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The Financial Reporting Council (FRC) ordered the ‘Big Four’ audit firms to implement ‘operational separation’ of their audit practices by June 2024.  The move followed high profile audit failures at Carillion, BHS, Patisserie Valerie and Thomas Cook.

PwC, Deloitte, EY and KPMG were given until 23 October this year to set out their plans by the regulator.  As a result, the two firms of PwC and Deloitte have already announced changes to the governance of their audit practices.

Concerns about the quality of UK audit practice were raised in three government reviews – the Kingman Review, the Competition & Markets Authority Report and the Brydon Review.  These were followed by an announcement earlier this year that the FRC is to be replaced by a new Audit, Reporting and Governance Authority (ARGA) (see Brunel News, May 2019).

The FRC has moved forward with operational separation of audit practices ahead of the launch of ARGA.  It says this will “ensure that audit practices are focused above all on delivery of high-quality audits in the public interest, and do not rely on persistent cross subsidy from the rest of the firm.”

The FRC believes the changes will protect auditors from influences from the rest of the firm.  In particular it wants to end the practice of audit partners’ remuneration being subsidised by the firm’s non-audit activities.

The move has been welcomed by the Big Four, but law firm DAC Beachcroft has warned that the proposals fail to address the need for auditors to approach the information provided by management with the necessary professional scepticism.

In early signs that the proposals are being implemented PwC announced in September that it has set up an Audit Oversight Body to ‘focus on enhancing the transparency and effectiveness of the Audit practice’s governance’.  Deloitte has also announced the formation of an Audit Governance Board, effective from 1 January 2021.

James Burgoyne, Director – Claims & Technical, Brunel Professions is concerned at the direction of developments.  “The perception that the Big Four have been focused on non-audit work has been cited as damaging to public confidence in audit – particularly following a number of major corporate failures; but professional indemnity insurers have been concerned by the claims costs resulting from deficient audit work for some time. These risks do not rest solely with the Big Four, and the steps taken with the largest audit practices inevitably have consequences for smaller auditors as well. The warnings that other necessary changes should not be lost in a focus on operational separation should be heeded.

The FRC’s press release about operational separation has been published on its website.  Reports about the proposals were published by Accountancy Age, Accountancy Daily and DAC Beachcroft.

Brunel secures competitive professional indemnity insurance cover for financial services professionals. To find out more visit the Brunel website or call Mark Sommariva on 0203 475 3275.