On December 2, 2010 at 12:00 pm a special meeting of the Institute was held to ratify proposed changes to the Rules of Professional Conduct (“RPC”) and related Board Interpretations to permit the lead engagement partner or the engagement quality control reviewer on an audit engagement of a reporting issuer to continue for up to seven years.
In 2010 The CA profession’s Public Trust Committee (“PTC”) formed an Independence Task Force (“ITF”) to consider the efficacy and adequacy of the independence requirements that were introduced in 2003, to consider the recent revisions to the Code of Ethics (“the Code”) issued by the International Ethics Standards Board as they pertain to independence and to determine what changes, if any, may be appropriate to the independence provisions in the RPC.
In April 2010, the ITF issued an Exposure Draft and a Consultation Paper. The Exposure Draft invited feedback on proposed changes to the RPC that the rotation of audit partners of reporting issuers be changed from the current requirement of five years on and five years off to seven years on and two years off. The Consultation Paper invited feedback on the proposal that the independence requirements in the RPC be as close as possible to those contained in the Code. The proposed change to the RPC dealt only with the partner rotation matter that was the subject of the Exposure Draft. The subject of the consultation paper will be addressed in 2011.
The majority of respondents agreed with the proposal in the exposure draft to change the partner rotation requirements from a five/five cycle to seven/two cycle. These respondents included firms, preparers and members of audit committees. The primary focus of their responses dealt with the length of time that a partner could remain on the engagement. These respondents were of the view that the improvement in audit quality generated by the longer association of the partners offset the increased familiarity threat. The respondents also noted that Canada has a significant number of smaller listed entities that are dispersed across the country and serviced by smaller offices that do not necessarily have the depth of partner resources locally to rotate partners within the offices, particularly where industry expertise is required.
While the majority of respondents expressed support for the proposed approach, some from the regulator community expressed certain concerns. One member of the regulator community expressed explicit opposition to the proposal to permit the partners to remain on the audit for seven years. The remainder of the regulator community did not oppose the proposal for a partner to remain on the audit for seven years. The majority of the regulator community, however, disagreed with the proposed two-year time out period because they were of the view that it was insufficient to address the familiarity threat.
In weighing all of the responses received, the ITF was mindful of the regulator community’s mandate for investor protection. The ITF, therefore, concluded that, even though the majority of respondents expressed support, it was not in the public interest to move from a five year time-out period to a two-year time out period. Accordingly, the ITF recommended to the PTC that the rotation cycle change from five/five to seven/five. The PTC agreed with this recommendation and, the recommendation to change the RPC was forwarded to the Provincial Institute/Ordre Council/Board for approval. The ICANL Board approved the proposed changes on September 10, 2010 and on December 2, 2010 held a special meeting whereby the proposed change was ratified by a unanimous vote of all those present.
Accordingly the new Rule pertaining to auditor independence reads as follows:
Rule of Professional Conduct 204.4
Long association of senior personnel with a reporting issuer audit client
| (20) | (a) | (i) | A member shall not continue as the lead engagement partner or the engagement quality control reviewer on an audit engagement of a reporting issuer for more than seven years in total, and shall not thereafter resume or assume either such role until a further five years have elapsed. |
| | | (ii) | In the case of an audit engagement of a reporting issuer that is a mutual fund, the lead engagement partner and the engagement quality control reviewer shall not thereafter resume or assume either such role with the reporting issuer or another mutual fund that is in the same mutual fund complex as the reporting issuer until a further five years have elapsed. |
| | (b) | (i) | A member, who is an audit partner on an audit engagement of a reporting issuer, other than an audit partner referred to in rule 204.4(20)(a), who, during the engagement period, provides more than ten hours of assurance services in connection with the annual financial statements or the interim financial information of the reporting issuer or who is a subsidiary engagement partner with respect to the entity shall not continue in such role or roles for more than seven years in total and shall not thereafter perform the role of audit partner of the reporting issuer until a further two years have elapsed. |
| | | (ii) | In the case of an audit engagement of a reporting issuer that is a mutual fund, the audit partner shall not thereafter perform the role of audit partner of the reporting issuer or another mutual fund that is in the same mutual fund complex as the reporting issuer until a further two years have elapsed. |
Board Interpretation 204.4(20)
J. Long Association of Senior Personnel with an Assurance Client
| 119 | The use of the same senior personnel on the engagement team on an assurance engagement over a long period of time may create a familiarity threat. The significance of such a threat will depend upon factors such as: - the length of time that the particular individual has been on the engagement team;
- the role of that individual on the engagement team;
- the structure of the firm; and
- the nature of the assurance engagement including the complexity of the subject matter and degree of professional judgement needed.
The significance of the threat should be evaluated and, if it is other than clearly insignificant, safeguards should be applied to reduce it to an acceptable level. Such safeguards might include: - discussing the matter with the audit committee;
- replacing the senior personnel on the engagement team;
- involving an additional member of the firm who is not, and never was, on the engagement team to review the work done by the particular individual, or advise as necessary;
- the member or firm is subject to external practice inspection; or
- an independent internal quality review of the assurance work performed by a member of the firm who was not part of the engagement team.
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Audit clients that are reporting issuers
| 120 | Rule 204.4(20)(a)(i) provides that a member may not continue as the lead engagement partner, or the engagement quality control reviewer, for an audit client that is a reporting issuer for more than seven years in total and shall not resume or assume either such role until five years have elapsed since the member ceased to be the lead engagement partner or the engagement quality control reviewer. |
| 120A | Rule 204.4(20)(b)(ii) provides that a member, who is a partner other than the lead engagement partner or the engagement quality control reviewer on the engagement team, providing, during the engagement period, more than ten hours of assurance services in connection with the annual financial statements or interim financial information of the reporting issuer or is a subsidiary engagement partner may not provide such services for a period of more than seven years in total and shall not resume providing such services until two years have elapsed since the member ceased to provide such services. |
| 120B | In the case a reporting issuer that is mutual fund Rules 204.4(20)(a)(ii) and (b)(ii) extend the partner rotation requirements and restrictions described above to mutual funds within the same mutual fund complex, as defined. |
| 120C | The provisions in Rule 204.4(20)(b) do not apply to those “specialty” and “technical” partners who consult with others on the engagement team regarding technical or industry-specific issues, transactions or events, including taxation matters. In addition, the provisions do not apply to those partners who, subsequent to the issuance of the audit report, provide quality control for the engagement. Such partners typically have a low level of involvement with senior management as well as a relatively low level responsibility for overall presentation in the financial statements. |
| 121 | When an audit client becomes a reporting issuer, the length of time the lead engagement partner has served in that capacity should be considered in determining when the partner must be replaced on the engagement team. However, if the lead engagement partner has served in that capacity for five or more fiscal years at the time the client becomes a reporting issuer, such person may continue in that capacity for two or more fiscal years before being replaced as lead engagement partner. |
