Corrupt and ineffective regulation means financial scandals are all but inevitable in the UK

The Financial Reporting Council responsible for regulating accountants and auditors has deep conflicts of interest at its core.

The UK’s political culture creates ineffective, opaque and unaccountable regulatory structures. This is once again shown by the failure of the Financial Reporting Council (FRC), the accounting regulator, to investigate the real or alleged audit failures at HBOS. 

HBOS was audited by KPMG, one of the big four accountancy firms. In respect of the 2007 accounts KPMG collected £8m in audit fee and £3.1m for consultancy work.

The 2007 accounts received a clean bill of health from KPMG on 26 February 2008. So bad were the HBOS accounts that in the next four years some than £52.6 billion of loans had to be written off.

In early 2008, HBOS received a government cash injection of £37 billion and was absorbed into the Lloyds Banking Group. Eventually, Lloyds had to be bailed out too.

In the period leading to the 2007-2008 crash, all distressed banks received a clean bill of health from their auditors. But the FRC has shown little curiosity about accounting and auditing failures and its own role in the crash.

The FRC sets the rules for preparation and audit of company accounts. It permits accountancy firms to act as auditors and also sell consultancy services to audit clients. It investigates audit failures, but does not owe a ‘duty of care’ to any party affected its operations.

The FRC is populated by individuals from big accountancy firms, including personnel from KPMG. It is chaired by Sir Winfried Bischoff, 2009-2014 chairman of the Lloyds Banking Group.

In June 2016, under pressure from the House of Commons Treasury Committee, the FRC finally announced that it will investigate the 2007 audit of HBOS.

On 19 September 2017, it abandoned the investigation. Its press release said that “there is not a realistic prospect that a Tribunal would make an Adverse Finding against KPMG in respect of the matters within the scope of the investigation”.

Who framed the HBOS audit investigation? FRC did. What evidence persuaded the FRC to reach its decision? It has not provided any sight to that evidence.

The FRC is simultaneously a regulator and promoter of the accounting industry and the two roles cannot be reconciled. It has a history of burying investigations.

For example, in October 2008 and November 2009, the FRC announced that it will investigate the audits of the Equitable Life Assurance Society conducted by Ernst & Young. In November 2012, the investigation was abandoned.

Neither does the FRC show any urgency. For example, in November 2010 it announced investigation of the 2009 and 2010 accounts of Connaught plc, a social housing company which collapsed in 2010. The company was audited by PricewaterhouseCoopers. The outcome was announced in May 2017.

The FRC levies fines on audit firms, but all is not what it seems. For example, in August 2017, the FRC levied a fine of £5.1m on PricewaterhouseCoopers for audit failures at RSM Tenon Group plc.

However, the fines are not used to compensate shareholders, creditors, employees and pension schemes, HMRC and other victims of poor audits. Instead, the FRC passes the fines to the professional body whose members have been found guilty of misconduct.

Auditors are licensed by a number of professional bodies rather than the FRC. Thus, if an auditor licensed by the Institute of Chartered Accountants in England & Wales (ICAEW) is sanctioned, the fine is passed to the ICAEW.

The fines swell the coffers of the bodies like the ICAEW and can be used for public relations campaigns, fringe events at party conferences and fund consultancy contracts for past ministers and likely future ministers.

The public has little leverage over the FRC. It does not owe a ‘duty of care’ to anyone. Its board meetings are held behind closed doors and its files are not available for public scrutiny.

It is controlled and funded by big business and there is little presence of stakeholders. The main responsibility for its oversight falls on the Department for Business, Energy and Industrial Strategy, but it has shown no inclination to call the FRC to account.

The FRC’s failures are not just confined to banks. The faulty accounting rules formulated by the FRC have resulted in companies such as Dominos and Hargreaves Lansdown making dividend payments which do not comply with the Companies Act.

The government rhetoric is that company accounts are prepared for the benefit of shareholders and investors, but institutional investors, such as the Local Authority Pension Fund Forum (LAPFF), are openly saying that they have no confidence in the FRC.

By any measure the FRC is unfit to be a regulator. It lacks all the key requirements of a robust and effective regulator: independence, urgency, transparency and public accountability.

Prem Sikka is Emeritus Professor of Accounting at the University of Essex. He tweets here.

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7 Responses to “Corrupt and ineffective regulation means financial scandals are all but inevitable in the UK”

  1. Dulari-Leiylah Markelke

    Uk has failed corruption transparency criteria uk is fully corrupt for the rich.

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