Appendix 2: Report from the independent reviewer

Annual Report 2015/16.

John R Strahl
150 Riverside Drive
Lower Hutt

19 July 2016

Mrs Lyn Provost
Controller and Auditor-General
P O Box 3928
Wellington 6140

Dear Mrs Provost,


Background and instructions

Pursuant to section 14 of the Public Audit Act 2001,you are the auditor of all public entities. Under section 42 you are authorised to fix the fee payable for all such audits, which must be reasonable.

Audit New Zealand, a business unit of your Office, has a large and competent staff. However, given that there are approximately 3,800 public entities in New Zealand which must be audited, it is impractical for Audit New Zealand itself to carry out all these audits. You thus contract auditors from the private sector to carry out many of these on your behalf. The Office of the Auditor-General (OAG), sets strategy, policy, and standards, and appoints and oversees auditors, both from Audit New Zealand and the auditors contracted from the private sector who carry out audits on your behalf.

You have retained me as an independent party to review the basis upon which auditors, both from Audit New Zealand and the private sector, are appointed to act on your behalf, and to review the basis upon which the audit fees for these audits are determined.

This is my report on that review for the year ended 30 June 2016.

I am a former partner and chairman of law firm DLA Piper New Zealand. I confirm that I am independent of the Office of the Auditor-General, Audit New Zealand and all private sector audit firms.

My instructions are:

".. to review and confirm the probit y and objectivity of the methods and systems used by the Of fice of the Auditor -General to:

  • Allocate and tender audits
  • Monitor the reasonableness of audit fees; and
  • Anything else that impacts on those activities."

There has been no limitation placed on the manner in which I may carry out my work, and I have been free to inspect any documents or files that I have considered appropriate to the review. I confirm that in the conduct of my review I have been given free access to all matters I have requested and have received full co-operation from your Office.

Types of Audit Appointments

In accordance with policies and practices adopted by your Office, there are four main types of audit appointments;

  1. an appointment made of an auditor to an entity, usually for a term of three years, under the Audit Allocation Model (Allocation Model)
  2. an appointment of an auditor for an entity, following a contestable process, if you consider that is appropriate in the given circumstances
  3. a re-appointment of an auditor for a further term, usually 3 years, to audit that same entity
  4. where an audit involves 150 or more budgeted hours, the individual auditor and senior personnel may not undertake the audit work for more than 6 years, thus a new auditor must be appointed, though that may be another person in the same firm.


In the last financial year, the Auditor-General appointed auditors for 53 new entities. That number includes 18 schools or school related entities. Apart from schools, these new entities are mainly subsidiary entities created or acquired by existing entities, but a few were completely new. All of these appointments were made following the principles set out in the 'Allocation Model' on which I will comment later. I observed no evident dissatisfaction by any of those entities to either the appointment made, the terms of appointment, or the proposed audit fee. I conducted a random review of the files relating to several appointments. All were well documented, showed appropriate consideration of the principles of the Allocation Model, good process, and decision making using objective standards.

Re-appointments (other than for schools)

Excluding schools, existing auditors were re-appointed during the last financial year to audit 271 public entities and their subsidiaries for a further term. In addition, in 4 instances a change was made, with a different auditor being appointed in place of an existing one following a change of ownership or control of the public entity. Again, in the case of all 275 appointments covered by this paragraph, I observed no dissatisfaction from any of the entities, and an appropriate process appeared to be followed and in accordance with the principles set out in the Allocation Model.

Appointments of school auditors

The term of appointments for the auditors of all schools and school related entities came to an end once the audits of the financial year ended 31 December 2014 were completed. There are 2,444 schools and school related entities so it was a major exercise in the last year to review and complete appointments for this many entities. Audit New Zealand does not audit any schools and there are 36 different private sector audit service providers who do. Existing audit service providers were re-

appointed, generally for 3 year terms, in respect of 2,120 schools. A change of auditor was effected in respect of 306 schools which included 111where the appointed audit partner joined a different audit firm, or their firms merged. In addition, new auditors were appointed for 18 new schools or school related entities as mentioned above .

The vast majority of these appointments were made in accordance with the Allocation Model. Selected tenders were conducted for 20 schools in the Waikato area and 79 schools in the South Island due to the withdrawal of a previous audit service provider for those schools.

All schools were consulted. Standard guidelines we re provided to all providers to ensure consistency of proposed fees. As interim appointments were made, each appointed auditor, after first obtaining clearance from OAG, provided each school a standard audit proposal letter which included a fee proposal. These have all now been agreed and the appointment process including agreement of the audit fee, is thus complete for all 2,444 entities.

Audit Allocation Model

As can be seen from the appointments above, the vast majority have been made using the Allocation Model with only a few by the use of a contestable basis. The Allocation Model has been the principal method used for appointments since it was first adopted in 2003 and later refreshed in 2010. This is now a well-established and publicised set of principles which are set out in a document entitled; "Appointing public sector auditors and setting audit fees.' It is available on the OAG website

{ISBN-978-0-478-38310-2) and is provided to any entity and auditor when appropriate. It is consistently followed and referred to when issues arise, which almost always results in a better understanding.

I have considered the Allocation Model and whether it remains fit for purpose. The conduct of audits in the public sector is important. They often require specialist expertise, and a careful balance to ensure good quality and consistent auditing at reasonable cost; reasonable to both the entity and the auditor. In these circumstances, I have concluded that these objectives and the balancing required to retain a consistent level of quality is best achieved by use of the Allocation Model as opposed to a pure contestable process in the vast majority of cases . The guidelines and principles documented in the Allocation Model in my view remain appropriate to best achieve these outcomes . While a contestable process has been used in a small number of cases, and while I expect it will continue to be used in individual cases when appropriate, which I consider a reasonable approach, I expect this unlikely to occur very often.

By making appointments in accordance with such a model, given the inherent discretion available, this requires a disciplined and consistent application of the principles of the model when decisions are made. From my review of appointments made during the last year, a careful and consistent process has been followed.

Audit fees

Section 42 of the Public Audit Act 2001 authorises the Auditor-General to set the fee for all audits, and those fees must be reasonable. In the event of a dispute, either party may refer any fee dispute to arbitration.

In practice, at the commencement of every individual audit appointment, the proposed fee is first referred to OAG by the auditor for review to ensure its reasonableness, and it is then provided to the entity for the auditor and entity to agree. The OAG will assist in that process, and has available a

comprehensive data basis of fees in the sector. It is the strong preference of the Auditor-General for the entity and the appointed auditor to then reach agreement, and that is almost always the case.

In the year under review I am aware of only one case where agreement on fees remains outstanding and this is the subject of ongoing discussion with the Auditor -General taking a patient and objective position.

In no case over the last year has the Auditor-General had to exercise her power to fix a fee and not since 2009 has there been a reference to arbitration.

I observed that the OAG has strong and consistent guidelines as to what level of fee is regarded as reasonable . Apart from limited permitted changes due to unexpected additional time requirements or change of scope, increases in hourly rates or overall increases are carefully and strictly monitored. A periodic review of overall movement in audit fees is conducted .

More frequently than on appointment, most issues which arise over fees are during or at the end of an audit. Some arise due to the constrained financial position of particularly small entities. Some arise due to misunderstandings about what is required and sometimes the quality of information provided by the entity, and rework by the auditor as a result, leads to tension. In all cases reviewed, the OAG has shown consistency, care, and patience in helping to resolve these issues.

I also considered the basis of the OAG overhead charge which is passed on to entities as part of the audit fee, and consider the approach reasonable.

Overall I am entirely satisfied that the approach of the Auditor-General has been consistent and reasonable in the process of setting and resolving issues over audit fees.

Issues arising after appointment

While I have observed virtually no disputes over the initial appointment of auditors or the first setting of the audit fee, there are some limited cases of subsequent dissatisfaction . This is most commonly raised by a few entities and only in a very limited number of cases by an auditor . They almost always involve the entity thinking they have to pay too much or that the performance or relationship between the entity and the auditor is not good. It is sometimes both.

The number involved is very small. I have reviewed several of the disputed cases. In all cases the Auditor-General has taken a consistent and objective position and has sought to assist the parties resolve the issue. Objective information has been provided to assist resolution and in a very small number of cases extra support or changed personnel have been introduced. Most are solved by agreement. In a few exceptional cases, the Auditor-General has changed the auditor for the following year.

Appointment of Audit New Zealand

As noted in last year's Reviewer report, the Auditor-General had a freeze on the allocation of any new or the change of any current allocations of audits to Audit New Zealand . That restriction has now ended. Since the restriction came to an end, 15 new appointments have been made to Audit New Zealand - most of them for new subsidiaries of entities which they are already appointed .

Other issues

There are no other material issues which arose in the previous year which in my view warrant comment in this report.


I have been provided full access to all relevant material and free access to the relevant files of the OAG. I have meet with and obtained full explanations to all my queries by OAG personnel and have observed the relevant internal process of the OAG, including as to disclosure of interests. On the basis of that review and the explanations provided, I consider that the policies currently adopted for the allocation of audits and the setting of fees are appropriate and that;

  1. the process and methods used to allocate audits has been conducted fairly, reasonably, and with suitable probity and objectivity;
  2. the approach and process taken to fix and monitor the reasonableness of audit fees has been reasonable having regard to the interest of all parties and has been conducted with suitable probity and objectivity;
  3. the subsequent issues that have arisen for both appointments and fees have been dealt with objectively, fairly, and patiently.

Yours sincerely,

John R Strahl