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Commercial Awareness Discussion
Called to Account: Proposed Overhaul of the UK’s Audit and Corporate Governance Regime
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<blockquote data-quote="Dheepa" data-source="post: 73698" data-attributes="member: 1572"><p>Super interesting thoughts Jacob and Neville! For one, I never actually realised that Caparo had wider implications for the accounting industry and I also didn't think to consider the political side to this move. Completely agree that it does indicate a more protectionist stance and actually might also put off more companies from listing on the LSE at all (considering it's only PLCs who are subject to these reforms of course). Ties in quite nicely to the discussion we were having <a href="https://www.thecorporatelawacademy.com/forum/threads/a-spac-tacular-change-in-uk-listing-rules.3590/" target="_blank">last week</a> on the UK needing to do more to widen it's appeal for listings via SPACs actually.</p><p></p><p>You've already given some excellent background to this Jacob but I think next to <a href="https://pwco.com.sg/news/case-study-pwc-uk-auditor-spent-only-2-hours-on-bhs-audit/" target="_blank">BHS</a> (audited by PwC) <a href="https://www.theguardian.com/business/2019/jul/10/watchdog-finds-work-of-patisserie-valerie-auditor-unacceptable" target="_blank">Patisserie Valerie</a> (audited by Grant Thornton) and <a href="https://www.complianceweek.com/accounting-and-auditing/kpmg-faces-306m-negligence-claim-over-carillion-audit/28903.article" target="_blank">Carillion</a> (audited by KPMG) one of the biggest and most recent accounting scandals worth looking into is <a href="https://www.ft.com/wirecard" target="_blank">Wirecard</a> (audited by EY)</p><p></p><p>It’s worth emphasising that with regards to all four scandals above, the audit firms maintain that they did nothing wrong and in fact were defrauded in the same way that investors and shareholders in the company were. Grant Thornton is still fighting a lawsuit (led by Mischon de Reya) for about £200m in damages. Of course, if your job is to identify the very risks your claiming to have been deceived by, well, then it’s easy to see why the call to break up and regulate the Big Four is so strong.</p><p></p><p>Side note: Auditors don’t just audit books and numbers. They also investigate the processes in place to make sure employees are using their authorised powers over the financials properly. I worked in a compliance related role briefly and a huge chunk of my time was spent helping to straighten out the gaps auditors had identified in internal processes. So again, while I don’t doubt the complex layers that form part of the scandals, it’s actually very difficult to believe auditors when they say they too were deceived because they don’t just have visibility over the books they tend to also have visibility over the trail and role of each person involved.</p><p></p><p><strong><u>Conflict of Interest</u></strong></p><p></p><p>Aside from consistent failures to detect fraudulent schemes, a key reason for wanting to regulate The Big Four is the conflict of interest point Jacob alludes to. Firstly, external auditors have to be independent and provide an unbiased opinion the company’s accounts. But how independent can a review be if the company you’re striving to be independent from is paying your fees? Secondly, as Jacob mentions, The Big Four often sells its services in a pair, i.e. it offers auditing and consulting services to the same company. For those of you that are familiar with the Enron scandal, Enron’s audit firm had a much greater focus on the larger fees it earned for the consulting services it offered Enron as compared to its auditing services. Don’t bite the hand that feeds you once, let alone twice, right?</p><p></p><p><strong><u>Proposals</u></strong></p><p></p><p>Aside from the proposals on dividend payments and the ARGA that Neville discusses, I think the two worth looking into are:</p><ol> <li data-xf-list-type="ol">Claw back of bonuses – Interestingly enough, a similar provision already exists under s.214 of the Insolvency Act of 1986. It essentially allows the court to require directors to make a contribution to the company’s assets if before the liquidation, the directors were aware that there was no reasonable prospect of the company avoiding liquidation. This provision is rarely ever used because evidentiary hurdles are extremely high. So it will be interesting to see if the proposed reforms on the bonus claw backs are easier to actually use in practice.<br /> <br /> </li> <li data-xf-list-type="ol">Managed shared audits – Essentially this requires companies to use a smaller accounting firm to complete a “meaningful share” of its audits. Despite being what the government thinks is the answer to the conflict of interest issue, I actually find this to be the most questionable reform. Logically speaking, smaller firms are more likely to be reliant on the large source of revenue from big corporates, and so less likely to remain independent. I also think that if there is a main auditor and a secondary smaller auditor as the proposal suggests, there’s a high likelihood that audits by the latter will be vetted again by the former before reporting is done. This makes the introduction of smaller firms all the more redundant. It’s also worth noting that pinpointing errors is difficult enough as is with a single auditor being in charge (see the long running hearings on Wirecard and EY) and so splitting responsibility for an audit in this way will only make matters more complex in case of future discrepancies.</li> </ol><p>I don't have much to add by way of how this will affect law firms. Jacob and Neville have said it all. What I will say is that I actually spent a large chunk of a corporate seat at one of my vacs last summer researching this very topic for a client brief. So in case you're doubting its viability as something to bring up in an interview, don't! I can promise you law firms have been looking at this for awhile now already.</p></blockquote><p></p>
[QUOTE="Dheepa, post: 73698, member: 1572"] Super interesting thoughts Jacob and Neville! For one, I never actually realised that Caparo had wider implications for the accounting industry and I also didn't think to consider the political side to this move. Completely agree that it does indicate a more protectionist stance and actually might also put off more companies from listing on the LSE at all (considering it's only PLCs who are subject to these reforms of course). Ties in quite nicely to the discussion we were having [URL='https://www.thecorporatelawacademy.com/forum/threads/a-spac-tacular-change-in-uk-listing-rules.3590/']last week[/URL] on the UK needing to do more to widen it's appeal for listings via SPACs actually. You've already given some excellent background to this Jacob but I think next to [URL='https://pwco.com.sg/news/case-study-pwc-uk-auditor-spent-only-2-hours-on-bhs-audit/']BHS[/URL] (audited by PwC) [URL='https://www.theguardian.com/business/2019/jul/10/watchdog-finds-work-of-patisserie-valerie-auditor-unacceptable']Patisserie Valerie[/URL] (audited by Grant Thornton) and [URL='https://www.complianceweek.com/accounting-and-auditing/kpmg-faces-306m-negligence-claim-over-carillion-audit/28903.article']Carillion[/URL] (audited by KPMG) one of the biggest and most recent accounting scandals worth looking into is [URL='https://www.ft.com/wirecard']Wirecard[/URL] (audited by EY) It’s worth emphasising that with regards to all four scandals above, the audit firms maintain that they did nothing wrong and in fact were defrauded in the same way that investors and shareholders in the company were. Grant Thornton is still fighting a lawsuit (led by Mischon de Reya) for about £200m in damages. Of course, if your job is to identify the very risks your claiming to have been deceived by, well, then it’s easy to see why the call to break up and regulate the Big Four is so strong. Side note: Auditors don’t just audit books and numbers. They also investigate the processes in place to make sure employees are using their authorised powers over the financials properly. I worked in a compliance related role briefly and a huge chunk of my time was spent helping to straighten out the gaps auditors had identified in internal processes. So again, while I don’t doubt the complex layers that form part of the scandals, it’s actually very difficult to believe auditors when they say they too were deceived because they don’t just have visibility over the books they tend to also have visibility over the trail and role of each person involved. [B][U]Conflict of Interest[/U][/B] Aside from consistent failures to detect fraudulent schemes, a key reason for wanting to regulate The Big Four is the conflict of interest point Jacob alludes to. Firstly, external auditors have to be independent and provide an unbiased opinion the company’s accounts. But how independent can a review be if the company you’re striving to be independent from is paying your fees? Secondly, as Jacob mentions, The Big Four often sells its services in a pair, i.e. it offers auditing and consulting services to the same company. For those of you that are familiar with the Enron scandal, Enron’s audit firm had a much greater focus on the larger fees it earned for the consulting services it offered Enron as compared to its auditing services. Don’t bite the hand that feeds you once, let alone twice, right? [B][U]Proposals[/U][/B] Aside from the proposals on dividend payments and the ARGA that Neville discusses, I think the two worth looking into are: [LIST=1] [*]Claw back of bonuses – Interestingly enough, a similar provision already exists under s.214 of the Insolvency Act of 1986. It essentially allows the court to require directors to make a contribution to the company’s assets if before the liquidation, the directors were aware that there was no reasonable prospect of the company avoiding liquidation. This provision is rarely ever used because evidentiary hurdles are extremely high. So it will be interesting to see if the proposed reforms on the bonus claw backs are easier to actually use in practice. [*]Managed shared audits – Essentially this requires companies to use a smaller accounting firm to complete a “meaningful share” of its audits. Despite being what the government thinks is the answer to the conflict of interest issue, I actually find this to be the most questionable reform. Logically speaking, smaller firms are more likely to be reliant on the large source of revenue from big corporates, and so less likely to remain independent. I also think that if there is a main auditor and a secondary smaller auditor as the proposal suggests, there’s a high likelihood that audits by the latter will be vetted again by the former before reporting is done. This makes the introduction of smaller firms all the more redundant. It’s also worth noting that pinpointing errors is difficult enough as is with a single auditor being in charge (see the long running hearings on Wirecard and EY) and so splitting responsibility for an audit in this way will only make matters more complex in case of future discrepancies. [/LIST] I don't have much to add by way of how this will affect law firms. Jacob and Neville have said it all. What I will say is that I actually spent a large chunk of a corporate seat at one of my vacs last summer researching this very topic for a client brief. So in case you're doubting its viability as something to bring up in an interview, don't! I can promise you law firms have been looking at this for awhile now already. [/QUOTE]
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