The UK Financial Reporting Council (FRC) is increasing its scrutiny of Grant Thornton following the latest round of audit inspections. At Grant Thornton, the FRC assessed that 50% of reviews were good or required limited improvements, compared to 75% last year. In total, 26% of Grant Thornton’s audits reviewed in the past five years have required significant improvement. Among the steps the FRC has taken is to require Grant Thornton to come up with a new audit quality improvement plan. The FRC is also increasing the number of audits to be inspected in 2019/20.

A deterioration from 84% to 65% in the results for PwC’s FTSE 350 audits inspected was deemed unsatisfactory and the FRC has required the firm to take prompt and targeted action to address this decline. In June 2019, PwC announced an action plan to strengthen its focus on audit quality. The plan includes additional investment in people, training and technology, structural changes to PwC’s business, and a reinforced focus on culture and quality control. The FRC will scrutinise closely the implementation of this plan.

While results at KPMG have improved, the firm remains subject to increased FRC scrutiny.  This will continue until KPMG has demonstrated a sustained improvement in audit quality. The FRC scrutiny will cover the impact of KPMG’s recently announced changes to governance of their audit practice, as well as on key aspects of the firm’s Audit Improvement Plan, including the firm’s central review process and new audit guidance.

Taking a broad view of the Audit Quality Review (AQR) reports, overall the FRC said 75% of FTSE 350 audits were assessed as good or requiring limited improvements, compared to 73% previously. However, the FRC’s target is 90% and there has been no improvement on last year. With audit vital to investor confidence in UK companies, poor quality audit work remains unacceptably common. These latest audit inspections relate principally to audits of companies’ December 2017 year-ends.

No firms achieved the FRC’s audit quality target for 90% of FTSE 350 audits to meet this standard. Looking across all audit reviews completed at the largest seven firms, the outcome was 75% compared to 74% in 2017/18.

Each firm has committed to specific actions to enhance audit quality including, for the worst performers, detailed audit quality improvement plans. The FRC will assess the success of these initiatives and secure further action if necessary.

The FRC found cases in all seven firms where auditors had failed to challenge management sufficiently on judgemental issues. Audit firms need to work harder to solve this problem and the FRC is undertaking detailed work to assess how the audit firms are responding to this.

Stephen Haddrill, FRC CEO, said: “At a time when the future of the audit sector is under the microscope, the latest audit quality results are not acceptable. Audit firms must identify the causes of their audit shortcomings and take rapid and appropriate action to improve quality. Our latest results suggest that they have failed to achieve this in recent years. 

 “For 2019/20, we are extending our 90% quality target for FTSE 350 audits to all audits inspected. We will set a new target for audit firms, for 2020/21 onwards, that 100% of audits inspected should require no more than limited improvement. In other words, starting from June 2019 financial statement year ends, we expect no audit to be assessed as either a 2B or a 3.”

The FRC takes robust action for all audits falling short of the standards that it expects.  All audits that it has assessed as requiring improvements or significant improvements are considered for Enforcement action. Over the past two inspection cycles, across all firms inspected, 16 audits have been referred for possible Enforcement action. Investigations have so far been opened in eight cases. 

‘Urgent and early action’ needed

Responding to the latest AQR inspection reports, ICAEW chief operating officer Vernon Soare, said: “It is disappointing that the FRC's overall assessment of the quality of 2017 year-end audits shows little improvement over the previous year, and we cannot be satisfied with these results. ICAEW feels strongly that early and urgent action to address public concerns regarding audit – alongside wider issues of corporate governance and management accountability – is vital to maintaining confidence in business. As a profession, chartered accountants acknowledge that we face a watershed moment and we are ready to be willing partners in change.

"Audit is undergoing an unprecedented level of scrutiny, and in coming months the challenge will be to integrate the outcomes of the three current major reviews – and the recent select committee inquiry – into a coherent, comprehensive and proportionate programme of reform. ICAEW has already welcomed Sir John Kingman's vision for a strong and credible new regulator – the Audit, Reporting and Governance Authority (ARGA) – and today's reports reinforce the case for the government to implement this without delay. Once established on a firm statutory basis, ARGA should apply fresh thinking to how we improve quality in the audit market and must not be constrained by targets and methods bequeathed to it by the FRC.''

PKF International CEO James Hickey said: “It’s deeply concerning to see the six biggest firms struggling to get to grips with audit quality. While other accounting networks and associations don’t have the depth or structure to undertake the biggest audits, conflict concerns would be eased if more services moved away from the biggest auditors.”

The FRC released public inspection on audits carried out by BDO, PwC, KPMG, Grant Thornton UK, Deloitte, EY and Mazars.