Raymond Doherty 5 Feb 2019 05:01pm

We should have done more, FRC boss tells MPs

Stephen Haddrill, Financial Reporting Council (FRC) chief executive, has admitted that he should have been more aggressive in tackling audit quality

“Frankly, I think I should have had more foresight in the wake of the financial crisis than I did,” Haddrill, who has led the accountancy watchdog for almost a decade, told MPs.

Haddrill, Michael Izza, ICAEW chief executive and Maggie McGhee, executive director, governance, Association of Chartered Certified Accountants, were speaking at the Business, Energy and Industrial Strategy (BEIS) Committee’s inquiry into the future of audit in the UK.

In December, a root and branch review of the regulator by Sir John Kingman found that the FRC was a “hangover from a different world” and needed to be replaced by a new independent body with more powers to make a difference.

This new regulator, to be known as the Audit, Reporting and Governance Authority (ARGA), will have a different culture: it will have a statutory objective to serve interests of users of accounts. It will be forward-looking and will promote competition in the audit market.

Haddrill accepted Kingman’s recommendations. “I think we need a statutory body to do this work,” he said. He argued, however, that the FRC has “absolutely” been limited by a lack of powers, which he said he has called for several times.

He agreed that the FRC board should be smaller and appointed by the secretary
of state. Haddrill said he could begin changing the FRC board in March if the government adopts Kingman’s recommendations.

Asked why he waited until the results of the Kingman Review if he knew that there were improvements to be made, he said, “We could’ve introduced things earlier.

“As an organisation we’ve done an enormous amount,” he said, pointing to auditor rotation and extended audit reports, but he admitted the FRC should have done more to raise powers and “get more attention”.

He contended that the one thing that Kingman got wrong was that the FRC’s US equivalent, the Public Company Accounting Oversight Board, is “tougher and more thorough”.

Izza defended the FRC. “We support a strong regulator. We think the FRC has done a good job throughout its existence.”

He reminded the group that an “awful lot of audits are done to a good standard” and corrected Kingman by saying that self-regulation in the profession “ended about 20 years ago”.

He said that directors and corporate governance in the UK have improved in the past 10 years but could “still take it to another level.”

When pushed on KPMG’s audit of Carillion, which sparked the current spate of reviews into the audit market, Haddrill said that he could not comment on the specifics of an open investigation, but that “in our view it was a poor audit”.

Last month it was revealed KPMG had suspended Peter Meehan, the audit partner responsible for the now collapsed construction services company, over issues related to documentation provided to the FRC.

Three other members of the Carillion audit team, non-partners, have also been suspended while an internal investigation is ongoing, amid concerns that documentation provided to FRC was backdated.

Haddrill admitted that it had not discovered the problem itself, but had found out about it from KPMG self reporting. This was something that committee chair Rachel Reeves found worrying.

Reeves also criticised the FRC for a lack of transparency and the speed at which it acts. “You are sitting on this information. Investors, workers and people with pensions don’t know this information. I don’t think it’s good enough.”

Haddrill conceded that in some cases, “We were slow and we recognise that.”

Haddrill said that some auditors are failing to challenge the company sufficiently and that “you should be concerned” about audit quality. He questioned whether leaders at the top of the firms are setting the right tone.

Izza said that audit quality is “not where it needs to be” and that there are things that can be done immediately to improve it. He suggested that auditors should be required to make a presentation at the company AGM.

He also said that firms should stop referring to the company being audited as the “client” since it is the investors who are actually the clients. This would be a “small but important” change that gets to the “heart of the culture”, he added. McGhee agreed, adding that more transparency is also needed.

Haddrill suggested that a wider range of penalties should be available to the regulator, not just heavier fines. He cited the ability of regulators in some regions to ban firms from taking on new clients in a particular sector as “worth considering”. McGee said that any punishment should be reflective of firm size.

Izza said that the joint audit proposal “has some merit” but thinks that the proposal to convert the entire FTSE 350 would take five to 10 years which “in our view is far too long”.

He said the best action is a segmented market cap – which would ensure that the audits divested by the Big Four are not just the smallest and create a more balanced and sustainable model for the challenger firms.

Izza said that whatever legislation comes forward, it “needs to be coherent but we can’t wait to make some of these changes because we need to see a change in culture and practice now”.