THE COLLAPSE of Carillion, a construction firm with many public-sector contracts, catapulted auditors into the glare of public scrutiny last year. Angry parliamentarians, anxious to know why auditors had failed to raise the alarm, accused the Big Four accounting networks—Deloitte, EY, KPMG and PwC—of being too cosy with the firms they were meant to be scrutinising. The Financial Reporting Council (FRC), which regulates auditors and oversees corporate reporting, also came under fire for its “feebleness and timidity”.
The government has since launched several reviews of the audit industry. The first to conclude, in December, was an inquiry into the FRC led by Sir John Kingman, the chairman of Legal & General, an insurer. On March 11th Greg Clark, the business secretary, said he would take forward most of Sir John’s recommendations. Chief among them is the replacement of the FRC with a more powerful regulator, to be named the Audit, Reporting and Governance Authority (ARGA).
Sir John’s inquiry identified so many flaws with the current set-up that he proposed a whopping 83 recommendations. One problem is that the FRC has no clear statutory duties or powers. If it wants a company to restate its accounts, it must seek a court order. Bizarrely, it can take action against a company’s directors only if they are qualified accountants. Sir John also worried that the regulator has been too close to the accountants. It is partly funded through voluntary contributions from listed companies, and rarely advertises senior positions publicly, sometimes relying on the Big Four’s networks.
ARGA will be tasked with promoting the interests of the consumers of financial information, and will be able to demand that companies comply with its directives immediately. Funding will rely on compulsory levies from companies, and senior positions will be publicly advertised. (Stephen Hadrill, the FRC’s chief executive, has already said he will step down this year.) Sir John wants the new regulator to be able to investigate and correct accounts as they are prepared, rather than conducting retrospective reviews.
It seems sensible to create a more muscular regulator with a clear purpose. But Karthik Ramanna of Oxford University argues that cosiness is always a risk, given the close-knit nature of the audit industry. Continued public scrutiny could remind both auditors and their regulator of their responsibilities to investors and to society. It might help that ARGA’s bosses will be asked to appear in front of MPs every year. The FRC was hauled in front of lawmakers only after things had gone wrong.
Mr Clark plans to press forward with the proposals after a few weeks’ consultation. And with other reviews into the audit industry under way, further changes are still to come. The Competition and Markets Authority is investigating ways to invigorate competition in the sector, which could include splitting accounting firms’ auditing arms from their consulting businesses, and forcing the Big Four to conduct joint audits with challenger firms. A parliamentary inquiry will work out how to implement its recommendations. And a further review is mulling the deeper question of whether the scope of an audit needs rethinking. Bean-counters will be in the spotlight for a while yet.