The audit market is reeling from the barrage of criticism from government, MPs, the competition regulator, Lord Kingman, Sir Donald, BEIS committee chair Rachel Reeves. At the heart of the argument is the long-running fear that audit is no longer fit for purpose with its antiquated auditing standards hampering the delivery of effective audit, inescapable conflicts of interest and a serious gap in public expectations.

Undoubtedly, for many outside the profession, audit is seen as the final bastion of good corporate governance, ensuring that the financials underpinning listed companies are verified and robust, and effectively holding management to account over financial practices.

In reality,it is the boards of the client companies that hold the power; across all sectors auditors have been the fall guys, blamed for their failure to identify financial irregularities and fraud. That auditors are failing to produce adequate assurance and oversight is now clearly an issue which cannot be ignored, and their remonstrations that fraud is beyond the remit of audit seem not to be working.

Previous attempts to overhaul the audit market saw tender rules strengthened after the first the Competition Commission investigation in 2011, then the EU ARD regulations in 2016 saw non-audit service caps, but this has done little to change the fundamentals of the Big Four dominated audit market.

With four reviews under way into every conceivable element of audit, a radical overhaul is unavoidable. Recent corporate failures such as Carillion, Patisserie Valerie, London Capital & Finance have sent shockwaves through the profession. It may be an easy headline to blame the auditors, but how liable are they? This is hardly a new development. It is over a decade since the collapse of US energy giant Enron in 2001, which within a year brought down the last Big Five auditor, Arthur Andersen and saw the global firm ripped apart in the ensuing chaos.

But little has changed since with an endless litany of multimillion pound fines issued by the much-maligned audit regulator - the Financial Reporting Council. For years, it seems, there has been a fundamental problem with audit.

It is most frustrating that the FRC takes years to complete an investigation – it is hard to see how an eight-year turnaround on a probe can be seen as an adequate response time from a regulator. This is no exaggeration either. Just this week, the FRC issued a £750,000 fine to Baker Tilly auditors over an audit of Tanfield Group dating back to the 2007 year end. More than a decade after the event, liability has shifted to RSM UK Audit LLP due to ownership and branding changes over the years.

This failure to react quickly to audit investigations was highlighted in the recent Kingman review which will see the disbandment of the FRC in its current guise and the creation of a new audit regulator, the Auditing, Reporting and Governance Authority (ARGA) by early 2020. But to highlight the lack of action, this is not the first time that powerful voices have told FRC to act more quickly. In the 2017 independent Clarke review of the FRC sanction regime, Court of Appeal Judge Sir Christopher Clarke told the regulator to speed up its investigations process as taking a decade or more to conclude a probe was unacceptable.

After criticism from MPs over its slowness to announce an investigation into KPMG’s audit of Carillion last year, the FRC was fairly quick to confirm it would investigate Grant Thornton over the audit of financial statements from 2015-2017 at Interserve, which was sold in a pre-pack last month, facing a hugely leveraged balance sheet. There are signs that the FRC is finally realising the gravity of the issue – that waiting a decade or more for a conclusion to an investigation – is just not acceptable. Taking early action should reduce the turnaround time. Whether the new regulator will be more reactive when it is fully up and running will be interesting to watch.

Fit for purpose?

Meantime, many in the profession express increasing concern that the fundamentals of audit are where the problem lies, perhaps an area which will be addressed by the wide-ranging Brydon review into audit practice. Now up and running, it took over a year to find an independent chair for this work, originally known as project Flora, and driven by government. The initial call for evidence focuses on the underlying auditing standards, liability and accountability of auditors, and the purpose of audit, including whether its scope and purpose should be widened and strengthened to meet changing expectations of audit.

Even the independent chair, Sir Donald Brydon, accepts that this is an enormous project, but he is clearly aiming for a conclusion to this much-debated and unresolved issue. This June will see the conclusion of the first call for evidence, but this will only set off the starting gun. Brydon hints at a much wider remit, promising further examination of the impact of technology, including artificial intelligence and machine learning, as well as consideration of global audit practices.

While MPs are pushing government to move fast on reforms to the audit profession it seems that much of this is a kneejerk reaction and without fundamental reform of the premise of audit, it seems unlikely that even the more radical proposals to break up the Big Four audit firms will really produce the quality of audit expected. Only last summer a source at a leading audit firm talked of the possibility of one of the Big Four firms pulling out of the audit market completely – perhaps to shake up the current carousel whereby listed companies have only a choice of maximum three firms, perhaps two once they strip out any conflicting tax or consulting business.

At the time it seemed a radical, rather off-key suggestion, but with the final recommendations of the Competition & Markets Authority (CMA) due in the next few weeks, it is possible that they will recommend to government that the Big Four audit practices are spun off, creating independent audit firms, or worse still introduce compulsory joint audit. Many of the recommendations have been met with criticism from the profession, while major shareholder groups were always sceptical when responding to the original CMA consultation late last year.

Breaking up the Big Four will not solve the problem of poor audit as it will merely weaken the reputation of audit further. There is no sizeable competition to the Big Four – the mid-tier firms are simply not geared up to handle dozens of multimillion pound audits on a global scale. It is unlikely that the UK would adapt kindly to joint audits with their complex liability issues, not to mention the tick box mentality that a smaller firm was finally auditing a major FTSE 100 listed company. That seems like tokenism.

Reeling from so many reviews, it was a surprise to read the radical proposals of Paul Boyle ACA, former chair of the Financial Reporting Council (2004-9) who back in the day was a trainee at Coopers & Lyband. He argues not for a break-up of the firms, but rather to open up the market to new funding and new players, broadening the field for audit and removing the current 51% rules.

This chimes to some degree with the increasing automation of audit – talk to any auditor about what the profession was like 30 years ago and it was unrecognisable. Technology is evolving so fast with commoditisation of audit processes and the future impact of robotics, machine learning and AI, so the audit profession will have changed beyond recognition by 2025.  

It is essential to make meaningful and radical reforms to the audit market from a much needed review and modernisation of the scope, requirements and accountability of audit, to a re-set of the Companies Act 2006 and modernisation of auditing standards to ensure they are viable and effective in an increasingly global, digital world.

Now is the time to take swift action and implement fundamental reform if we are to preserve the integrity of professional auditors, the professional services firms and the financial probity of business. It will not be easy, but it will be a legacy for the profession.  

Sara White is editor of Accountancy Daily