The Queen’s Speech, Audit and the Corporate Governance Crisis

Today the Queen’s Speech, introducing 38 bills in the government’s legislative program and there was one massive omission. Reforms to improve auditing and corporate governance, only appear in the form of a “draft” bill.” That means they will not become law until the 2023-24 parliamentary session at the earliest.

The decision to drop it was expected, and had been written about, by Helen Thomas, the Financial Times business columnist, for example. In her column on April 28th, Thomas correctly said, dropping it would be an “embarrassing mistake”. It will become intensely embarrassing when the next major corporate scandal hits the news headlines, and we are not likely to have to wait long for that to happen as the PwC Corporate Crisis Survey makes clear.

After “four years, three reviews and one mammoth consultation” following the collapse of Carillion in 2018, the bill had been scheduled for inclusion in the Queen’s speech. It needed to be included so the regulator, the Financial Reporting Council (FRC), could be replaced by a new body with new powers, the Audit, Reporting and Governance Authority (ARGA). It had been widely recognised that the FRC was “useless,” and “toothless.” And John Kingman, in his 2018 report, had made it clear the FRC is not fit for purpose.

Why has such an important bill been dropped from the Queen’s Speech you may wonder? The reason given is that there are more pressing priorities - like the creation of a new football regulator perhaps! The more likely, and more plausible, explanation is the intense lobbying the bill would have stimulated. So, never mind that nearly 30 per cent of audits checked by the FRC in the last survey of audits fell below an acceptable standard.

Many directors are likely to be feeling a great sense of relief, that despite substantial support from investor groups and audit firms for the idea directors should be made to be more responsible for internal controls and over financial reporting, this is now unlikely to be introduced for some time. They would be wise to use the breathing space they have been given to prepare for such the almost inevitable new demands on them that will come in future. But what does it mean to be prepared?

In May 2021 accounting firm BDO published an article on the topic. “Directors’ accountability for internal controls – planning for the new requirements.” It said, “The March 2021 consultation paper issued by the Department for Business, Energy, and Industrial Strategy (BEIS) on ‘Restoring trust in audit and corporate governance’ will affect the UK’s major companies in many ways. As well as including more companies in the definition of Public Interest Entity (PIE) – including large private companies and others that may be in the public interest – there will be new requirements relating to internal controls for corporate reporting, audit committee and assurance requirements.”

The article added, “One particular proposed reform would increase the accountability of directors for internal controls over financial reporting and other non-financial information including ESG, Supplier Payment Policy and Practices, Performance Indicators linked to the remuneration, and anti-fraud arrangements.” And it noted that the changes may include “potential attestation requirements” being imposed on directors.

The article went on to note, “the Government is considering a number of options in relation to internal controls but has stated a preference for reforms such as a Directors’ Responsibility Statement. This would require directors to acknowledge their responsibility for establishing and maintaining an adequate internal control structure and procedures for financial reporting. Directors could also be required to carry out an annual review of the effectiveness of internal controls over financial reporting, explain the outcome of the review, and make a statement as to whether they consider the system to have operated effectively. Other requirements on directors are likely to require disclosure of the benchmark system used to make the assessment, any deficiencies in the control system and associated remedial actions.”

BDO estimated the changes public and larger private companies would need to make would take 18-36 months to make and outlined what they would need to include. They also proposed those leading the changes consider some critical success factors including:

• Developing and maintaining effective governance arrangements
• Assessing the current and desired organisational culture relating to risk and control
• Utilising a digital governance, risk, and control (GRC) tool to help create a unified but flexible approach to managing risk and controls in decentralised businesses

The Strategy and Stakeholder Value Institute, currently being developed as an initiative of the Enlightened Enterprise Academy, argues UK companies would be wise to use the time they have just been given to radically re-think and review their governance structures, systems and processes, based on Eight Principles for Strategic Stakeholder Value Creation and the Management of Risk, and the ways to adopt the principles, as outlined by Elliot Schreiber in his recently published book. Indeed, businesses or organisations in any country would be wise to do the same, even if the changes are not being demanded of them by their regulators.

Whilst task leaders might see the changes as being a matter of compliance with future legislation requirements and are likely to view them as a cost and a burden, we suggest this would be a big mistake. Instead, they should choose to see the future demands as an opportunity to radically rethink their audit, reporting, governance, risk management and strategic management systems, structures, and processes, so they are fit for the 21st Century.

This will also involve considerations about what information is needed by the board and each other stakeholder group, and how that information should flow and be managed.

These latter ideas, and related issues, will be considered on during the event we are running during May, to address the Global Governance Crisis, starting with "Are Boards Getting the Information they Need on Strategy, Culture, and Risk?” on May 16th. DETAILS

Many of the issues will also be the focus of the work from the Strategy and Stakeholder Value Institute, currently being developed by Elliot Schreiber in association with the Enlightened Enterprise Academy.