New FRC standard seeks improved audit governanceby
A new accounting standard will force firms to revisit their processes of selecting, retaining and dismissing auditors, as regulators step up efforts to restore trust in the sector.
A new minimum standard for audit committees should ensure businesses focus on quality rather than price when selecting auditors, accounting experts have said.
The Financial Reporting Council (FRC) introduced the standard on Monday as part of a wave of actions designed to restore public trust in the sector following years of scandal and sub-par performance.
Audit committees within the FTSE 350 are the initial target, however the FRC said businesses hoping for entry into the listing bracket among others should also consider adopting the guidance.
Adoption is voluntary for the time being, until legislation comes into force that will make compliance mandatory, and it is intended to complement the UK Corporate Governance Code and the FRC Guidance on Audit Committees.
The incoming Audit, Reporting and Governance Authority (ARGA), which will replace the FRC as industry regulator, will be given powers under new laws to ensure firms are following the guidance.
“We believe that the adoption of this standard will contribute to a stronger and more robust audit market,” said Mark Babington, executive director of regulatory standards at the FRC.
Experts said it may force some businesses to completely overhaul their approach to appointing auditors.
New responsibilities include better management of non-audit relationships with audit firms to ensure fairer choice in future tenders and greater diversity in the market.
Boards must be presented with more informed data regarding the appointment, reappointment and removal of external auditors, along with remuneration and engagement terms.
Shareholders must be consulted on the scope of an external audit, where appropriate, and organisations must ensure the auditor has full access to company staff and records.
One of the most important aspects of the standard concerns challenge by the external auditor, giving due consideration to points raised and making changes to financial statements in response, where appropriate.
Experts welcomed the FRC’s announcement and have urged the regulator to go further.
“This marks a significant step forward for companies listed on the London Stock Exchange and included in the FTSE 350 Index,” said Claudia Suarez, risk management and internal controls specialist at Persimmon Homes.
The guidelines “underline the necessity of transparency, impartiality and quality in the audit process,” she said.
It also encourages a culture where auditors’ questions are valued and sought after, Suarez said.
Businesses must also consider the update in the broader context of existing regulations and frameworks, she added, noting the importance of an active and independent board in overseeing internal controls.
“The new guidelines from FRC reiterate this emphasis, reinforcing the necessity of robust internal controls and stringent audits,” she said.
It also overlaps with the government’s Audit and Assurance Policy as part of the Restoring Trust in Audit and Corporate Governance proposals.
“Together, these guidelines, frameworks and policies serve to uphold and enhance the integrity of the audit process, increase transparency and improve the reliability of corporate financial reporting,” she said.
Businesses “must give due consideration to these interconnected frameworks and standards” when shaping their internal control and audit strategies, Suarez added
“It not only optimises corporate compliance but also helps fortify trust and communication with investors – fostering healthier, more transparent investor-corporate relationships,” she said.
Quality over cost
Association of Chartered Certified Accountants (ACCA) director of professional insights, Mike Suffield, said the industry association was “pleased” to see clarification of the audit committee’s role in engagement and oversight, but more could be done to give a platform to smaller audit firms.
“The standard should support a consistent and high-quality approach on the part of audit committees, with an eye on the government’s objective of broadening the audit market,” he said.
However, he said the FRC should expand on the definition of a “good reason” for impeding challenger auditing firms like Grant Thornton, BDO, Mazars, RSM and others from a prospective tender.
Under the new guidance, audit committees should submit two possible options for the engagement to the board, together with a justified preference for one.
The guidance states: “The tendering process must not preclude the participation of ‘challenger’ audit firms without good reason. There is a strong public interest in audit market diversity and the market as a whole having sufficient resilience, capacity and choice.”
Former PricewaterhouseCoopers audit executive Shahid Karim said the document should ensure firms are appointing the right company to go over their books, rather than the cheapest.
“The choice of auditor should be based on quality, including independence, challenge and technical competence, not price or perceived cultural fit,” he said.
The FRC has sanctioned KPMG multiple times in 2023 for audit failures, most notably for a failed audit of book retailer The Works. The regulator also fined PwC £5.6m for “serious errors” in an audit of engineering firm Babcock.
Ongoing probes include PwC’s audits of failed property group Intu, Deloitte’s 2021 audit of bankrupt clothing retailer Joules, Mazars audits of Studio Retail Group, and BDO’s auditing of NMCN, the construction firm which collapsed owing £60m.