UK Audit Reform Back on the Agenda
King’s Speech reintroduces legislation that will pave way for FRC replacement regulator ARGA, which will come armed with new powers.
This year’s King’s Speech has unveiled a raft of legislative proposals that will be taken forward by the UK’s freshly appointed Labour government. At the heart of these changes is the long-awaited Draft Audit Reform and Corporate Governance Bill.
The bill introduces a new regulator to replace the Financial Reporting Council (FRC): the Audit, Reporting and Governance Authority (ARGA), which will be given extra powers to tackle poor financial reporting and rebuild trust in auditing processes.
“We are delighted that the government has committed to [the bill] in the King’s Speech,” said Gavin Hayes, Head of Policy and Public Affairs and the Chartered Institute of Internal Auditors. “Ensuring the audit regulator has the legal powers it needs to do its job effectively is vital to restore trust in the audit and corporate governance system, which underpins our economic stability.”
As a revamped regulator, ARGA will be able to better uphold standards and independent scrutiny of companies’ accounts. It will also have more power to investigate and sanction company directors for serious failures in relation to their financial reporting and audit responsibilities – essentially making sure there are consequences for putting forward dodgy accounts.
In addition, ARGA will form a platform through which to enact additional changes – such as a wider remit through the extension of the public-interest entity (PIE) status to the largest private companies to make sure their audits are high-quality. Other projected changes include removing unnecessary rules on smaller PIEs, as well as introducing a regime to oversee the audit market, protect against conflicts of interest at audit firms, and build resilience.
It is hoped that the bill will support long-term investment in UK-based companies by reducing the risk of financial reporting errors and ensuring high-quality audit practices.
“The new government has recognised the urgency of reforming the UK’s audit and corporate governance framework,” said Peter Swabey, Policy and Research Director at The Chartered Governance Institute UK and Ireland. “We are confident that the draft bill will help to restore investor confidence in our equity markets by improving the quality of financial information available to shareholders and other stakeholders.”
The briefing document released shortly after the speech highlighted the significant financial and social ramifications of audit failures, noting Carillion’s 30,000 unpaid subcontractors, £1 billion (US$1.3 billion) of debt and a £500 million pension deficit following its collapse.
In February, the FRC published a summary of its assessment of the barriers to entry and growth faced by audit firms, identifying capacity constraints, recruitment and retention challenges, and regulatory requirements as the biggest obstacles – particularly for smaller firms.
At long last
This reform project will likely come as a relief to many as it had been subject to multiple delays – including when it was controversially omitted from the King’s Speech last year.
Following that omission, the FRC had published a statement watering down proposed changes to the UK Corporate Governance Code.
In the same spirit, the Conservative government announced last year that it would scrapping a bill aiming to strengthen corporate governance reporting requirements for UK companies with a turnover of more than £750 million and with more than 750 employees. Businesses would have had to provide an annual resilience statement, distributable profits figure, material fraud statement, and publish a triennial audit and assurance policy statement.
Throughout, the FRC has been subject to criticism over its limited remit and lack of teeth in dealing with companies’ corporate governance issues.
“The lengthy delays to this legislation have been very disappointing, so the [reintroduction of the bill] is a necessary step – especially in light of recent high-profile corporate failures,” Oscar Warwick Thompson, Head of Policy at UK Sustainable Investment and Finance Association (UKSIF), told ESG Investor.
In its own response to the King’s Speech, the FRC maintained there were serious gaps in the regulatory toolkit that needed to be addressed, so that it could act fully in the public interest.
“Without these changes, we are the regulatory equivalent of being a sheriff for only half the country and with weaker powers than are needed,” argued FRC CEO Richard Moriarty.
The FRC is set to continue working with the UK Department of Business and Trade to develop the draft legislation.
“Putting ARGA on a statutory footing will provide a boost to trust, transparency and accountability in companies, auditors and capital markets, and reinforce the UK as a trusted location for investment,” said Chris Cummings, CEO of the Investment Association.
Other measures covered by the King’s Speech included plans to enhance workers’ rights through the Employment Rights Bill, support for the development of sustainable aviation fuels through the Sustainable Aviation Fuel (Revenue Support Mechanism) Bill, and goals to strengthen the powers of the water regulator through the Water (Special Measures) Bill.
“We urge the government and regulators to take steps as quickly as possible to bring forward this draft bill in parliament and ensure the smooth transition from the FRC to the ARGA,” said Warwick Thompson. “UKSIF [will advocate] for measures that can further promote the UK’s international reputation for strong corporate governance, which is vital to the attractiveness of our markets.”
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