FRC confirms changes to role and composition of audit committees to reflect EU audit law

The FRC has published revised versions of the UK Corporate Governance Code and its Guidance on Audit Committees. It has also published a new consolidated Ethical Standard for Auditors and revised Auditing Standards. These changes follow its September 2015 consultation to implement EU legislation on statutory audit, including Regulation 537/2014 and the Order and recommendations of the Competition and Markets Authority following the Competition Commission's review of the FTSE 350 audit market.

The changes take effect for financial periods commencing on or after 17 June 2016.

The FRC has committed to avoid making further updates to the Code until at least 2019.

UK Corporate Governance Code

Provision C3.1 has been amended to require the audit committee to have competence relative to the sector in which its company operates. However, the FRC has decided not to change the Provision to require the audit committee to have “competence in accounting and/or auditing” and is retaining the current formulation for at least one member of the audit committee to have “recent and relevant financial experience”. It considers this to be more flexible. Whilst this deviates from the Audit Regulation, the FRC and FCA take the view that DTR 7.1 sets the basic standard and the Code provides guidance on good practice.

There are also a couple of other minor changes from the version of the Code on which the FRC consulted:

The statement in Provision C3.7 that the audit committee should have primary responsibility for making a recommendation on the appointment, reappointment and removal of the external auditors has been retained in the interests of clarity and for consistency with the FRC Guidance on Audit Committees.

Provision C3.8 has been amended to require advance notice of any retendering plans. The FRC has added the word “any” to ensure that reporting is only undertaken when relevant to give stakeholders details of when the board or audit committee considers it appropriate to retender

The FRC has rejected the CMA’s recommendation that the FRC introduce an advisory vote on audit committee report. The vast majority of investors considered it unnecessary as there are other avenues through which they can raise concerns.

FRC Guidance on Audit Committees

The changes to the FRC’s Guidance for Audit Committees reflect changes to the UK Corporate Governance Code made in 2014 and developments and good practice in relation to risk management and internal audit.

In addition to the changes proposed by the FRC in its September 2015 consultation:

  • the section on communication with shareholders has been extended to emphasise that the audit committee’s role goes beyond reporting and should also include meeting investors.
  • there is more emphasis on the importance of a range of skills, experience, professional qualifications and knowledge in forming an audit committee. In addition, the audit committee should disclose how the UK Corporate Governance Code provisions on audit committee composition requirements (recent and relevant experience and sectoral competence) have been addressed. These disclosures should be addressed in the audit committee report, if not provided elsewhere.
  • there are further revisions to clarify the committee’s role in relation to the fair, balanced and understandable statement and in respect of risk and internal audit.
  • there is a new recommendation that the committee consider the clarity of its reporting.

As previously proposed, the guidance recommends that the audit committee should disclose the nature and extent of any interaction with the FRC’s Corporate Reporting Review team and any significant findings by the FRC’s Audit Quality Review team and the actions the auditors plan to take in response to those findings. The FRC also encourages audit committees to report even if there were no significant issues to avoid speculation and plans to publish, from 2017, the names of those companies or company audits which have been the subject of review.

Other amendments

The revised Ethical Standard consolidates the Auditing Practices Board’s five Ethical Standards for Auditors and the Ethical Standard for Reporting Accountants. The changes are designed to increase auditor independence, underpinning legislative changes such as retendering and auditor rotation. In relation to a public interest entity, the Standard prohibits the provision of certain types of audit service and subjects others to a fee cap of no more than 70% of the audit fee calculated on a rolling three-year basis.

Auditing standards have been revised to accommodate the Audit Regulation and recent changes made by the International Auditing and Assurance Standards Board in relation to extended auditor reporting, reporting on other information (including the strategic report and directors’ report), reporting to audit committees on key audit matters and by exception reporting on going concern.

Further information

To access the revised Corporate Governance Code, Guidance on Audit Committees and other materials, click here.

Other regulatory and legislative changes to implement changes to EU law regarding statutory auditors are due to be published by The Department of Business, Innovation and Skills, the Financial Conduct Authority and the Prudential Regulation Authority.