Select Committee on Treasury Appendices to the Minutes of Evidence


APPENDIX 26

Memorandum submitted by the Public Audit Forum

INTRODUCTION

  1.  The Public Audit Forum provides a focus for developmental thinking in relation to public audit. Its members are the Comptroller and Auditor General for Northern Ireland and the Auditor General for Wales.

  2.  The Public Audit Forum is pleased to respond to the Treasury Committee's call for evidence as part of its inquiry into the arrangements for financial regulation of public limited companies in the United Kingdom in the light of the collapse of Enron. In preparing this response, we have taken particular note of comments made by Committee Chairman Mr John McFall MP that concerns as how best to ensure the independence and objectivity of auditors are of relevance to United Kingdom accounting and auditing practice.

  3.  Members of the Forum are engaged in the development of professional thinking and are represented on a number of professional and representative bodies. The great majority of audit staff employed by members of the Public Audit Forum belong to the professional accountancy bodies. Members also employ or appoint private firms of accountants to undertake work on their behalf, increasingly, public bodies are adopting accounting practices which are similar to those in the private sector. The Forum therefore, have a clear interest in issues impacting on the wider profession, including the regulation of public limited companies.

  4.  The Forum believe the principles underpinning audit are relevant to the Treasury Committee's inquiry in the context of the concerns that have been raised by the circumstances surrounding the collapse of Enron. Whether in the private or the public sectors, confidence in accounting and auditing rests on the independence and objectivity of the auditor. This paper focuses on how independence is secured under public audit and the implications for the public's confidence in public sector financial reporting. It considers in particular:

    —  Influence.

    —  Quality.

    —  Reporting.

    —  Proper conduct.

INFLUENCE

  5.  The methods of appointment of the auditors of public services ensure that the appointed auditor is independent of the audited body. This helps to prevent auditors from being and being seen to be improperly influenced by those whose work they audit and allows them to carry out their work freely.

  6.  The independence of the members of the Forum from the bodies being audited is guaranteed by statute. In the central government sector, the Comptroller and Auditor General is appointed by the Queen on an address from the House of Commons. The Comptroller and Auditor General audits all central government Departments and most Non-Departmental Public Bodies on behalf of Parliament. Up until recently some Non-Departmental Public Bodies appointed their own auditors or the Minister of the sponsoring Department appointed them. But in response to Lord Sharman's recent report into central government audit and accountability arrangements, the Government has accepted the principle that all such bodies should be audited by the Comptroller and Auditor General.

  7.  In Scotland, Wales and Northern Ireland the Auditor General for Scotland, the Auditor General for Wales and the Northern Ireland Comptroller and Auditor General are appointed to audit or appoint auditors to devolved government including sponsored bodies. The auditors of local authorities and local NHS bodies in England and Wales are appointed by the Audit Commission and in Scotland auditors of local authorities are appointed by the Accounts Commission.

  8.  The members of the Public Audit Forum ensure there is independent audit by undertaking the audit themselves, contracting the audit to private firms or appointing the private firm as auditors. Where the Audit Commission appoints the auditors of public bodies, those appointed auditors must comply with a statutory code of practice which requires their work to be carried out with independence, objectivity and impartiality. The Auditor General for Scotland and the Accounts Commission for Scotland have a code of practice which is implemented through letters of appointment.

  9.  Members of the Public Audit Forum ensure that where their own staff undertake the audit, the lead director is rotated at regular intervals. For example, the Audit Commission requires a change of the district auditor and audit manager on every audit at least once every seven years. All the members of the Forum rotate audits from time to time between private firms and other suppliers in order to provide a fresh perspective and to reinvigorate the audit.

  10.  Where public auditors contract audit work to private firms or appoint private firms, those contracts or appointments are fixed-term and renewable by competitive tender. Even where the performance of an incumbent firm is entirely satisfactory, audit appointments are re-tendered at regular periods. The Audit commission normally appoints auditors for an initial period of five years before conducting a review, when the period of appointment may be extended. A similar arrangement is operated by Audit Scotland.

QUALITY

  11.  The financial relationship between auditors and auditees should be such that it does not compromise the independence of the auditor or the quality of the audit. Public sector audit bodies are funded through a variety of means, all of which are designed to ensure the financial independence of the auditor from the audited body. For example, in central government the Westminster Parliament provides funds to the National Audit Office to undertake the audit of all Government Departments. Where public bodies pay for their audits, the final decision on fees rests solely with the appointed auditor.

  12.  The members of the Public Audit Forum do not undertake paid consultancy work on behalf of the public bodies they audit. Where they appoint private firms or where they contract work to private firms there are straight rules governing the non-audit work such firms can undertake. In the case of auditors appointed by the Audit Commission, no non-audit work can be undertaken if it impairs the auditors' independence and objectivity. All non-audit work over a £25,000 annual threshold (or 20 per cent of the audit fee if greater) must, in addition, be approved by the Commission. Private firms appointed by the Accounts Commission and the Auditor General for Scotland, and firms contracted by the National Audit Office, are required to obtain prior approval for non-audit work.

  13.  The members of the Public Audit Forum undertake their financial audit in accordance with best professional practice including auditing standards promulgated by the Auditing Practices Board. They have systems to ensure compliance with their own principles, improve the quality of reports, and secure best practice in the manner in which work is carried out. Public sector auditors also have regard to external benchmarks and the views of the public sector bodies that they audit.

  14.  For example, the National Audit Office's financial audit work is subject to the annual scrutiny of the joint Monitoring Unit (IMU) of the ICAEW, ICAS and ICAI. The Audit Commission's quality control review uses teams of independent inspectors who visit audits on site to examine, over a five year cycle, the work of the auditors that they appoint against the Commission's Code of Audit Practice, professional auditing standards and the Commission's specific audit requirements. They also meet representatives of the audited body to find out what they think of their external auditors and how the service they provide could be improved. In addition, the Audit Commission carries out a wider survey of audited bodies' chief executives and senior non-executives to obtain their views of the audit service provided. The Commission's reviewers also examine its appointed auditor's quality assurance systems, and teams of Commission experts' review a wide sample of annual audit letters. Similar arrangements exist in Scotland.

REPORTING

  15.  In certifying the accounts of the bodies they audit, Members of the Public Audit Forum work to the standards established by the Auditing Practices Board which operates for the public and private sectors alike. But the statutory framework governing public audit provides for wider scope, allows greater disclosure and gives better protection for independent reporting without fear or favour.

  16.  Public audit not only involves providing an opinion on the financial statements (including statements of internal control where appropriate) prepared by public bodies, but also covers such issues as regularity, propriety and value for money. In doing so it also contributes positively to the corporate governance arrangements of public bodies.

  17.  Public sector auditors have a statutory requirement to ensure that the public funds they audit have been spent properly. The National Audit Office, for example, is required to certify that the financial transactions in the accounts comply with the legislation that authorises them, relevant regulations, Parliamentary and Treasury authority. The Auditor General for Scotland is required to report on whether the expenditure and receipts shown in the body's account were incurred or applied in accordance with any applicable guidance (whether as to propriety or otherwise) issued by the Scottish Ministers. There are similar requirements for the Auditor General for Wales and the Comptroller and Auditor General for Northern Ireland. The Audit Commission has additional powers, such as the power to apply to a court that items of account are contrary to law, the power to apply for judicial review of a body's decisions, and the power to issue prohibition orders.

  18.  Public auditors may also examine and, if appropriate, report upon issues of impropriety within the bodies they audit. The concept of propriety is closely connected with public and parliamentary expectations as to the way in which public business is conducted, for example in relation to standards of conduct and behaviour. It includes matters such as fairness, integrity, the avoidance of personal profit from public business, even-handedness in the appointment of staff, open competition in the letting of contracts and the avoidance of waste and extravagance.

  19.  The National Audit Office may report to Parliament any matters relating to the accounts, including failures of propriety and financial control. These reports which can be with the audited accounts or presented separately, deal with issues that the Comptroller and Auditor General considers Parliament should be informed of. The Audit Commission's code of audit practice incorporates the responsibility for auditors to review and, where appropriate, report on the arrangements put in place by audited bodies to maintain proper standards of financial conduct, as well as those relating to the prevention and detection of fraud and corruption. The ability of public auditors to report on such matters helps ensure that public bodies meet their statutory and ethical duties to the public and other stakeholders in an open and even-handed manner.

  20.  Public audit also includes examinations of the economy, efficiency and effectiveness in the use of public resources, including the evaluation of service quality and the measurement of performance. Those who use or pay for public service quality and the measurement of performance. Those who use or pay for public services, either through taxation or charges, have a reasonable expectation that public bodies make the best use of the resources at their disposal.

  21.  Public auditors report the results of their audit to the elected representatives of the public or directly to the public themselves where it is in the public interest to do so. For example, the Auditor General for Wales reports the results of his financial and value for money work to the National Assembly for Wales. These reports are published and absolutely privileged under Section 77 of the 1998 Government of Wales Act. The audit Committee of the Assembly is empowered to take evidence on the basis of the auditor General's reports, and to report its own findings to the Assembly. The Assembly's Standing Orders require the Cabinet to respond formally and promptly to each Audit Committee report. The Committee may take further evidence if it is not satisfied with a response. The financial and non-financial impacts identified by the Auditor General and the resulting actions by the management of the bodies concerned are monitored by the Auditor General for Wales and reported in the Auditor General's Annual Report published with his accounts.

  23.  The Audit Commission Act 1998 requires appointed auditors to consider whether, in the public interest, they should make a report on any matter coming to their notice in the course of the audit, in order for it to be considered by the body concerned or brought to the attention of the public. The auditor must also consider whether the public interest requires any such matter to be made the subject of an immediate report rather than of a report to be made at the conclusion of the audit. Such reports may be inspected by the Public. The Act also requires the audited body to consider the report and any recommendations made within a specified time frame.

  24.  The statutes governing the activities of members of the Forum such as the National Audit Office provide a statutory indemnity. Although such indemnities have not I practice been drawn upon, they help to provide assurance that the bodies will report in the public interest and without regard to the fear of the consequences of action being taken against them in the courts.

PROPER CONDUCT

  25.  Professional auditors are required to observe the ethical guidance of the particular professional bodies to which they belong. Additional requirements govern those working within public audit. All public sector bodies are required to observe high standards of probity in the management of their affairs. These include the seven principles of public life identified by the Committee of Standards in Public Life: selflessness, integrity, objectivity, accountability, openness, honesty and leadership.

  26.  The national audit agencies seek to maintain the highest standards of corporate governance within their organisations and to apply appropriate ethical standards to the conduct of their audits. In their March 2000 paper "What Public Sector Bodies Can Expect From Their Auditors" the Public Audit Forum published a list of commitments to be followed by staff working within public audit. These include:

    —  not to become financially of personally involved with the public sector bodies they audit and not accept gifts or anything other than modest hospitality from them;

    —  not to allow personal or political considerations to cloud their judgement;

    —  not to share in the decisions of the public sector bodies they audit, other than in reaching agreement over the conduct of the audit;

    —  to avoid taking over the duties of management of the public sector bodies they audit in relation to maintaining accounting records, preparing accounts, safeguarding assets, providing internal audit services or preventing fraud and corruption they should not act as management consultants, but should provide advice to management;

    —  to avoid any campaigning on behalf of the bodies they audit, other than to uphold examples of good practice for the benefit of others;

    —  to use teams possessing appropriate skills and experience in the work they undertake and for the type of assignment undertaken;

    —  to work with care, thoroughness and expedition, assessing critically the information and explanations they obtain in the course of their audits and other examinations and seeking additional evidence that they consider necessary;

    —  to have in place arrangements to control and review the quality of their work;

    —  to have defined processes and procedures for dealing with complaints and seek to resolve difficulties quickly, carefully and fairly.

CONCLUSION

  27.  The impact of the collapse of Enron has led to considerable speculation about the potential impacts on the UK auditing and accountancy profession, raising questions of governance and audit regulation. The Forum believe the statutory and other arrangements underpinning public audit which we have outlined in this paper help to maintain trust in the financial reporting and management of public bodies and ensure audit plays an essential role in maintaining confidence both in the stewardship of public funds and in those entrusted with the responsibility of stewardship.



 
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