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August 1, 2020

FRC UK identified recurring failures and poor-quality audits by Big Four Audit Firms

by Mahesh Mara in Compliance Law, Corporate Law

FRC UK identified recurring failures and poor-quality audits by Big Four Audit Firms

FRC cracks down on auditor misconduct

The Financial Reporting Council’s (FRC) mission is to promote transparency and integrity in business. FRC is responsible for regulating accountants, auditors and actuaries by operating the UK’s corporate governance system. They report on how well companies and investors have followed the principles of UK’s Corporate Governance Code and Stewardship Codes. Their work is aimed at investors and others who rely on company reports, audit and high-quality risk management.

The Financial Reporting Council said it had identified recurring failures during its investigations into poor-quality audits by the Big Four firms — PwC, Deloitte, KPMG and EY — and their smaller rivals, despite warnings to firms to improve.

Deficiencies or potential indicators of poor quality of audits included:-

  • auditors becoming too cosy with clients
  • disorganised audit paperwork
  • failure by auditors to collect sufficient evidence to support their opinions on a company’s books.
  • most senior auditors shirking work and delegating too much to junior staff

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Issues uncovered by FRC

  • The poor record of auditors in uncovering apparent fraud has been highlighted this year by scandals at German payments processing company Wirecard and at FTSE 100 medical group NMC Health.
  • Auditors are under greater regulatory scrutiny than ever after due to a series of high-profile lapses in recent years, with Ernst & Young’s role in the collapse of German payments provider Wirecard AG now under the microscope. 
  • In its report, the FRC revealed that it had launched its biggest-ever clampdown on auditor misconduct in the past year, examining 88 new cases in the 12 months to March 31 — almost double the previous year.
  • The increase was driven by a doubling in the number of complaints from whistleblowers and a rise in audit firms approaching the regulator to flag suspicions of accounting misconduct by audit clients.

FRC enhanced its scrutiny of the UK audit industry in the past two years after a string of corporate collapses and accounting scandals led to criticism that it was too lenient, too slow to act and too close to the firms it supervises. The Financial Reporting Council also asked the Big Four – KPMG, Deloitte, Pricewaterhouse-Coopers LLC and Ernst & Young — to agree to operational separation to ensure audit practices don’t rely on persistent cross-subsidy from the rest of the firm.

Fines levied by FRC

  • The FRC levied five fines totalling £16.5m on auditors last year, a little over 1/3rd of the £43m of sanctions it handed down in 2018.
  • The drop was because of a backlog of large cases whose outcomes are expected to be revealed later this year, including a potential £15m fine for Deloitte over its audits of technology group Autonomy, and likely sanctions over Carillion and Patisserie Valerie.
  • The watchdog’s largest recent fines include £6.5m sanctions against both Deloitte and PwC over their audits of outsourcer Serco and IT services company Redcentric, respectively, although the amounts were discounted for settlement.
  • It also issued a string of non-financial penalties, including putting PwC’s Leeds office under special monitoring and forcing Grant Thornton to create an “ethics board” that will report to the FRC for three years.
  • The UK accounting watchdog has given Deloitte, EY, KPMG and PwC four years to split their audit and consulting businesses in an effort to improve corporate reporting following a string of high-profile accounting scandals.

Elizabeth Barrett, director of enforcement at the FRC, said: “Given the detrimental impact audit failure can have on investor and wider stakeholder confidence it is critical that when audit standards are not met or ethical failures occur, they are identified and rectified.

The Audit Enforcement Procedure, which became effective on 17 June 2016, reflects the FRC’s responsibility for monitoring the quality of audits. Under the Audit Enforcement Procedure, the FRC carries out investigations, enforcement and sanctioning in connection with audits. This year’s audit enforcement review shows an increased use of constructive engagement, to provide a timely and proportionate way of addressing deficiencies and the wider deployment of non-financial sanctions to drive audit quality.

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