PROPOSALS TO REFORM THE FINANCIAL REPORTING COUNCIL. Consultation. Response by Audit Scotland

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1 PROPOSALS TO REFORM THE FINANCIAL REPORTING COUNCIL Consultation Response by Audit Scotland

2 Comments by Audit Scotland Introduction Audit Scotland is the national audit agency which provides audit and support services to the Accounts Commission for Scotland which oversees local government external audit in Scotland and the Auditor General for Scotland who oversees external audit of other local public bodies including health boards and further education colleges. Overall comments Whilst we believe that it is right for all organisations to review their purpose and structure from time to time we firmly believe that one of the FRC s strengths is that acts in an overarching way across a substantial part of the economy. We would therefore not want to see its activities reigned back to only focusing on the listed company segment. In our view the FRC s current activities in the public and public benefit entity sectors are valuable for those sectors and in promoting consistent practices across sectoral boundaries. The paper, at paragraph 2.1, refers to the wide range of activities currently undertaken by the FRC; we see that as part of its strength and therefore that these should continue into the future. In our Code of Audit Practice which applies to the conduct of the vast majority of public sector audits in Scotland we are able to refer to ISAs (UK & Ireland) and to Practice Notes, in particular PN10. The role of the FRC structure in producing the Practice Note helps to ensure consistency of practice across not only all our audits but also those conducted by or for the other National Audit Agencies. With the proposals for the abolition of the Audit Commission in England and the transfer of much of its work to the private sector it is even more important to have an overarching framework for the conduct of public sector audits. Our more detailed responses to those questions where we consider we are well placed to offer comments and suggestions are set out below: Questions 1. Do you have any comments on the case for FRC reform as set out in this document? The case for reform of the conduct side of the FRC s activities is well made. The case for radical reform of the Codes and Standards side is less clear given the expertise necessary for effective standard setting in each of the three areas although a case for evolutionary reform is clearly made. 2. Do you agree that the proposals for reform will bring benefits and increase the effectiveness of the FRC? On the Conduct side giving the FRC greater powers and bringing together the various current activities should improve the effectiveness of the FRC. On the Codes and Standards side it is not clear that having one Committee will increase effectiveness as the span of its activities will be so wide. Any maintenance or improvement in effectiveness will depend on the structure, membership and operating practices of the advisory councils which is not covered in the paper. 3. Do you have any comments on the consultation stage impact assessment? 2

3 4. Should the primary focus for regular FRC activity in relation to codes and standards be publicly traded companies and large private companies? No in our view the current wider focus of the FRC in providing an overarching framework for other areas, in particular the public sector, public benefit entities and smaller private companies is valuable to those sectors and providing consistency and cohesion across the wider economy. If the FRC were not to continue in these areas then others would need to step in with the consequent risks to consistency and potentially to quality. 5. Is the definition of large private company for this purpose an annual turnover of 500m or more - appropriate? 6. Should the scope of the FRC s accountancy disciplinary arrangements be narrowed to cover the quality of work and conduct of accountants in relation to the preparation and audit of annual reports and other reports for the capital markets, leaving other cases of potential misconduct to the professional bodies? No in our view the FRC s focus should be on the most serious cases irrespective of where in the economy they arise. 7. Are there any areas of activity from which the FRC could appropriately withdraw? 8. Do you agree that streamlining the FRC s governance and structure will bring the benefits described? The success of the new structure will heavily depend on the membership of the Board Committees and the structure, membership and operating practices of the advisory councils and other groups. The paper does not describe these in sufficient detail to allow a view to be formed. 9. Do you have any comments on the proposed reformed FRC governance and structure? The principle of ultimate authority resting with the FRC Board is supported. However it is currently unclear how the Board Committees and advisory councils will be structured and how they will work in practice. At present each of the operating boards has access to a wide range of inputs through their own memberships and those of sub committees. Through these arrangements the boards policies and decisions carry substantial authority, weight and acceptance across those parties affected by them. Given that the new Board Committees, particularly Codes and Standards, will cover a very wide range of activities they will inevitably not have amongst their membership the same range and depth of experiences as the current operating boards do. It is therefore essential that the new advisory councils and other groups are able to access the same range of expertise and input in order that the proposals put to the Board Committees and Board have the same degree of credibility as they do now. 3

4 Sub groups have also had an important part to play in the current arrangements especially where the subject matter is highly technical eg financial services or where the subject matter is outside the experiences of the majority of operating board members eg public sector, public benefit entities and smaller companies. Given our views that the FRC s range of activities should remain broad we also consider it essential that the new arrangements continue 10. Do you agree that the FRC should be given powers to determine and require a Recognised Supervisory Body to impose proportionate sanctions, subject to appropriate safeguards, on an audit firm and/or individual auditor in respect of poor quality work? Yes. 11. If not, what are your concerns and how do you believe this issue should be addressed? N/A 12. Do you agree that the FRC should have the ability to make its own rules for the independent disciplinary arrangements without being required to obtain the agreement of the accountancy professional bodies? Yes on the basis that formal public consultation should be undertaken on any proposed rule changes with publication of feedback from the consultation exercise. 13. If not, how would you propose the FRC demonstrates its independence in this regard? N/A 14. Should the FRC be able to take more proportionate, nuanced action against a Recognised Supervisory or Qualifying Body and therefore be given a wider range of enforcement powers against the recognised bodies? In particular, should the FRC be able to: Issue an enforcement order, requiring the body to take specified actions by a specified date, without the need for a court order? Impose conditions on continued recognition as an RSB or RQB? Impose fines on an RSB or RQB and if so, at what level? Yes the FRC should have an appropriate range of sanctions available to it. Given that the professional bodies are membership organisations rather than driven by profit motives it is not clear why the ability to impose fines is necessary in addition to the other types of sanctions set out above 15. Should the Companies Act and the AADB Accountancy Scheme be amended to allow for the conclusion of cases without public hearings where appropriate and where agreed by the parties? 4

5 Given that the FRC is only intended to handle the most serious cases there would need to be a clear framework setting out the factors to be taken into account in order to reduce the risk of potential perception that cases are being kept secret to protect guilty parties. 16. Do you agree that the FRC should develop a mechanism to enable it to undertake supervisory inquiries into matters of concern, either of individual market events or wider market interest, initially building on its current powers to secure information? Yes. We hope that you find our comments helpful and should you require any further information please contact Russell Frith, Assistant Auditor General, Audit Scotland, 110 George Street, Edinburgh, EH2 4LH, rfrith@audit-scotland.gov.uk. 10 January