Audit, corporate reporting and governance reform briefing

Withdrawal of corporate reporting proposals

The government recently withdrew a statutory instrument (SI) which contained proposals to require reporting on internal controls, resilience and distributable reserves amongst other things, and set a new PIE definition (companies with high levels of employment and turnover, sometimes referred to as 750/750 entities). This bill was a long time in the making; Donald Brydon produced the final report leading to these recommendations in 2019 and the instrument has been through extensive consultation and drafting since then. Its withdrawal came as a surprise.

To withdraw legislation after it has been laid for consideration before parliament is extremely unusual.  The last time we can recall this happening in corporate reporting was under Gordon Brown in 2005. The government’s explanation for this was that feedback from the recent review of non-financial reporting regulation indicated concern over increasing costs and reporting burdens.  However, given that the SI was bringing to enacting important changes in corporate reporting arising from extensive market consultation, it is disappointing that these proposals were withdrawn. This decision appears to have been politically driven, having been announced after the usual review process was over and linked to feedback from bodies representing financial services and capital markets resisting further corporate reporting and regulatory burden.

What does this mean for audit reform?

The path forward is not clear.  The government has stated it remains committed to wider audit and corporate governance reform and will produce proposals for a more targeted, simpler and effective framework to implement corporate reporting recommendations. However, provision for reform was not included in the King’s Speech and the Government’s stated intention is to make progress “when parliamentary time allows” which seems unlikely before a general election. This leads us to feel that any audit and corporate governance reform package is not likely to be effective before 2027, although we should have sight of what such reforms may look like before that. 

We hope that the responses received from the review of non-financial reporting will also lead to a package of regulatory improvements, maybe on a faster timescale which might simplify the process for later reforms by streamlining the legislative corporate reporting infrastructure.  While we hope this will happen sooner rather than later it too is subject to the whims of the Government and its priorities for the parliamentary schedule.

What does this mean for the UK Corporate Governance Code?

As a result of the disappearance of the SI, the FRC has withdrawn its latest proposed revision of the UK corporate governance code and intends to replace it with a new streamlined revision.  The draft revision to the Code contained a range of proposals, not all of which were linked to the SI. 

The FRC announced a “policy update” following the King’s Speech in November: it appears that the most substantive proposed changes, other than those designed to reduce or tidy up duplicative requirements and a proposal on reporting on internal controls, will be dropped.  On internal controls, the only steer we have is that the revised internal controls proposals include “allowing more time for [their] implementation and ensuring the UK approach clearly differentiates from the much more intrusive approach adopted in the US”. 

We continue to support Board confirmation of the effectiveness of internal controls over wider operational and compliance risks in addition to those over financial reporting and are pleased that the internal control proposals are retained, albeit they may be subject to amendment before finalisation. However, we are disappointed with the removal of some of the other proposals in the Code which weren’t necessarily reliant on the SI, in particular the dropping of audit committee responsibility for overall integrity of the annual report and specifically for ESG information.

Expansion to the FRC’s remit

The Secretary of State for Business has written to Richard Moriarty, the FRC’s new Chief Executive, to expand the FRC’s remit. The FRC is asked to contribute to wider efforts to promote the competitiveness and growth of the UK economy, and to embed its growth duty across all of its work, whilst seeking to “strike the right balance of supporting continuous improvement, pursuing sanctions against those who flout the rules and acting proportionately and in the public interest”. This appears to be a further indication from the Government of the need to minimise the regulatory burden on business.

The Secretary of State sets out the importance of maintaining the UK’s reputation as a great place to do business and how the FRC must actively look at the proportionality of its rules, both existing rules and any new proposals. In reviewing the Corporate Governance and Stewardship Codes, the FRC is asked to ensure they operate in a flexible way, as intended, under the long-standing ‘comply or explain’ approach. 

If you have any questions, please contact either Paul Winrow or Andrew Jones.