FRC publishes revised Audit Firm Governance Code
The Financial Reporting Council (ARGA) has published a newly revised Audit Firm Governance Code intended to strengthen independent oversight of the largest UK audit firms.
The new Code is a result of the findings of a monitoring programme undertaken by the FRC which identified scope to further strengthen its oversight and governance and to align the provisions of the Code with Operational Separation for the Big Four firms.
Since 2010 the Code has applied to firms auditing 20 or more listed companies. The revised Code changes the threshold to firms auditing 20 or more Public Interest Entities (PIEs) or one or more FTSE350 companies.
The Code separates the roles of the board chair and senior partner/chief executive, clarifies the role played by partnership boards in holding management to account and introduces criteria for board composition, reinforcing the position of independent non-executives within audit firms. For the largest audit firms, it sets out a clearer distinction between the role of Independent Non-Executives (INEs) and Audit Non-Executives (ANEs). The new Code also more closely aligns with the UK Corporate Governance Code, emphasising the importance of long-term sustainability, culture and employee engagement.
Greater emphasis on the public interest
There is a greater emphasis in the revised Code on the concept of public interest and in particular the role of the INEs in representing the public interest and considering what this means in the context of the firm’s audit and non-audit work. The FRC does not intend to provide a detailed definition of the public interest, recognising that it is an abstract, and also a dynamic concept and will continue to be the subject of debate. However, in recognition of the appetite for additional guidance in this area from respondents to the consultation, the FRC have expanded the relevant parts of the Code to assist INEs and ANEs in their consideration of public interest matters. They also encourage firms to develop their own material to assist INEs, ANEs and others in their governance function.
As noted above, the Code’s scope has been expanded to include any auditors of a FTSE350 entity. The FRC are mindful that this may function as a disincentive to challenger firms considering entering this market, however, they believe that the public interest in FTSE350 companies is such that it is important that their auditors have high-quality governance. The Code is comply or explain, in respect of the provisions, so in the event of a new firm entering the market they can explain the reasons for a delay in applying a particular aspect.
The revised Code is silent on the possibility of Managed Shared Audit (MSA) because at the time of the consultation being issued it was unclear whether the Government was likely to adopt this suggestion in the final legislation. In addition, the FRC notes that the market for MSA is likely to take some time to develop and as a result the Code remains silent on MSA but it will continue to monitor developments in the market and the next iteration of the Code will address MSA as necessary.
Introducing the concept of audit non-executives (ANEs)
Section E of the revised Code applies only to those firms with operationally separate audit practices and introduces the concept of audit non-executives (ANEs). ANEs fulfil a similar role in the governance of the audit practice to that of INEs in the firm as whole. The FRC highlights that:
- Sections D and E of the revised Code have been amended to stress this point.
- operational separation is only an expectation for the very largest firms.
- separation may become a legal requirement in due course however there is no current expectation to extend beyond the Big Four.
With respect to the “comply or explain’ principle, the FRC has confirmed that firms that explain non-compliance with provisions rather than complying with them will not be criticised by the regulator provided that a full explanation for non-compliance with provisions is provided in the firm’s transparency report, and all Code Principles are complied with.
On parts of the Code that touch on global aspects, the FRC highlights that it does not expect INEs to be aware of international matters which have not been shared with the leadership of the UK firm. However, where such a matter does come to the attention of the firm’s leadership, the FRC would expect it to be shared with the INEs and ANEs on a timely basis.