about the scope of its existing audit inspection powers which the Financial Reporting Council (FRC) identified in the FRC's 2004-05 Report on Auditor Independence.
ASIC's existing power to provide information to a foreign government or agency of a foreign government would need to be expanded to authorise disclosure to a foreign body, which, although not an agency of a foreign country, performs regulatory functions conferred on it under a law of that foreign country. This amendment is necessary because the PCAOB, while established under the SOX Act, and given regulatory functions under the SOX Act, is expressly described as not being 'an agency or establishment' of the US Government.
The PCAOB's policy in relation to recognition of home jurisdiction regulation of the audit inspection process may allow for some intermediate approach, such as closer working co-operation between the PCAOB and the foreign regulator. However, as such an approach would not involve the elimination of additional costs to Australian auditors arising from duplication of the inspection process; such an option has not been considered further.
Impact group identification
The proposed US-Australian audit regulation programme between ASIC and the PCAOB will impact on:
The audits of Australian companies that are US registrants. There are currently 24 such companies, including many of Australia's largest companies.
Australian auditors who are registered with the PCAOB. There are currently 36 registrations with the PCAOB by Australian audit firms.
While every auditor registered with the PCAOB, is required to be inspected by the PCAOB, the PCAOB proposes to give priority to the inspections of the five major Australian audit firms that audit the Australian companies that are US registrants. It is understood that the other Australian firms registered with the PCAOB are involved in US related audit work on an agency basis for overseas audit firms registered with the PCAOB.
Australian companies and their auditors which are subsidiaries of a US or other overseas parent company where the PCAOB requires compliance with the SOX Act audit requirements by the parent company and its subsidiaries.
Analysis of the impact of options 1 and 2
Option 1 - Benefits
Having regard to the fact that the problem identified relates to the inefficiencies, complexity and additional cost that will result from Australian auditors and their Australian audit clients being subject to two concurrent but separate audit regulatory systems, no benefits, from a regulatory impact perspective have been identified. In terms of budgetary implications, there would be a benefit in that there would be no new cost to ASIC.
The arguments that ASIC should only focus on domestic audit compliance and that the number of companies and auditors affected by the US requirements are insignificant can be rebutted on a number of grounds:
The companies involved are among the most economically significant in the Australian corporate sector and the auditors include all of Australia's major audit firms.
The US capital markets are the most important fund raising markets globally and access to those markets is vital for the Australian economy.
Regulatory coordination and cooperation among the world's securities and audit regulators is of great importance because of the expansion of global business, international capital flows and cross-border holdings and transactions.
A cooperative audit arrangement between ASIC and the PCAOB will enhance the credibility and reputation of Australia's capital markets.
The proposed cooperation between ASIC and the PCAOB on audit inspections may be a stepping stone to further agreement on mutual recognition arrangements between Australia and the US in the area of corporate regulation more generally.
One of ASIC's existing objectives under the ASIC Act is to strive to reduce business costs.
Option 1 - Costs
It would be necessary for Australian auditors subject to the US audit requirements to accommodate two separate audit inspection processes in relation to the Australian and US regulatory regimes. In particular, the ASIC and PCAOB audit inspection processes would be quite separate and uncoordinated which would provide no scope for rationalisation of the two inspection regimes.
While inspection costs will be borne by the audit firms in terms of a higher compliance burden, it is anticipated that these costs will be passed onto audit clients in the form of higher audit fees. It is difficult to quantify these costs as the audit fees in relation to particular audit engagements between auditors and their audit clients, including a breakdown of the costs of a particular audit, are not publicly available. It is expected that the costs faced by Australian auditors under Option 1 would include: the cost to the firm of allocating personnel to the inspection process, costs of having personnel available to the inspection team, accommodation and travel costs for the personnel involved, the cost of locating and producing documents, responding to queries, being subject to on-site inspections and responding to draft statements/reports on inspection findings. These costs will be incurred by audit firms subject to Australian inspections by ASIC, and for those firms which are also registered with the PCAOB, similar logistical costs would need to be incurred in order to comply with the separate PCAOB audit inspection requirements.
In their submission on the Government's consultation paper, the seven major audit firms estimated that an ASIC audit inspection would typically involve a large audit firm in a five month project.
Option 2 - Benefits
Eliminating duplicative inspection processes by a single, joint inspection in relation to Australian and US audit requirements will result in significant cost savings for auditors and, if this is reflected in reduced audit fees, for Australian companies.
The benefits of this option will be to eliminate or reduce the costs associated with accommodating two separate audit inspection processes which have been identified above under Option 1.
At a practical working level, under a cooperative arrangement between ASIC and the PCAOB, it is proposed that ASIC and the PCAOB would agree on an audit inspection work programme. ASIC would have the power under the ASIC Act to serve a single notice on the audit firm seeking information relating to the joint audit inspection. Once the firm had provided the required information to ASIC, the information would be passed to the PCAOB which would assess the information in light of the US audit requirements. ASIC would assess the information received from the audit firm in light of the Australian audit requirements. The PCAOB generally considers that it would deal directly with the audit firm in relation to follow-up work relating to the US requirements. PCAOB inspections of Australian audit firms registered with the PCAOB will be undertaken on a triennial basis.
The proposed US-Australian audit regulation programme will facilitate access to US capital markets by removing regulatory duplication. The proposed programme will result in benefits for Australian companies seeking access to US capital markets including:
- enhanced ability to gain cost-effective access to those markets;
- reduced audit costs and compliance burdens; and
- flow-on reduced cost of capital.
Option 2 - Costs
There may be some transitional costs for an audit firm in terms of any modifications the firm has to make to its systems to ensure that they are compatible with a joint ASIC/PCAOB arrangement. However, similar transitional costs are also likely to be incurred by an audit firm for purposes of a separate PCAOB inspection (under option 1) because the PCAOB has not yet undertaken the first of its triennial audit inspection programmes in Australia.
ASIC was provided with $6.3 million over three years in the 2005-06 Budget to implement the US-Australian Audit Regulation Programme. The funding will be used by ASIC for the purpose of capacity building in relation to its existing audit regulation program to ensure that it is able to perform its functions effectively under the proposed ASIC/PCAOB cooperative audit arrangement. ASIC proposes to develop and agree clear plans with the PCAOB for the conduct of joint inspections. The PCAOB's methodology closely aligns with the existing methodologies that ASIC has developed.
The Government released a consultation paper Audit Inspection Powers of the Australian Securities and Investments Commission on 30 September 2005 which discussed the proposals necessary in order to provide a legal framework to enable ASIC to cooperate in a joint audit inspection arrangement with the PCAOB and to clarify ASIC's information-gathering powers in relation to audit inspections. The period for public submissions closed on 18 November 2005.
ASIC, the Australian Bankers Association (ABA), the Group of 100 (G100) and the Australian Shareholders Association (ASA) broadly supported the proposals.
The ABA noted the significant compliance costs imposed by the SOX Act on Australian companies registered with the SEC (including all the major banks) and on their auditors. The ABA said that it was approaching the proposals in the consultation paper primarily on the basis that if some or all of the proposals are implemented, the prospects of reciprocal recognition of Australia's corporate regulatory system by the US (and other overseas countries) will be significantly improved.
ASIC said that it regarded the proposals as an essential contribution to Australia's ability to participate in a more effective means of regulating, on a cross-border basis, the global audit of global entities. ASIC considered that this in turn, would contribute to Australia's reputation in global capital markets as a well regulated, but efficient, place to do business.
Following the close of the consultation period, the Government held extensive discussions with ASIC, the professional accounting bodies and the five major audit firms who will be primarily affected by the proposed ASIC/PCAOB joint audit inspections. The main focus of these discussions involved concerns raised about the scope of ASIC's enhanced information-gathering powers in relation to audit inspections. After the consultation period ended, the Business Council of Australia wrote to the Parliamentary Secretary to the Treasurer noting the concerns raised by the audit firms and urging the Government to give serious consideration to them.
The major audit firms and the professional accounting bodies were particularly concerned about the proposal in the consultation paper that ASIC would be given the power to replicate the PCAOB's functions and conduct an inspection on its behalf, including the power to form conclusions as to an Australian audit firm's compliance with US audit requirements. They argued that such an arrangement would lead to an unnecessary overlay of additional regulation.
The audit firms said that PCAOB inspectors had particular expertise in US accounting and auditing standards. In order to support the US regime, the major audit firms had developed US accounting and auditing desks and built up direct links in dealing with the PCAOB and the SEC. The audit firms argued that because of the specialist expertise required in relation to US audit requirements, it would be more efficient if the Australian audit firms were able to deal directly with PCAOB inspectors after the initial information-gathering stage of a joint inspection had been completed.
The PCAOB has now also come to the view that it cannot delegate to a foreign regulator the power to undertake an audit inspection on its behalf, including the delegation of power which would involve the foreign regulator forming conclusions as to compliance with US audit requirements, as such an arrangement would result in the PCAOB failing to discharge its statutory obligations under the SOX Act.
Having regard to the position adopted by the PCAOB, and in order to address the concerns of the audit firms and the professional accounting bodies, the Government decided to reduce the scope of ASIC's role under a joint inspection arrangement with the PCAOB so that it related to the provision of information-gathering and other assistance to the PCAOB in undertaking its audit inspection functions, rather than ASIC being given the power to conduct an audit inspection on behalf of the PCAOB and to form conclusions as to an Australian audit firm's compliance with the US audit requirements.
The audit firms and the professional accounting bodies are satisfied that this change to the initial proposals addresses their fundamental concern that if ASIC were to replicate the PCAOB's role in Australia, it would involve an additional layer of regulation and increased costs for the audit firms.
The Government also decided to make two further changes to the legislative aspects of the initial proposals in light of its discussions with the audit firms:
- a new transparency provision will be included that will require ASIC to inform an Australian auditor of the details of any information or books which ASIC has obtained from the auditor and passed onto a foreign regulator in accordance with an agreement or arrangement ASIC has entered into with the foreign regulator; and
- the proposal that an auditor should be required to provide all reasonable assistance to ASIC in relation to the performance of ASIC's audit functions will not be proceeded with. The deletion of this proposed measure addresses concerns raised by the audit firms as to the extent of ASIC's powers under the proposed requirement and how ASIC might exercise this power.
The Chairman of the Financial Reporting Council (FRC) also wrote to the Parliamentary Secretary to the Treasurer after the consultation period had ended to provide an FRC perspective on the ASIC audit inspection powers proposals. The Chairman said that while the FRC had not been able to reach a consensus on the proposals, he said that minimising the compliance burden should be a relevant criterion and this is most likely to be achieved through cooperative arrangements between ASIC and the PCAOB relating to the information gathering process under a single joint inspection of an Australian auditor.
All the following key stakeholders who made submissions on the consultation paper support the proposals:
- the Australian Bankers' Association;
- the Australian Shareholders Association;
- the Group of 100;
- the three main accounting bodies (CPA Australia. The Institute of Chartered Accountants in Australia and the National Institute of Accountants); and
- the major audit firms.
Conclusion and recommended option
It is desirable that a legal framework be established to enable ASIC to enter into a cooperative arrangement with the PCAOB in relation to joint audit inspections of Australian auditors that are registered with the PCAOB. Option 2 is the recommended option.
Option 2 will result in a reduction of the regulatory burden and the level of duplicated processes related to audit inspections which would be involved under Option 1.
While Option 2 does not completely eliminate the compliance costs of the US audit requirements, it represents the best possible outcome in the context of the approach adopted by the PCAOB in relation to non-US based auditors.
If Option 1 is taken, the additional compliance burden will initially be borne by auditors who will need to respond to dual inspections by ASIC and the PCAOB. Those additional costs are likely to be passed on to audit clients in the form of higher fees. Although not quantifiable at this stage, the aggregate annual costs are estimated to be substantially greater than the proposed costs of reducing the regulatory burden by giving ASIC expanded functions under Option 2. Accordingly, there is a strong expectation that the cost savings produced by Option 2 will yield a net benefit.
Implementation and Review
It is anticipated that the required legislation to enable ASIC to undertake the functions under the US-Australian Audit Regulation Programme will be introduced during the 2006 Spring sittings.
ASIC's discussions with the PCAOB are at an advanced stage. ASIC and the PCAOB would hope to be able to finalise their cooperative arrangement shortly after the enactment of the supporting legislation.
There may be an argument that the costs of implementing Option 2 should be borne by the entities that directly benefit from the reduction in the regulatory burden - either the auditors that would be subject to the inspections or the affected client companies (that is, SEC registrants and US and other overseas subsidiaries). It is not, however, proposed that they should pay additional fees in order to recover the costs of ASIC's additional activities. Although it may be possible to charge audit firms for the costs of conducting the additional inspections, this would not be consistent with current practice for ASIC monitoring/compliance functions. ASIC's running costs are paid out of general revenue through a budget appropriation. Those costs, and other costs of the national corporate regulation scheme, are notionally recovered by means of a range of fees and charges imposed on regulated entities generally. Specific regulatory activities of ASIC are generally not dependent upon receipt of revenue from specific fees and charges imposed on a particular market sector. However, the Government has announced that the cost recovery arrangements applying to ASIC are to be reviewed for the 2008-09 Budget.
The Government has decided that the operation of the joint inspection arrangement between ASIC and the PCAOB should be reviewed after the completion of the first round of triennial PCAOB inspections. The PCAOB triennial inspections of Australian audit firms will commence in 2007.
Schedule 2 - Technical amendment to auditing standard provisions
The Office of Regulation Review advised that a Regulation Impact Statement is not required in relation to the amendment in Schedule 2.
Financial impact statement
Implementation of the measures in Schedule 1 to the Bill are expected to require Commonwealth expenditure on an ongoing basis.
In the 2005-06 Budget, it was announced that the Australian Securities and Investments Commission (ASIC) would be provided with additional funding of $6.3 million over three years to support the measures in Schedule 1 to the Bill. Continued funding will be subject to review.
The amendment in Schedule 2 to the Bill has no significant financial impact on Commonwealth expenditure or revenue.
Notes on clauses
Clause 1: Short Title
Upon enactment, the Bill will be known as the Australian Securities and Investments Commission Amendment (Audit Inspection) Act 2006.
Clause 2: Commencement
The covering clauses (Clauses 1, 2 and 3) will commence on the day the Act receives the Royal Assent. The operative provisions of the Act (Schedules 1 and 2) will, in the case of Schedule 1, commence on the day after the Act receives the Royal Assent, and in the case of Schedule 2, at the time set out in the Table of commencement information in Clause 2.
Clause 3: Schedule(s)
The Acts specified in a Schedule to the Bill will be amended or repealed as set out in the applicable items in the Schedules and any other item in a Schedule will have effect according to its terms.
The US Sarbanes-Oxley Act 2002 (the SOX Act) introduced a rigorous corporate governance scheme which has substantially enhanced the US companies and auditors regulation regime. The SOX Act, and the rules made pursuant to it, creates extensive new obligations for companies that access US capital markets; for auditors of those companies; and for auditors indirectly involved in the preparation of audits for US capital market participants.
ASIC has been approached by a number of major Australian companies seeking to minimise US-Australian regulatory duplication created by the concurrent operation of both the Australian regime (as enhanced by the Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Act 2004 (the CLERP 9 Act) and the US regime. These companies acknowledge the need for US-based capital raising rules to apply to US activities but point to the potential for substantial regulatory duplication between the Australian regime and the US rules as they apply more generally, including to the audit process.
Many of the SOX Act obligations relate not only to the activities directly undertaken in the US, but also to the structure and operation of the activities of the companies and auditors in Australia. This could result in an increased burden for Australian companies that seek to raise capital within US capital markets, or to have their securities listed on US markets. The SOX Act also has extensive ramifications for Australian auditors involved in the audit of entities regulated by SOX Act provisions.
Compliance with the SOX Act subjects public accounting firms, including Australian auditors, to:
- mandatory registration, payment of fees and submission of periodic reports to the PCAOB;
- compliance and cooperation with the PCAOB's standards, inspections and disciplinary process; and
- specific auditor independence requirements.
Discussions between ASIC and the PCAOB have identified potential for significant rationalisation of the two regimes applying to the audit inspection process. ASIC is continuing its discussions with the PCAOB with the aim of securing agreement on a cooperative arrangement relating to joint inspections of Australian audit firms that are subject to both Australian and US audit requirements.
It is proposed that the co-operative arrangement between ASIC and the PCAOB will be governed by a Statement of Protocol agreed by the two bodies. The purpose of the protocol is to set forth the intent of ASIC and the PCAOB in relation to the procedures for co-operating in the oversight of auditors subject to the regulatory jurisdiction of both ASIC and the PCAOB.
The amendments in the Bill are necessary to support the proposed US-Australian Audit Regulation Programme.
Description of principal changes
The proposed new provisions in Schedule 1 of the Bill will provide a legislative framework to support ASIC entering into an agreement or arrangement with a foreign regulatory body in relation to audit regulation and will also provide ASIC with enhanced information-gathering powers in relation to audit inspections.
The proposed principal amendments to the ASIC Act fall into five categories:
- the proposed provisions in item 1 of Schedule 1 will empower ASIC to enter into cooperative arrangements with foreign regulatory bodies relating to audit regulation;
- the proposed provisions in items 2, 3 and 4 of Schedule 1 will enhance ASIC's powers in relation to the inspection of an auditor's books and in relation to the seeking of information from an auditor about audit-related matters;
- the proposed provisions in item 11 will require ASIC to inform an auditor of the details of information obtained by ASIC from the auditor, in the course of an audit inspection process with a foreign regulatory body, which have been given to the foreign regulatory body;
- the proposed amendments in items 14 and 15 of Schedule 1 will enable ASIC to provide information to a foreign body which, although not an agency of a foreign country, will assist the foreign body to perform a regulatory function conferred on the body by a law of that foreign country; and
- the proposed amendment in item 16 of Schedule 1 will require ASIC to include in its annual report information about the activities it has undertaken during the reporting period in accordance with a co-operative audit regulation arrangement with a foreign regulatory body.
Clause by clause commentary
Australian Securities and Investments Commission Act 2001
Item 1 Subsection 11(9B)
Section 11 of the ASIC Act currently provides for functions and powers to be conferred on ASIC by or under the corporations legislation (defined in section 5 to mean the ASIC Act and the Corporations Act) and for other functions and powers to be conferred on ASIC by the States and Territories.
The existing subsection 11(9B) will be repealed and proposed subsection 11(10) will empower ASIC, with the written consent of the Minister, to enter into an agreement or arrangement with a regulatory body of a foreign country under which ASIC would assist that regulatory body to ascertain, whether Australian auditors (defined in section 5) comply with audit requirements that are imposed by or under laws of that foreign country or adopted as professional standards in that foreign country.
The requirement that the Minister's consent be obtained in relation to an agreement or arrangement between ASIC and a foreign regulator is an important safeguard that will be built into the legislative framework. Proposed subsection 11(11) expressly provides that the Minister may, in writing, vary or revoke the Minister's consent mentioned in subsection 11(10).
Proposed subsection 11(12) will require ASIC to publish a notice in the Gazette, as soon as practicable after entering into an agreement or arrangement with a regulatory body, in which the notice must:
- set out the identifying particulars of the regulatory body (for example, the PCAOB);
- give brief particulars of the agreement or arrangement entered into; and
- identify the audit requirements to which the agreement or arrangement relates.
The notice published in the Gazette under subsection 11(12) is for information purposes only and is not a legislative instrument for the purposes of section 5 of the Legislative Instruments Act 2003 (see proposed subsection 11(13)).
The scope of the new functions conferred on ASIC in relation to audit regulation agreements or arrangements with a regulatory body of a foreign country are described in proposed subsections 11(10) and (14).
Proposed subsection 11(14) confers on ASIC the function of assisting a foreign regulatory body to examine the policies and working practices of an Australian auditor, so as to help the regulatory body to ascertain compliance with audit requirements to which the agreement or arrangement relates.
Proposed subsection 11(14) also confers on ASIC the function of disclosing to a regulatory body with which it has entered into an agreement or arrangement under subsection 11(10), the information that ASIC has obtained in assisting in such an examination.
Proposed subsection 11(15) makes it clear that in performing a function referred to in paragraph 11(14)(a), ASIC may inquire into policies and working practices of an auditor in general and/or in their application to particular audits.
It is noted that proposed subsections 11(10), (14) and (15) attract the protection against liability for damages for ASIC, an ASIC member, ASIC staff member and other persons referred to in section 246 of the ASIC Act for 'an act done or omitted in good faith in performance or purported performance of any function, or in exercise or purported exercise of any power, conferred or expressed to be conferred by or under the corporations legislation'.
Proposed subsection 11(16) provides that ASIC is not under a duty to perform a function referred to in subsection (14). This provision replicates the position which applies to agreements or arrangements that ASIC enters into with a State or Territory (see subsection 11(9) of the ASIC Act).
Proposed subsection 11(17) replicates the effect of the existing subsection 11(9B) which will be repealed but the new provision also provides that ASIC is not subject to any directions of the Minister in relation to ASIC entering into an agreement or arrangement with a regulatory body of a foreign country referred to in subsection 11(10) or performing functions conferred under subsection 11(14).
Item 2 Division 3 of Part 3 (heading)
Item 2 is a consequential amendment reflecting the inclusion of audit information-gathering powers in this Division.
Item 3 Section 28
Section 28 of the ASIC Act contains a purpose test which limits the circumstances in which ASIC may use its inspection powers contained in Division 3 of Part 3. The proposed amendment in item 3 will exclude ASIC's powers under proposed section 30A from section 28 because proposed subsection 30A(2) will contain its own purpose tests in relation to audit related matters.
Item 4 After section 30
New section 30A Notice to auditors concerning information and books
Item 4 will insert a proposed section 30A which will enhance ASIC's inspection and information-gathering powers in relation to Australian auditors.
At present, under subsection 30(1) of the ASIC Act, ASIC is empowered to seek books (defined in section 5) from an auditor ('an eligible person') in relation to the affairs of a body corporate. ASIC relies on its powers under section 30 for purposes of its enhanced audit enforcement and surveillance responsibilities introduced by the CLERP 9 Act reforms. In addition, ASIC may use subsection 37(9) of the ASIC Act, which gives ASIC the power to require the auditor to explain any matter about the compilation of the books or to which the books relate. The form of these inspection powers under section 30 of the ASIC Act, which pre-date the CLERP 9 Act, are not well adapted to the kind of inspection work now undertaken by ASIC or the inspection work that ASIC would undertake in assisting the PCAOB to undertake an audit inspection. That work involves a general examination of the processes and systems an audit firm has in place to meet its obligations generally, and not just in relation to the affairs of a body corporate. The proposed cooperative arrangement between ASIC and the PCAOB is unlikely to be feasible under ASIC's existing inspection powers.
The Financial Reporting Council (FRC) in its 2004-05 Report on Auditor Independence recommended that ASIC's powers of inspections in relation to audit firms needed to be clarified. The FRC said in its report that it is aware that some of the audit firms are concerned about the extent of ASIC's powers to review the firms and undertake inspection work. The FRC noted that ASIC clearly has the power to inspect an audit of any reporting entity to test its compliance with the Corporations Act, but queries have been raised about its powers to inspect the firms' processes and systems. Proposed section 30A would remove the uncertainty identified by the FRC as to the extent of ASIC's existing powers.
Proposed subsection 30A(1) will empower ASIC to give an Australian auditor a written notice requiring the auditor to give specified information or to produce specified books to ASIC.
ASIC's powers under subsection 30A(1) to obtain specified information or require production of books may only be exercised if they meet the purpose tests in proposed subsection 30A(2) which are directed specifically at audit related matters. These purpose tests are based on the existing purpose tests contained in section 28 of the ASIC Act but modified to apply to audit-related matters. The purpose tests which, if satisfied, would trigger the enhanced information-gathering powers include:
- the performance or exercise of any of ASIC's functions and powers in respect of audit-related matters under Chapter 2M or Part 9.2 or 9.2A of the Corporations Act or under other provisions of that Act that relate to that Chapter or that Part (Corporations Act audit requirements); or
- the performance or exercise of any of ASIC's functions and powers related to audit requirements referred to in proposed subsection 11(10) of the ASIC Act (overseas audit requirements); or
- ascertaining compliance with Corporations Act audit requirements or overseas audit requirements; or
- an alleged or suspected contravention of a law of the Commonwealth, or of a State or Territory in this jurisdiction, being a contravention that relates to an audit matter and that either concerns the management or affairs of a body corporate or involves fraud or dishonesty and relates to a body corporate; or
- an investigation under Division 1 of the ASIC Act relating to a contravention of Corporations Act audit requirements.
Proposed subsection 30A(3) clarifies that the scope of ASIC's powers under subsection 30A(1) includes the power to specify information or books that relate to:
- the policies relating to audit that the auditor has adopted or proposes to adopt, or the procedures relating to audit that the auditor has put in place or proposes to put in place;
- audits the auditor has conducted or proposes to conduct or in which the auditor has participated or proposes to participate; or
- any other matter pertaining to audit that is prescribed by the regulations (there are no proposals for regulations at the present time).
A person responding to a notice under subsection 30A(1) will have qualified privilege in respect of the response (see proposed amendment to paragraph 1289(1)(d) of the Corporations Act under item 17 of Schedule 1).
An auditor must comply with a notice given by ASIC under subsection 30(A)(1), even if giving the information or producing the books would result in a breach of any obligation of confidentiality that the auditor owes an audited body (proposed subsection 30A(4)). This will ensure that an auditor could not be sued by a client on the grounds of breaching client confidentiality if the information was disclosed in order to comply with a notice under section 30A of the ASIC Act.
Proposed subsection 30A(5) provides that ASIC may extend the period within which an auditor who received a notice under subsection 30A(A)(1) must give the information or produce the books to which that notice relates.
Application of legal professional privilege and other privileges recognised under Australian and US laws
Australian and US law on legal professional privilege is different. As a result, the ability of ASIC and the PCAOB to require the production of documents that is subject to such privilege may not be the same.
During the consultation period on the proposals relating to the US - Australian Audit Regulation Programme, the major audit firms raised concerns that the firms and their audit clients may be disadvantaged because ASIC would be able to obtain and pass onto the PCAOB documents which the PCAOB would not be able to obtain directly because of the privilege available under US law.
The requirement for the Minister to consent to the arrangement between the PCAOB and ASIC provides a safeguard against such an outcome. It is expected that in deciding whether to approve any arrangement, the Minister would have regard to whether the arrangement makes adequate provision to ensure that neither ASIC nor the PCAOB would be able to obtain through the other body information or documents which it would not be able to obtain under its own laws because of legal professional privilege or any other privilege (for example the privilege against self-incrimination) recognised under its own laws.
In addition, it is noted that the existing statutory privilege in relation to self-incrimination in section 68 of the ASIC Act will apply to proposed section 30A. This is also the case for the statutory privilege conferred on lawyers relating to legal professional privilege by section 69 of the ASIC Act.
Item 5 Section 33
Item 5 is a drafting amendment consequential upon the proposed amendment under item 6 which will add a new subsection 33(2).
Item 6 At the end of section 33
Proposed subsection 33(2) will enable ASIC to serve a notice on a person (other than the auditor) requiring the production of specified books that are in the person's possession and which relate to the question whether an auditor has complied with Corporations Act audit requirements, or overseas audit requirements, within the meaning of proposed subsection 30A(2).
Item 7 Subsection 34(2)
Proposed subsection 34(2) will expand the scope of the existing subsection by enabling ASIC to limit an authorisation under section 34 by reference to the information that may be required to be given by a person. At present, under subsection 34(2) ASIC can only limit an authorisation by reference to the persons of whom a requirement may be made and/or by reference to the production of books.
Item 8 Subsection 34(3)
Item 8 is a consequential amendment to ensure that subsection 34(3) applies to a requirement made under proposed section 30A.
Item 9 Paragraph 34(3)(c)
Item 9 repeals existing paragraph 34(3)(c) and substitutes proposed paragraphs 34(3)(c) and (d). The proposed amendment will take account of the fact that a written notice issued under proposed section 30A relates not only to the production of specified books but also to specified information.
Item 10 Paragraphs 37(5)(b) and (c)
Section 37 outlines the powers that a person authorised by ASIC has over books that are produced to, or seized by, ASIC under Division 3. Subsection 37(5) sets out the purposes that must be satisfied in relation to the retention of those books by ASIC.
Proposed paragraph 37(5)(b) is a consequential amendment that will ensure that the books can be retained for any of the purposes set out in proposed paragraphs 30A(2)(a), (b) and (d).
The existing paragraph 37(5)(c) provides that it is a legitimate purpose to retain books for so long as is necessary for a decision to be made about whether or not a proceeding, to which the books concerned would be relevant, should be instituted. Proposed paragraph 37(5)(c) will make it clear that this purpose does not apply to ASIC's functions and powers relating to compliance with overseas audit requirements for purposes of paragraphs 30A(2)(a)(ii) and (b)(ii) because in those circumstances, it would be the foreign regulatory body and not ASIC that would have to make a decision whether proceedings should be instituted for contravention of the audit requirements of a foreign country.
Item 11 At the end of Division 3 of Part 3
The purpose of proposed section 39B is to place an obligation on ASIC to inform an auditor of the details of the information, obtained by ASIC from the auditor under a joint inspection process, which ASIC has passed to a foreign regulatory body, such as the PCAOB. The audit firms requested that such a transparency requirement should be imposed on ASIC.
The circumstances in which ASIC will be required to provide such information are set out in proposed subsection 39B(1):
- where an Australian auditor gives information or produces books because of a requirement made under subsection 30A(1) for purposes relating to overseas audit requirements referred to in subparagraph 30A(2)(a)(ii) or 30A(2)(b)(ii); or
- where books in such a requirement are obtained from an Australian auditor under a warrant issued under section 36 of the ASIC Act; or
- where a person gives information or produces books that relate to the question whether an auditor has complied with overseas audit requirements within the meaning of subsection 30A(2) because of a requirement made under subsection 33(2); or
- where such books are obtained by ASIC from a person under a warrant issued under section 36 of the ASIC Act.
Where ASIC has provided information or books, or copies of the books, to a foreign regulatory body with which it has entered in to an agreement or arrangement under subsection 11(10), proposed subsection 39B(2) requires ASIC, within 14 days of doing so, to notify the Australian auditor or person in writing of the details of the information or books, or copies, given to the foreign regulatory body.
Item 12 Paragraph 63(1)(c)
Subsection 63(1) of the ASIC Act is an offence provision which provides that a person must not intentionally or recklessly fail to comply with specified requirements made under Part 3 of the Act. The penalty for contravention of subsection (1) is 100 penalty units or imprisonment for two years, or both.
The purpose of the amendment to paragraph 63(1)(c) is to ensure that the requirements under proposed section 30A are brought within the scope of subsection 63(1).
Item 13 After paragraph 80(1)(a)
Section 80 of the ASIC Act provides for the admissibility in evidence of copies of, or extracts from, certain books. The amendment in item 13 will ensure that a copy of, or an extract from a book relating to an audit-related matter referred to in proposed subparagraph 30A(2)(a)(i) will be admissible in evidence in a proceeding in court or other proceeding (as defined in section 5).
Item 14 After paragraph 127(4)(c)
Paragraph 127(4)(c) of the ASIC Act authorises ASIC to disclose information to a government or an agency of a foreign country. This provision would not empower ASIC to pass information to a regulatory body such as the PCAOB because the status of the PCAOB is expressly described in the SOX Act as not being 'an agency or establishment of the United States Government'. The SOX Act refers to the PCAOB as a body corporate operating as a non-profit corporation.
Proposed paragraph 127(4)(ca) will authorise ASIC to furnish information to a foreign body which will enable or assist the foreign body, although not an agency of a foreign country , to perform a regulatory function, or to exercise a related power, conferred on the body by or under a law in force in that foreign country. The PCAOB would fall within the ambit of proposed paragraph 127(4)(ca).
The PCAOB is subject to stringent confidentiality requirements under subsection 105(5) of the SOX Act which are comparable to the strong confidentiality protections which apply to documents and information that are provided to ASIC.
Item 15 Subsection 127(4)
Item 15 is a drafting amendment consequential on the insertion of proposed paragraph 127(4)(ca).
Item 16 After subsection 138(2)
Section 138 of the ASIC Act sets out the additional matters that ASIC must include in its annual report for the purposes of section 9 of the Commonwealth Authorities and Companies Act 1997.
Proposed subsection 138(3) will require ASIC to include in its annual report information about the activities that ASIC has undertaken during the reporting period in accordance with each agreement or arrangement that ASIC has entered into with a foreign regulatory body in relation to audit regulation.
Corporations Act 2001
Item 17 Paragraph 1289(1)(d)
Section 1289 of the Corporations Act sets out the circumstances where an auditor and other persons enjoy qualified privilege.
The proposed amendment to paragraph 1289(1)(d) will ensure that an Australian auditor who responds to a notice under proposed subsection 30A(1) of the ASIC Act has qualified privilege in respect of the response.
Schedule 2 - Technical amendment to auditing standard provisions
Subsection 1455(5) of the Corporations Act provides relief from criminal penalties where an audit is not conducted in accordance with auditing standards and the contravention occurs prior to 1 July 2006.
The relief under subsection 1455(5) was granted because the auditing standards prior to 1 July 2006 were made by the professional accounting bodies, rather than the Auditing and Assurance Standards Board (AUASB) and as a consequence the drafting is not as precise as that usually contained in an instrument intended to have force of law.
While the life of the auditing standards made by the professional accounting bodies was originally limited under section 1455 by providing that they ceased to have effect in relation to financial reports for periods ending after 30 June 2006, regulations were subsequently made under section 1455 to provide that the professional standards listed in Regulation 10.5.01 of the Corporations Regulations 2001 cease to have effect in relation to financial reports for periods ending after 29 June 2007 (instead of 30 June 2006).
The extension of the life of the auditing standards made by the professional accounting bodies was necessary because the new auditing standards made by the AUASB for purposes of the Corporations Act, would only apply to periods ending on or after 30 June 2007, and if the life of the standards made by the professional accounting bodies had not been extended, there would be no auditing standards with force of law applicable to audits of financial reports for periods ending after 30 June 2006 and on or before 29 June 2007.
The purpose of the technical amendment is to ensure that the current immunity against criminal liability under subsection 1455(5) is extended to cover all financial reports for periods ending on or before 29 June 2007 that are audited using those standards made by the professional accounting bodies.
Description of principal changes
The proposed amendment to subsection 1455(5) would extend the current immunity against contravention of an auditing standard listed in sub-regulation 10.5.01 of the Corporations Regulations 2001 beyond 30 June 2006 to cover all financial reports for periods ending on or before 29 June 2007 that are audited using those standards.
Clause by clause commentary
Corporations Act 2001
Item 1 Subsection 1455(5)
The effect of the proposed amendment to subsection 1455(5) is to extend the application of the period of relief from criminal liability beyond 1 July 2006 until the standards made by the professional accounting bodies cease to have effect as an auditing standard. The standards made by the professional accounting bodies cease to have effect for purpose of the Corporations Act on 29 June 2007.