Audit reform blah, blah… Who cares?

Mark Ling
01 June 2021

Why company Directors and the UK markets should be bothered

On 18 March, 2020, the government published a consultation document called, Restoring trust in audit and corporate governance: proposals on reforms with the aim of strengthening the UK’s framework for major companies and the way they are audited.

Lauded in the press as “welcome”, and “long-awaited”, the headline message about these proposed reforms is that they will prevent high-profile corporate failures like Carillion, BHS, and Patisserie Valerie, and will introduce more competition to the auditor market, which is all to the good.

You may think that the rest of the proposals are the subject of naval-gazing debate about the mechanics of the audit industry, of interest only to the accountancy profession (and, perhaps, the lawyers who may want to sue them) – wrong!

There are some compelling reasons why company management teams and their advisors should take an active interest in these proposed reforms, not least because:

1. The definition of a Public Interest Entity (PIE) will expand to encompass a far greater number of companies, including large private companies and specifically, those listed on the AIM market.
   Potentially, private companies with 2,000 employees and a £200m turnover, or 500 employees and a £500m turnover and AIM listed companies with a market cap of more than €200m will need to comply with the PIE requirements for the first time.
2. The PIE requirements will expand considerably, so even many existing PIE companies will face a significant ramping-up of corporate governance and reporting requirements to unprecedented new levels. While the changes will initially only impact Premium listed LSE entities, they will be rolled-out to all other companies falling within the scope of the PIE definition, after two years.
   Not only will PIEs be mandated to have an Audit Committee and produce a Corporate Governance Statement, the proposals will bolt-on an Internal Controls Statement which is new for the UK and touted as being the UK’s answer to the USA’s Sarbannes Oxley requirement, a new Resilience Statement with new and longer-term disclosures to replace the Viability Statement, an Audit and Assurance Policy, and lots, lots more…
   More significant than just signing a new piece of paper, these statements are the tip of a substantial iceberg of new internal planning, processes and implementation, increasing both the risks and the compliance workload for companies. Many larger FTSE companies will already have significant controls and procedures in place, in order to be Sarbannes Oxley compliant, but the majority of companies will need to devote significant resource to meeting the new standards.
3. Changes to the audit market and the additional elements in the audit and corporate governance regime will result in a notable increase in costs.
   Proposed new audit requirements such as, making the wider information in the annual report subject to an assurance regime, and the introduction of new policies and statements will mean more work for accountancy firms and increase costs to companies.
4. The proposed Directors regime will significantly increase the accountability of Directors making them more visible, impacting their remuneration and making them easier to prosecute.
   The four key roles of CEO, CFO, Chairperson and Chair of the Audit Committee, will take-on more responsibility. Not only will the new proposals bring these Directors into the spotlight, there will be increased penalties, including a clawback provision in remuneration packages to encourage good behaviour, and it will be easier to make them subject to enforcement and sanctions.
5. There is a real possibility that the proposals, applied to smaller listed companies, would stifle entrepreneurialism.

   Entrepreneurial businesses frequently only have the bare bones of an internal compliance infrastructure because all of their focus is on growth. Introducing a new control regime along proposed lines will cut into entrepreneurs’ time and focus on developing their businesses, and/or force them to recruit staff to deal with compliance at additional cost, which could impact growth.

Bye, bye Britain?

The UK’s capital markets should also sit-up and take notice of these proposals to ensure that the scoping does not act to discourage companies to list in the UK.

The aim of improving trust and corporate governance in the UK markets is laudable and one we can all agree with. However, the Government must ensure that these reforms do not fire the starting pistol for an exodus to alternative markets and foreign jurisdictions as companies attempt to side-step the UK specific PIE requirements.

The Aquis Growth Market Exchange may also benefit from many smaller company flotations switching from the AIM market in order to avoid a future PIE definition, and given the fact the regulations would only apply to UK Companies, many may think about re-domiciling to avoid them.

Have your say

It’s clear that there is more to these proposed reforms than just a shake-up of the audit market. The impact on professional advisers, companies and the markets as a whole, will be significant and is not widely understood.

The deadline for submissions to the consultation process is on 8 July, which means there is still time to raise concerns and constructive recommendations to government.

Want to have your voice heard on this topic? As part of the PKF Littlejohn submission to government in response to the consultation, we’d like to reflect your views, too. Please click here to link to our questionnaire.

We all want a strong UK market underpinned by a robust compliance framework that enables companies to grow while protecting the interests of investors. By giving us your opinion, we can collectively help to ensure that the proposed reforms will enhance and not hinder its future success.