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About the House, your free colour magazine
 About the House is a free colour feature magazine produced five times a year by the Liaison & Projects Office of the House of Representatives. It covers the varied work of Members of the House, especially Committee investigations.
The magazine is available through the offices of every Member of the House of Representatives, or can be ordered directly through the Liaison & Projects Office (tel: 02 6277 2122, email: liaison.reps@aph.gov.au).
The current About the House magazine is the July/August 2002 edition (Issue 12).
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In the current edition (July/August 2002)
Previous editions
Cover Story - July/August 2002:
On the trail of better auditing
In the wake of recent company collapses, federal parliament's Public Accounts and Audit Committee is investigating independent auditing by registered company auditors. Professor Keith Houghton, who has made a submission to the inquiry, looks at some of the issues the committee will need to confront.
In late 2001 a Texas based energy trading company called Enron became world famous. Enron was the largest corporate collapse North America had ever seen. It was spectacular because of its scale, the speed with which it occurred and the underlying reasons.
The collapse and the subsequent criminal indictment and conviction of Enron's auditors triggered a further set of dramatic consequences. The destruction of the accounting firm Andersen as a global supplier of audit and related services has possibly been more spectacular to some than the collapse of Enron itself.
In Australia, Andersen successfully arranged for its 'integration' with another of the first tier audit firms, Ernst & Young. As a consequence, audit services at the big end of town are now restricted to just four firms-Ernst & Young, KPMG, PricewaterhouseCoopers and Deloitte Touche Tomatsu. These firms, together with a number of so-called 'second tier' firms and local and regional firms, provide audit and related services to a private sector market in Australia worth millions of dollars. This includes major listed companies, smaller private companies, trusts and superannuation funds.
The events in Texas occurred shortly after the Australian collapse of HIH Insurance and the subsequent review of auditor independence known as the Ramsay Report. The Ramsay Report had the advantage of coming quickly after the HIH collapse but the misfortune of being before the more dramatic effects of Enron.
Much of the finger pointing that has gone on since HIH and Enron concerns the extent to which there has been a lack or a perceived lack of an independent audit of financial reports.
The financial reports of a company are primarily the responsibility of a company's management and, in particular, the board of directors. They are the representations of the company's management, crafted with knowledge of the Australian Accounting Standards and other regulatory requirements.
With large listed companies and some other entities, the management knows significantly more about the true underlying facts of a company than those who invest risk capital-namely the shareholders and other stakeholders. The financial reports are an accountability process whereby those shareholders are said to be adequately informed about the performance and position of the company in which they are investing.
As a means of adding integrity and credibility to the financial reports, the corporations legislation requires that companies be audited by an appropriately registered auditor. For the audit to have any value it must be both (1) competent and (2) independent of company management. An audit that is not competent clearly has no value; similarly an audit that is not independent of the management of the company does not add incremental value to the original representations. It is therefore necessary to have both competence and independence for an audit to be worthwhile.
Inspection of the websites of accounting firms, as well as many other information sources, shows that the accounting firms compete vigorously in respect of competence. They have developed industry expertise, specialist databases and new audit technologies to drive up the level of competence.
There is, however, little or no evidence that they compete with regard to the quality of their independent decision making. Indeed, the development of 'relationship management' within some accounting firms sees the audit partners and audit staff developing close working relationships with the management of the companies they audit-closer relationships than they would ever have with the vast majority of shareholders.
Herein lies one of the issues for any inquiry into auditing: who is the client? While the management of the company invariably holds a significant influence with regard to the hire/fire decision of the auditor, those who actually benefit from the audit are the shareholders. How easy is it to juggle the fact that you, the auditor, are hired by party 'A' but must report to party 'B' about the performance of 'A'?
Another important question concerns threats to auditor independence. How can those threats be avoided or minimised?
The threats are many and varied. Some are subtle and others are obvious and easily observed. Perhaps the threat that has gained most exposure of late is the joint supply of audit and non-audit services (such as taxation, information technology, internal audit and the like).
The joint supply of such services can bring potential benefits. If a company wants verification of its taxation provisions there is probably no one better suited to authenticate that calculation than the auditor. The auditor already has knowledge of the systems and issues required to produce that calculation efficiently, accurately and in a timely fashion. This benefit of efficiency is generally true across other non-audit services as the auditor, already having considerable knowledge of the company, can undertake many of those services more efficiently and at lower cost and possibly greater quality than another supplier.
The threat, however, is that the decisions in respect of the audit will be compromised because of the amount of revenue generated from the non-audit services. The additional threat is that the auditor will ultimately be in the position of auditing some of his or her own work or at least work generated from his or her own firm. To the credit of the profession there are many instances in recent months where audit firms have resigned from joint engagements.
A further potential threat comes from the long-term relationship between one audit firm and an auditee company. If the same audit firm has audited a company for 10, 15 or 20 years, it can be said that the independence of the audit is questionable because the relationship often becomes excessively 'comfortable'. A defence to this is that while an auditing firm's partner may develop a very close relationship with the auditee company, it is also true that the auditor knows much more about the auditee company than say someone new to the audit engagement. A long relationship with and knowledge of the auditee will assist the auditor in understanding the integrity of systems and the integrity and competence of the individuals. Just because the relationship is long does not necessarily mean that it is not in the shareholders' best interest.
While these are obvious examples of potential threats to auditor independence, there are many that are more subtle. For example, in negotiations over accounting policy, if the company management finds that the pressures of the auditor are too much, they can subtly signal that they think that it is time the audit engagement was 'reconsidered'. Such subtle threats are hard to observe and difficult to measure. It makes most of them impossible to regulate effectively.
How then can these threats to independence be dealt with?
In broad measure the accounting profession takes the position that self-regulation is a key element in the management of the issues. They also indicate that the number of true underlying audit failures is a very small proportion of the total number of audits performed each year. This is generally true-there are probably tens of thousands of audits of many types of accounting entities undertaken each year and there are probably as few as ten or so which receive considerable public attention (normally in the form of litigation). However, tens of thousands of audits are not subject to close scrutiny. Realistically the denominator in the equation is not the total number of audits but only the number of audits that are closely examined. While there appears to be no statistic that relates to this, it is likely to be in the dozens or scores rather than the thousands.
This is not to say that most auditors are not diligent, honest, hard working people-they are. But the system they are working in is imperfect. When placed under stress, like in the case of some of the recent corporate failures, it is not seen to be coping all that well.
The auditing profession also argues that the problem in auditing is not so much audit failure but a failure of the users of audit opinions to have a grasp of what truly should be expected. This is referred to as the 'expectations gap'.
If one believes in markets then this response is not satisfactory. Think of the simple example of a motor vehicle company that only produces a three-wheeled car with a top speed of 20 kilometres an hour that tips over when placed under strain. In response to consumer complaints about the qualities of this car, the manufacturer might either (1) say the car is fine-the consumer expectations are unreasonable-or (2) produce a product that fits the consumers needs.
One can argue that if the buyers in the market for audit services have an expectation and a need for a particular style of audit then the suppliers, if they wish to satisfy that market, should provide that product or service. Inevitably, though, if the quality demanded by the market for information is higher than what is currently being supplied by auditors, then the fees derived by auditors in supplying this preferred product will rise.
Perhaps the problem is not that there is an 'expectations gap' but that those who have significant influence or control over the engagement process (ie the management) see audit as a compliance (or non-value adding) service which is just a cost to be minimised. The direct value adding is more to shareholders and the like than management (although it is argued that management might also benefit, albeit less directly).
Those who seek a more regulated solution will argue that the problem with auditor independence can be 'fixed' by two regulatory changes: (1) enforced periodic auditor rotation and (2) the banning of joint supply of audit and auditor provided non-audit services. There are potentially unintended and negative consequences to this 'solution'.
Imagine a large listed company called XYZ and an audit market with only four large suppliers with the scale to undertake that audit. Audit firm A is the incumbent auditor and the audit fee is one million dollars per year. Firm B provides tax services for both local and foreign subsidiaries of XYZ for a fee of two million dollars per year. Firm C provides internal audit services to XYZ for two million dollars per year. Firm D provides information technology and internal control consultancies to XYZ for a fee of 1.5 million dollars. At the end of the mandatory rotation period, which of the firms B, C or D will relinquish their lucrative consulting role to undertake the audit? The rational answer is that none of them would.
There would, therefore, be a trade-off. A different (and much smaller) auditor would have to undertake the engagement, with the potential that the audit firm may not have the expertise or scale to undertake the project with the same level of quality. Audits require BOTH independence and competence-institutionalising a trade-off between the two is unlikely to be an adequate if not optimal solution. It might well set up a new set of audit quality problems for the years ahead.
Those in the profession would also widely agree that the first year of an engagement does not provide the highest quality audit obtainable. In the first year there are significant learning costs. Even with this extra and costly time and effort in gaining an understanding of a company's systems, people and controls, the knowledge and expertise in the first year is rarely if ever as good as in a subsequent year. With each year a competent and diligent auditor learns more about the auditee, its controls, its people and the risks and threats it faces. Systematically, therefore, the first year of an audit engagement is never the best. Why then would we institutionalise a sub-optimal audit periodically throughout the market that would have a potentially damaging effect on quality and would markedly drive up costs?
We need a creative and probably very unconventional solution that ensures high quality competence and independence in the audit process. The routine solutions provide sub-optimal answers because we are seeking to maximise both competence and independence simultaneously and not substitute one for the other.
A solution might lie in subjecting audit firms to market pressures that parallel their listed company cousins. Unlike listed companies, audit firms do not have boards of directors that are visible and accountable for the quality of their decision making. If a board manages a company badly, share prices suffer. There is no equivalent market accountability amongst the audit profession. Who are the men and women behind each of the audit firms that are household names?
Part of the solution would be to ensure greater transparency and accountability within the accounting firms, so that the market can make some assessment of their competence as well as their independence of decision making. Creating a structure where registered company auditors are compelled to compete not just on price and competence but also in respect of the quality of their governance (including most importantly auditor independence) may be a key part to a positive future for the audit profession.
Auditing is more than a paragraph or two at the end of a set of financial reports. It is, or at least could become, a high value-adding service. After all, if there were two identical companies (same assets, profits and outlook) and the financial statements of Company A were unaudited while the reports of Company B were competently audited by someone who was and was seen to be independent of B's management, which one of these companies would command a higher share price?
Keith Houghton is the Fitzgerald Professor of Accounting at the University of Melbourne. His submission to the Public Accounts and Audit Committee inquiry into independent auditing by registered company auditors is available at the inquiry website:
www.aph.gov.au/house/committee/jpaa/Indepaudit/inqinde2
The Public Accounts and Audit Committee inquiry, chaired by Bob Charles (Member for La Trobe, Vic), commenced public hearings in June. A public hearing is scheduled for Sydney on 8 July 2002. For more information, visit the inquiry website or contact the committee secretariat, phone (02) 6277 4615 or email jcpa@aph.gov.au
Frank and fearless
He sits at the head of the central table in front of the Speaker's chair in the House of Representatives chamber providing frank and fearless advice on parliamentary practice and procedure. But who is this man in the black robe who works for both sides of the House? Peter Cotton gets a rare interview with the Clerk of the House.
As the ultimate authority on parliamentary procedure, Ian Harris has a unique role in Australian politics.
Mr Harris is Clerk of the House of Representatives. He knows how the place works and how far its rules will stretch.
About 40 per cent of his time is spent advising politicians on both sides of the House as to how they can best use parliamentary procedures to advance their political strategies.
I advise politicians on how to move within the rules, and sometimes how to push those rules, but all such advice is confidential, says Mr Harris. Youd be doing a disservice to your role if you didnt respect confidentiality.
Its his ability to remember the detail of House procedures and precedents that makes Ian Harris right for the job. He refers to his memory as a genetic blessing.
When the Prime Minister comes up to you in the House and asks for your advice on procedure, says Mr Harris, theres no time to go away and think about it. In the heat of parliament, a delayed decision can be as bad as a wrong decision.
You answer, standing there, and youve got to have confidence in what youve said. Thats when memory and intuition come in to play. Ive been stumped by the odd question, but I never let on. And my advice has never been shown to be incorrect.
When government and opposition strategists do deals and talk arrangements behind the Speakers chair, Mr Harris often stands with them helping thrash things out. I fill in the gaps when discussion turns to whats possible in parliamentary procedure, he says. Its a matter of giving all the players access to your knowledge of House practice.
Ian Harris has seen and experienced some pretty strange things during 30 years working in the House of Representatives.
Like the night he looked up from his desk in the House to see a giant chicken lounging on the leather seats of the government front bench.
It was 1987. The parliament still met in the Old House down the Hill.
Mr Harris, then Deputy Clerk, couldnt believe his eyes when he saw the interloper in a chicken suit. A chicken man where a minister should have been.
He alerted the Clerk, and both of them stared slack jawed as the feathered intruder rose and, without a backward glance, strolled from the chamber.
The chicken man, never seen again, became part of the mythology of the Old House in its dying days.
The birds identity was never established, though suspicion quickly fell upon the then Member for Franklin, Bruce Goodluck, who denied involvement.
Some of my colleagues thought it was an outrage, but I thought it was quite funny. There was no real harm done and it showed that members of the House have a sense of humour-that the House is human.
Being able to mask your humanity is a necessity for a parliamentary official when the House is in session. Ian Harris and his staff must not only be neutral, they must exhibit a minimum of emotion in the place.
You hear things that humour you, and things that offend, says Mr Harris. But you must sit there devoid of outward emotion. When the whole House laughs, its usually safe to laugh along, but youve got to be careful.
Ian Harris ability to remain detached was often tested during Bob Hawkes prime ministership. Mr Harris, then Deputy Clerk, sat facing the Prime Minister at the despatch box.
Bob Hawkes method of addressing the place was to lock his eyes on one person and stay with that person for the duration. Whoever he singled out got the full breadth of his emotions, especially during a major speech, says Mr Harris.
Sitting just opposite him as I did, his gaze often fell on me. Once he engaged your eyes, you couldnt break away. You were trapped. And you couldnt nod because that could be seen as you agreeing with what he was saying. Id sit there feeling like a television camera that he was using to deliver his message.
Ian Harris was born in 1945, the day after World War II ended. Mum was at a celebration bonfire for the end of the war and had to leave early because I was on the way, he says. I was a peace baby, but only just.
The Harris family lived in the coal-mining town of Kurri Kurri (NSW), near Cessnock. Kurri Kurri celebrates its centenary this year, and being founded just after Federation, many of the towns streets bear names like Barton, Deakin and Hopetoun.
With those reminders of Federation all around me as a kid, says Mr Harris, I often think I was born to come into the sort of job I have now.
His father and both grandfathers were coal miners, but his father didnt want Ian following him into the mine. Like a lot of coal miners, says Mr Harris, he believed education was the key to a better life.
So Ian Harris went off to university to become a school teacher, and there discovered constitutional history. I loved studying the Constitution, he says. I didnt take the thing to bed with me every night, but as a 20 year old, I relished getting in amongst it and reading the litigation history of the document and figuring out what it meant. I still love reading the history behind the provisions of the Constitution.
Upon graduation, Ian Harris spent three years teaching at schools in the Newcastle area and tutoring at Newcastle University while completing a Master of Arts there.
He was then sent to Canberra to teach. The move was a revelation. After all those years hanging out my clothes in smoke generated by the local BHP blast furnace, he says, I relished the beauty of Canberra with its clean inland climate.
Soon after moving to the national capital, Mr Harris left teaching and joined the Commonwealth public service. By 1972, aged 27, he was working in the House of Representatives as a junior clerk.
Ian Harris climbed the ladder through various promotions and has held the top job, Clerk of the House, for five years. He loves what he does: This is the best job I could ever imagine doing. Its even exceeded my expectations, he says. I love it, and a big part of that is that I love working with people who are as enthusiastic about what they do as I am. I feel that everything I did before made me ready for this.
On the tarnished image of politicians, Ian Harris says thered be a lot less public disenchantment with parliamentarians if people knew how hard they worked.
As for those who criticise politicians for their behaviour in parliament, Mr Harris believes much of the purported outrage is far from heartfelt. Its like when youre watching a football match and a fight breaks out, he says. A lot of people say, Isnt it terrible, theyre fighting, and then immediately reach for their binoculars.
Mr Harris says its understandable that media coverage of parliament concentrates on Question Time, the most volatile stanza in the sitting day. Theres obvious news value in the big clashes that happen in Question Time, so why wouldnt you cover it, he says. The government is trying to make out theyre the best to govern. The opposition is trying to show that theyd be better. Government is at stake and everyones trying to make a point.
A frustration for Mr Harris is that the rest of what goes on in the parliament is usually not reported because its not as exciting or visual. I favour broadcasting parliament over a dedicated parliamentary channel which would be part of a wider menu of cable services, he says. But I wouldnt favour making anyone broadcast it, like we do now with the ABC.
In the absence of a dedicated parliamentary channel, many of the subtle power relationships that shape Australian politics are glossed over by existing media outlets, and this results in many voters having a one dimensional view of how the parliament works.
Some people think the government only has to snap its fingers in this place and everyone jumps to obey, says Mr Harris. But it doesnt work like that. Relationships here are more subtle.
There are also people who believe that executive government has total dominance over the House. Thats wrong too. The government has the numbers, but there are many influences at play in this place. For instance, no Prime Minister has a right to dictate that his legislation be rushed through the House.
Prime Ministers know there are sensitivities that must be taken into account: there are the states, and all sorts of factions to consider, there are procedural constraints, and sometimes the advice has to be that it would be inappropriate to suspend standing orders to get around these constraints on some move a Prime Minister would like to make.
Every Prime Minister and every Leader of the House that Ive been associated with has had high regard for that element of the House. They might have had a burning need to get something done, but they restrained themselves.
About half of Ian Harris time is taken up with the management challenges that come with running the Department of the House of Representatives, which employs more than 200 people.
Another 10 per cent of his time goes to international duties with the Commonwealth Parliamentary Association and the Association of Secretaries General, of which hes Deputy President.
You meet people at association meetings over the years who have a sudden crisis and want your assistance, says Mr Harris. I never tell other parliaments how to act. I merely tell them what might happen in Australia if the Australian parliament found itself in their situation.
Mr Harris says Australia has a role in helping other parliaments, particularly in the Asia-Pacific region. But we must be careful not to be seen as overbearing, coming in and telling people how they must organise themselves, he says. However when it comes to a country like Indonesia, with its vast population, we cant just stand by and watch democracy falter. We have a moral obligation as a world citizen to help out.
Ian Harris keeps bees and loves all sorts of football. As a younger man, he played rugby. These days he follows the ACT Brumbies, and occasionally goes down to his local rugby ground to watch Queanbeyan play. It gives vent to your animal side, he says. A little bit of vicarious violence helps you forget the working week.
When asked how it is that a man in such an elevated position has kept such a low public profile, he draws a parallel between his role and that of the front row forward in rugby.
The front row forward is said to have had a good game when you havent seen him all day, says Mr Harris. Theyve been right in the thick of it, doing all the right things, getting the ball back for their team mates to use, but never doing anything flashy.
I think the Clerk of the House of Representatives has to be a bit like a front row forward, particularly in terms of his public profile, he says. If anyones going to give a view about the House, it should be the Speaker. Even then, the Speaker would normally exercise discretion and not speak in forums or on matters that might give rise to questions about his or her impartiality.
If anybody asked me to speak at the National Press Club as Clerk of the House Id decline, says Ian Harris. In the end, nobody elected me.
Peter Cotton is a freelance journalist from Canberra.
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