A review of non-audit fees in relation to overall audit fees is an interesting comparison, as the SEC considers high non-audit fees to be an auditor independence concern. If an auditor earns a large amount of fees performing non-audit fee assignments, this dynamic may, over time, subconsciously undermine an auditor’s professional skepticism while performing an independent audit.
To address the concern that an auditor performing non-audit services may interfere with independence, the SEC created audit fee categories that registrants are required to disclose: audit fees, audit related fees, tax fees, and all other fees. All categories, except audit fees, combined are considered “non-audit fees.”
There are many non-audit services that audit firms perform for clients that do not impair independence. Audit related services are permitted if they reasonably relate to the performance of the audit or review of consolidated financial statements. Examples of the services in each category include:
- Audit Related Fees: Services rendered in connection with filing registration statements, accounting consultations, audits of portfolios to comply with contract requirements, due diligence services related to business combinations
- Tax Fees: Tax return preparations and related compliance matters including accounting methods and tax credits, tax planning advice, assistance with tax audits, tax assistance regarding mergers and acquisitions.
- Other Fees: Fees to access proprietary accounting software, strategic advisory services, benchmarking services.
Additionally, there are other standards that govern an audit firm performing non-audit services aimed at ensuring independence. For example, when non-audit services are performed, PCAOB Rule 3525 requires an auditor to describe in writing to the audit committee the scope of the work, discuss with the audit committee potential effects on independence, and document the independence discussion.
Considering the recent attention given to auditor independence and the effect that non-audit services may have on independence, Audit Analytics reviewed 2018 non-audit fees among the S&P 500.
Audit related fees can be viewed as a component of audit fees or non-audit fees. For this reason, this analysis looks at non-audit fees both including and excluding audit related fees.
As would be expected, nearly 58% of S&P 500 companies disclosed non-audit fees (including audit related) that were 20% or less of total fees in 2018. When looking at non-audit fees excluding audit related fees, 81% of S&P 500 companies had non-audit fees that were 20% or less of total fees in 2018.
There are many events that can affect non-audit fees that do not indicate an issue with auditor independence. Due to this, looking at companies with high non-audit fees isolated from certain factors is useful to provide a more granular look at potential red flags.
In order to easily view significant non-audit fees, the Accounting Quality + Risk Matrix (AQRM) powered by Audit Analytics automatically generates a flag in circumstances where non-audit fees total more than 25% of total fees, in the absence of certain events that could affect fees, including:
- Merger & acquisition activity comprising more than 20% of a company’s market capitalization occurring in the previous two years.
- An IPO occurring in the previous two years.
- An auditor change occurring in the previous two years.
As can be seen below, the amount of companies with significant non-audit fees notably decreases when excluding companies that have experienced routine events expected to impact non-audit fees:
Around 9.5% of S&P 500 companies had non-audit fees greater than 25% of total fees in 2018. While high non-audit fees exclusively are not a red flag, they can serve as an indicator for investors and other users of financial statements to review what factors are contributing to the fees in each disclosed fee category and potentially look closer at services that have been characterized as non-audit work.
For further discussion regarding recent trends in audit fees and non-audit fees, see the recent Audit Analytics report: Seventeen Year Review of Audit Fee and Non-Audit Fee Trends.
This analysis was created using the Accounting Quality Risk and Audit Fee databases, powered by Audit Analytics.
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