In the last ten years or so I thought there was no real need to radically change corporate reporting and auditing.
My experience suggests that most if not all financial statements of companies I am interested in are adequate for users’ needs and obtain reasonable assurance through their annual statutory audits. If you have time to sift through the guff, the narrative part of annual reports provides interesting information as a bonus. This is because financial statements are hard to “spin” and, if you are prepared to put in the required diligence, occasional anomalies are easy to spot among the boring repetitiveness. And auditors are supposed to check that the narrative part of the annual report does not conflict with the financial statements. While the current corporate reporting and auditing regime in the UK seems to work, we all know it continues to need improving.
Why now and what is it for?
My perspective appears not universally held and there is a general view that trust in corporate UK and statutory audits is lost. It is difficult to ascertain who actually thinks this. Those who argue that we have lost trust in companies and their audits can give reasons and examples but these are not general enough to evidence the system is not working. For most others there is no problem. However, we then come to some recent significant corporate failures (including banks in the financial crisis), which have raised questions on where blame lies for those failures – companies, directors, employees, auditors, customers, investors, regulators, government?
There will never be a clear answer to this and I think primary blame will always be with the directors and management, who are responsible for running the companies, ensuring their sustainability and longevity and, if not, closing them down with minimal loss of value. If the directors and management are missing the warning signs and not responding, then blame will extend to auditors, investors and other key stakeholders who do not challenge and hold to account those directors. Within this mix will be people making bad decisions about how to apply accounting and auditing standards and how to suppress bad news they do not wish to give or do not really know how to deal with.
The Kingman, CMA and Brydon reviews have tried to find the underlying causes of this lack of confidence in corporates, their directors and auditors. The Department for Business, Energy and Industrial Strategy (BEIS) has tried to consolidate this thinking into their proposed reforms to restore trust in audit and corporate governance. Such efforts and coordinated thinking, on top of the financial crisis, other recent corporate failures and the closing down of economies in response to the Covid-19 pandemic are making this a once in a generation time to improve the regime.
Where is this effort going?
CRUF has responded to the BEIS consultation and is supportive of the proposals, albeit with some concerns.
My main concern is that the proposals will not necessarily make people do the right thing. This has to come from within themselves and can be encouraged if they get the right support to do so. This support must come from shareholders and auditors questioning and holding to account companies and their directors and management. This is most likely to come about from increased engagement between companies, their shareholders and auditors. Directors, their shareholders and auditors need to listen to each other.
Another concern is that the consultation does not go into enough detail on planning to implement the proposals. Without such detail on resourcing, process and responsibilities, the required changes may go nowhere, which would be a shame considering the efforts put in so far.
We all need to keep up the pressure on BEIS, the UK companies we are interested in (from various points of view – investment, consumption, employment) and their auditors to get the improvements and to restore the trust, where it has been lost, we are looking for.
Charles Henderson is a chartered accountant who takes an active interest in corporate reporting, including auditing, corporate governance and ESG from an investor perspective. He is chairman elect and member of the UK Shareholders’ Association, a member of the FRC’s Advisory Panel and a member of the BEIS Audit Contact Group. He retired from Invesco after 25 years at the end of May 2019.
Disclaimer: The views expressed in the blog are those of the author and do not necessarily represent the views of all CRUF participants and the organisations he belongs to. To read more about the CRUF’s views on this and other topics, please visit the comment letters section of the CRUF website.
2 responses to “Will we see anything come out of the BEIS Restoring trust in audit and corporate governance consultation?”
I believe that a key problem is that, in practice, company management has too much influence on the appointment of auditors. Conversely the shareholder vote on auditor appointment is a meaningless formality.
Instead, auditors of public interest entities should be appointed by an indepdendent body (such as the new ARGA) which would also set their fee.
Charles, thank you for sharing your views. I believe you know mine so my comments, based on a UK perspective on a UK government consultation, are mainly for the wider CRUF audience.
Why things have to change are obvious to me and, focusing on your words ‘financial statements are hard to “spin” and, if you are prepared to put in the required diligence, occasional anomalies are easy to spot’ says it all. Many people do not know how to do this and rely on auditors who, in turn, rely on the audit committee to establish the audit remit before turning to the directors, management and their staff to obtain the relevant information to carry out the audit.
Your words are a reverse image of my thought, that there is an urgent need for financial education that allows people to understand and challenge accounts – not part of this review but should be a government priority.
I fully support the move for better and deeper understanding of risk and controls by directors. If they do not fully understand, how can the auditors and the shareholders get a decent response to any challenge? It negates an effective challenge being demanded of auditors.
The conflicts of interest between the audit firm wanting the contract and appointing company wanting a favourable audit must be reduced.
The lack of auditor choice for FTSE companies is problematic if a company wants to move to another firm, especially with the wider, non-financial, audit remit. But there are two systemic risks that also need to be addressed: 1) one of the BIG 4 disappearing and 2) the effects an oligopoly has on firms’ attitudes and behaviours.
I agree that, whatever we personally favour, we must keep the pressure on BEIS.