He called for the creation of a new body, which he named the Auditing, Reporting and Governance Authority (ARGA), and would have ‘clear, statutory powers’ to directly regulate major audit firms and make use of a ‘stronger enforcement regime, also covering directors who are not members of professional bodies’.

Speaking at the Department for Business, Energy and Industrial Strategy (BEIS) he said that he had found significant faults with the FRC, including a lack of powers, an informal approach to board appointments, and an ‘inconsistent and incomplete approach to managing conflicts’, saying that what was needed was ‘a new body with a clear and precise sense of purpose’ which should ‘stand up for the consumers of business information’.

He described the FRC as a ‘ramshackled house, cobbled together with all sorts of extensions over time’, and said that ‘it is time to build a new house’. He compared the FRC to the UK’s financial regulators - the Financial Conduct Authority (FCA) and the Prudential Regulation Authority (PRA) - noting that both had been reformed after the financial crisis to make them ‘firmly focused on the interests of consumers of financial information’ with ‘the right powers and resources to do their job’. ‘At the FRC,’ he concluded, ‘none of these things is consistently true’.

He argued that the FRC, which has ‘limited or even non-existent’ powers and is funded by an industry levy, is dependent on rule by consensus, ‘meaning that some of the biggest and most important economic actors in the UK are still regulated not by an independent body but, in effect, by their trade association’.

The closeness of the FRC with the audit market, and the Big Four in particular, was particularly significant. He said that he had been ‘surprised’ to find that board appointments at the FRC were ‘done in a surprisingly informal way, including using the alumni networks of the Big Four’.

‘While the FRC’s powers are clearly deficient, the FRC has failed to make the case for change, or has failed to make its case persuasively’, he said, noting that from the evidence he received that ‘for many people in the FRC the opportunity to refresh the mission…and critically the powers to do something’ would be welcomed, and that there ‘are lots of good people at the FRC’ who were ‘not defensive or resistant to change’.

Summarising his findings, Kingman said: ‘All in all, some of the FRC’s critics overstate their case. Nevertheless, I have sympathy with the view that the FRC has tended, overall, to take too consensual an approach to its work.

‘The FRC’s approach to its own governance has not been consistent with either its public important, or its role in championing governance in the corporate world. We need to take the opportunity to make a fresh start.’

New governing body

The review calls for the replacement ‘as soon as possible’ of the FRC with a new independent regulator which ‘should be accountable to parliament, with the chair and chief executive subject to pre-approval hearing with the BEIS select committee, and appearing annually in front of the select committee. The government should issue a remit letter to the regulator, at least once each parliament, as it does for the FCA and PRA’.

This body would be able to commission and publish ‘skilled person reports’ and have a range of options at its disposal, including ‘requiring a change of auditor or restatement of accounts’.

Asked by Accountancy whether the body would ideally be put into place by legislation, Kingman said that although there was parliamentary support, the interim measures outlined in the report, such as restructuring the FRC, and the consensus of the audit market, could achieve many of the results faster. A spokesperson for BEIS said that some of the recommendations were ‘far reaching’ and would require legislation, necessitating further government consultation.

However, Kingman said that he was not recommending a new companies regulator, but that ARGA would need to develop a market intelligence and extend corporate reporting reviews ‘to cover the whole annual report’ and a backstop power to intervene ‘if it is the public interest’.

This body, he argued, would have a new, significantly smaller board appointed ‘with limited continuity for the old board’ with all appointments being public.

Public interest entities

The review also calls on the government to review the UK’s definition of a public interest entity (PIE), noting although the basic definition is provided by the EU, other countries ‘have incorporated a much wider range of entities into the definition of a PIE, such as: all quoted companies, major private companies, pension funds, or asset management companies’. The review also calls for a new regime for the approval and registration of audit firms conducting PIE audits, which ‘should incorporate a range of sanctions including some that are less severe than the “nuclear option” of audit firm deregistration.

The review comes as the Competition and Markets Authority (CMA) publishes an update paper outlining ‘serious competition concerns’ with the UK audit market and proposed legislative changes including separating audit from consulting services; introducing measures to increase the accountability of those chairing audit committees and imposing a ‘joint audit’ regime giving firms outside the Big Four a role in auditing the UK’s biggest companies.

Sir Win Bischoff, FRC Chairman said: ‘When this independent review of the FRC was established by BEIS, its purpose was to put the “FRC in a position to stand as a beacon for the best in governance, transparency and independence; strengthening its position and reputation”.

‘Sir John has carried out a thorough review and consulted numerous organisations and individuals. He has addressed the gaps in our powers that have been identified and set a course for a stronger, new regulator to emerge from the FRC.

‘We welcome Sir John’s recommendations. They have the potential to bring about significant improvements to the work we do in protecting the interests of investors and the wider public.  We look forward to playing our part to ensure his review is implemented speedily.’

The Kingman Review is here 

Report by James Bunney