Government to establish new auditing regulator

It’s one of a number of measures outlined in its Restoring trust in audit and corporate governance report, published following a public consultation on the potential reforms to the system. 

As part of this shake-up, the Financial Reporting Council (FRC) will be replaced by the ARGA, which will have tougher enforcement powers funded by a levy on industry. Work on this has already begun, with business secretary Kwasi Kwarteng acting to enable the regulator to ban failing auditors from reviewing large companies’ accounts. 

These reforms will mean, for the first time, the largest private companies - not just those listed on the stock exchange - will come under the scope of the regulator. This has been defined by the government as unlisted companies with more than 750 employees and with an annual turnover of more than £750m. 

Directors of the biggest companies who breach their legal duties to be open with auditors or lie about the state of their firm’s finances will face sanctions such as fines. The government will also act to address “rewards for failure” where bosses pocket bonuses despite their company collapsing. 

In addition to this, large businesses will have to be more transparent about their profits and losses, while providing more information to investors and the public about what they have done to prevent fraud, which company metrics have been independently checked, and the risks their company faces. 

FTSE 350 companies will also be required to conduct part of their audit with a challenger firm, in order to curtail the “unhealthy dominance” of the “Big Four” audit firms. Alongside this, the ARGA will be given the power to make big audit firms keep their audit and non-audit functions operationally separate and enforce a market cap if the market doesn’t improve. 

Commenting on the reforms, Lord Callanan, minister for corporate responsibility, said: “Collapses like Carillion have made it clear that audit needs to improve, and these reforms will ensure the UK sets a global standard. 

"By restoring confidence in audit and corporate reporting we will strengthen the foundations of UK plc, so it can drive growth and job creation across the country.” 

The government also announced that it will review wider reporting burdens on large and small businesses including those from retained EU law. In particular, the government will update the definition of micro-enterprises - which are defined as enterprises that employ fewer than 10 people and whose annual turnover or balance sheet does not exceed €2m (£1.7m). 

The reason for this reform, it says, is because this directive could be forcing too many of Britain’s smallest businesses to spend time and money preparing accounts to a level of detail only needed for larger companies, distracting them from focusing on growth and creating jobs. 

The government will also consider the reporting requirements on smaller public interest entities to help attract high-growth firms and review whether there are unnecessary restrictions on remunerating directors in shares. 

Responding to the reforms, the FRC’s chief executive Sir Jon Thompson, said his organisation welcomes the government’s response to the consultation, but believes its decision not to pursue the introduction of a version of the Sarbanes-Oxley regime was a missed opportunity. 

The Sarbanes-Oxley Act was a federal law introduced in the US which mandates certain practices in financial record keeping and reporting for corporations. The legislation was created by lawmakers to help protect shareholders, employees and the public from accounting errors and fraudulent financial practices. 

Discussing this, Thompson added: “The government’s decision not to pursue the introduction of a version of the Sarbanes-Oxley reporting regime is, the FRC believes, a missed opportunity, to improve internal controls in a proportionate, UK-specific manner. 

“We know that well-run companies contribute to a stronger, healthier economy overall. While we await the final piece of the legislative jigsaw, the FRC will continue to do all in our power to ensure that audit and corporate reporting standards remain high to ensure better outcomes for stakeholders.”