The Financial Reporting Council has ended its investigation of KPMG’s audit of HBOS for the year ended 31 December 2007 after it concluded there is ‘not a realistic prospect of an adverse finding’, reports Calum Fuller
The Big Four firm’s work did not fall significantly short of the standards reasonably to be expected of the audit, the test that a tribunal would apply, the regulator said.
HBOS collapsed in October 2008, when it was subject to a £50bn government bailout, having failed to foresee market conditions deteriorating and had felt it would be able to fund itself. KPMG auditors accepted the bank’s assessment and in February that year published audited statements prepared on a ‘going concern’ basis.
The FRC found the ‘evidence of market conditions at that time did not show this decision of HBOS or the auditor’s assessment of it to be unreasonable at the time’.
‘The extreme funding conditions which arose in October 2008 were not anticipated,’ it added.
Following its collapse, HBOS was acquired by the Lloyds Banking Group in January 2009.
The FRC began its investigation into HBOS’s collapse and KPMG’s role as its auditor in June 2016, after considerable pressure from MPs, particularly the Treasury Committee.
In November 2015, responding to a 407-page Bank of England report into the relationship between KPMG and HBOS in the years leading up to its failure, then-Treasury Committee chairman Andrew Tyrie MP said: ‘I will be writing to the FRC about the misjudgement made of the scale of impairments on the balance sheet, and about whether the auditors allowed themselves to be influenced by undue pressure from senior executives and the board of HBOS.
‘They will need to consider afresh their original conclusion that there were no grounds for an investigation of KPMG, relevant senior KPMG people, and relevant senior HBOS management in relation to the audits of HBOS’s financial statements for 2007 and 2008.
‘It is surprising that the FRC didn’t conclude - and a long time ago - that this work was needed, not least to provide greater public confidence about bank audits after the catastrophe of 2008. Albeit belatedly, they should now do so,’ Tyrie said at the time.
The decision by the FRC to close its investigation has not impressed Tyrie's successor Nicky Morgan MP. She said: ‘As early as 2004, the FSA described HBOS as “an accident waiting to happen”. As the PRA and FCA have since made clear, responsibility for its subsequent failure lies not with external market conditions during the financial crisis, but with the failure of its board to instil an appropriate culture, and to provide the necessary challenge to the executive. HBOS’ corporate governance was, in the words of the Parliamentary Commission on Banking Standards, “a model of self-delusion”.
‘The FRC initially decided not to investigate KPMG’s audit of HBOS. The Treasury Committee concluded that this was a serious mistake that suggests a lack of curiosity and diligence. It was only after pressure from the Committee that the FRC decided to investigate the role of auditors in the bank’s demise. The Committee will expect the FRC to provide a full explanation of its decision not to take further action against KPMG. It may take further evidence in due course.’
Professor Prem Sikka of Essex Business School said the FRC should evidence how it reached the decision to close the investigation, although the regulator itself cited confidentiality requirements to KPMG, HBOS and expert witnesses as the reason it will not.
‘What they never tell us is what evidence prompted them to reach their decision of nothing doing,' he told CCH Daily. 'It was bad enough in the first place that they began their investigation some nine years after the event, and then saying “nothing doing”. There is no information at all about that.
‘I think the FRC is unfit to be a regulator. It is too close to the auditing industry and certainly the big firms dominate the FRC, lots of its committees and working parties, so I think there’s a conflict of interest. It should be replaced by a genuine, independent, robust regulator which can act in a timely way.’
KPMG said in a statement responding to the FRC’s closure of its investigation: ‘We are pleased that the FRC has reached this conclusion after a thorough investigation. We have always maintained that our audit was robust and undertaken in accordance with the regulations and practice of the time.
‘However, we also recognise the findings of the FRC’s 2014 thematic review on bank audits, which highlighted that the quality of bank audits needed improving in certain areas. This review also showed how the profession had risen to and responded to this challenge.
‘The collapse of HBOS and other examples of corporate failure and fraud in the last decade have highlighted a gap between what society expects of an audit and what an audit has been designed to do. Since 2008, whilst we recognise that there is more to be done, we have worked hard to contribute positively to this debate and have explored ways to close the expectation gap, for example, by offering extended audit opinions which give a view on corporate risks.’