Mazars’ views on Government’s response to consultation on White Paper ‘Restoring trust in audit and corporate governance’

A diluted, watered down audit reform package or a more practical proportionate set of proposals. The answer strictly speaking is both in that the general direction has been to reduce or scale back a number of the proposals, especially in the corporate governance arena, but not in the value laden sense adopted by some unhappy at the direction of change when the Government recently published its long-awaited response to the consultation on last year’s White Paper on ‘Restoring trust in audit and corporate governance’. 

Increase in PIE size thresholds reduces risk of regulatory tail  

The decision to increase the size thresholds for private businesses for definition as PIE to companies with turnover in excess £750m and more than 750 employees is definitely a move in the right direction as it will lead to around 600 more PIEs rather than the 1000 or 2000 as previously proposed, the latter doubling the number of existing PIEs. It thus reduces the risk of the regulator’s attention being deflected away from the largest systemically risky businesses by too long a tail of smaller PIEs. Similarly, using the same thresholds for AIM companies, as now proposed, rather than a market capitalisation of 200m euros as in the White Paper makes sense. it is less clear why the new group of PIEs qualifying due to the size threshold should not be expected to have an audit committee or to rotate and retender their audits periodically as these strengthens independence at a justifiable cost.   

Time for all key players to work together to enable MSA to be successfully introduced

The Government deserves credit for retaining the proposals on managed shared audit for most companies in the FTSE350 in the face of much lobbying to remove them. They are essential to strengthen the resilience of the capital markets, especially at the upper end of the fTSE100, where the systemic risk to the economy would be greatest were one of the dominant firms to leave the market, for whatever reason, and it is only two decades since Arthur Andersen did so post-Enron.  Reform is also needed to increase competition and choice and much needed innovation through new entrants bringing new ideas and approaches. Audit market reform has been on the agenda for over 11 years and it is now time for the Big 4, challenger firms, audit committees, the regulators and professional bodies to sit down and agree what needs to be done to enable MSA to be successfully introduced in practice without further delay. 

Proposals on internal controls offer a sensible and proportionate way forward  

The superseding of the original proposal that legislation be introduced requiring boards to attest on the effectiveness of just their financial reporting controls has been replaced by a more extensive and, at the same time,  more pragmatic approach based on strengthening the existing provisions in the UK Corporate Governance Code by calling on the board to confirm all controls are effective whether financial, operational or compliance-based, the wider scope embracing, for example, the vitally important area of sustainability. Guidance will be prepared which will have a key role in ensuring a modern robust UK-specific  system, supported by underlying principles, is put in place for application by premium listed companies in a manner relevant to their circumstances . We also support initiatives to consider how auditors can provide more information on their work on internal controls. 

Scaling back of some other corporate governance measures risks reducing their effectiveness

Directors of PIEs meeting the size thresholds discussed above will be required by law to prepare an Audit and Assurance Policy, Resilience Statements, a directors’ statement on measures to prevent and detect fraud and disclosures on dividends and distributable reserves. Under the proposals in the White Paper all PIEs would have had to comply with these requirements. 

Audit and Assurance Policy

The Audit and Assurance Policy is now sensibly confirmed as lasting for three years, rather than  possibly only one, and with the requirement for a shareholder advisory vote removed. An annual   implementation statement will also be required of the forms of assurance provided on all parts of the annual report.  We had supported mandatory additional assurance in areas such as sustainability and fraud detection given stakeholders’ need for information in these areas but if it is to be achieved, as proposed, by market means instead it will be important for investors and the workforce to encourage boards to seek additional assurance where they consider it will be helpful to stakeholders. 

Dividends and capital maintenance 

On dividends and capital maintenance, large PIEs will be required to disclose the amount of distributable profits or that they are not less than a given amount, a sometimes complex calculation of relatively unclear economic meaning. They will also, perhaps more usefully, be called on to disclose their approach to paying dividends, share buybacks and other capital distributions and how proposed distributions within the year fit within it. The need to confirm that a proposed dividend  will not threaten solvency over the next two years has been removed on the understandable grounds of not having too many alternative forward-looking periods for different items.  

Resilience Statement 

The Resilience Statement, a very useful forward-looking concept, which for companies applying the UK Corporate Governance Code will replace the viability statement, has been amended to allow directors to determine the period it should cover rather than, as previously proposed, extending out for a minimum period of 5 years which may mean there is now only limited change from the conventional three years generally adopted for the viability statement at present. Directors will also only be asked to provide a minimum of one stress test scenario rather than two as previously. 

Directors’ statement on steps taken to prevent and detect fraud 

The proposed statement by directors on steps taken to prevent and detect fraud received strong support and has sensibly been retained as this is an area of concern to a number oi stakeholders. 

Profession must ensure auditing remains relevant to society’s needs   

We support the Government’s decision not to move forward at this time on the concept of ‘corporate audit’ as it was not sufficiently developed but it leaves a deep need to look at how to ensure audit and assurance continues to remain relevant to stakeholders’ needs: what should be assured, the form it should take, the guidance that should be developed, who should provide it and how it should be regulated. The professional bodies and academe as well as the firms have a key role to play in developing leading-edge thinking and practice.  

In addition, we support the Government’s  call for the existing professional bodies to make substantial improvements to auditor qualification, training and skills. In particular, we believe there would be merit in a chartered auditor qualification, within the accountancy profession, for senior auditors to highlight and strengthen their societal role and possibly also a senior qualification for specialists in sustainability assurance  

Making sure ARGA is an improvement regulator and not just a more powerful one

ARGA is being given more powers to enable it to fulfil what would be widely agreed are its necessary roles and the proposed better alignment of directors’ and auditors’ responsibilities is important.  Its success, or otherwise, will, however, be determined by its culture and leadership, how it uses its powers and the extent to which it genuinely is seen as an improvement regulator, This calls for working with directors, auditors, investors, professional bodies, other regulators and the Government to ensure the UK creates a world-class corporate governance system, in practice as well as on paper, and thus is attractive to major new international listings on the capital markets.  To do this, the most able with the right values must be attracted to be directors and auditors of leading companies which requires a regulatory system that is fair and proportionate. More work remains to be done to set out how ARGA will become an improvement regulator with appropriate checks and balances in place.  

Time for a thorough review of corporate governance  

To create a sustainably successful economy, we need an overall vision of the future direction and aims of the ecosystem for promoting entrepreneurship whilst ensuring businesses, auditors, investors, professional bodies and regulators are accountable to the society of which they are an integral part. This requires us to work out cohesively the respective differential overall legal requirements and governance expectations for listed and AIM companies, financial services firms and larger private businesses. We then need to consider what is best dealt with by primary legislation and what by the UK Corporate Governance Code or other codes that might be approved by the regulator such as the QCA Corporate Governance Code or The Wates Corporate Governance Principles for Large Private Companies. The range of PIEs are presently subject to very different governance expectations and a thorough review in this area would be valuable. All PIEs should, for example, at least be expected to have an audit committee with independent non-executive directors on it.   

Looking forward strategically and moving forward at pace  

An effective regulatory system both learns lessons from the past and looks forward to the future. The emphasis until now has been on the former, in the coming months we also need to give more thought to tomorrow. We must, in addition, speed up the pace of change which has been glacial in nature. The current audit reform debate has been going on for over the decade and we still have not yet seen the proposed legislation to implement the necessary reforms. We must now move forward   at a strong pace as we are currently leaving significant economic risks to resilience uncovered.