HC 696 Pre-legislative scrutiny of the draft Local Audit Bill
Memorandum submitted by ACCA
Draft Local Government Audit Bill
Call for evidence by the ad hoc committee responsible for the pre- legislative scrutiny of the draft local government audit bill
Comments from ACCA
ACCA (the Association of Chartered Certified Accountants) is the global body for professional accountants. We aim to offer business-relevant, first-choice qualifications to people of application, ability and ambition around the world who seek a rewarding career in accountancy, finance and management.
We support our 154,000 members and 432,000 students throughout their careers, providing services through a network of 83 offices and centres. Our global infrastructure means that exams and support are delivered – and reputation and influence developed – at a local level, directly benefiting stakeholders wherever they are based, or plan to move to, in pursuit of new career opportunities.
ACCA welcomes the opportunity to comment on the impact of the draft Bill on the future of local audit provision. The ACCA Global Forum for the Public Sector has considered the matters raised and their views are represented in the following.
ACCA’s main summary points are as follows:
· There is a missed opportunity in the draft Bill to address the issue of how audit quality will be maintained across the local government sector. The draft Bill is wholly focused on cost and makes no assessment of the impact that a downward fee pressure could have on audit quality.
· The issue of auditor independence could be better addressed by strengthening the role of audit committees, for example by including a statutory duty for all local authorities to have audit committees with the membership structure and responsibilities set out in the draft Bill.
· The proposals set out in the draft Bill outline a fragmented and complex audit framework with multiple oversight bodies involved. In our view this arrangement has the potential to increase the scope for gaps in accountability to arise, particularly, where new models of public service delivery are concerned.
· We were pleased to see that in the draft Bill most elements remain the same for auditors making reports in the public interest.
· There is more work to be undertaken by the Government in relation to resolving the problem of limited competition in the audit market, so as to encourage more small and medium sized audit practices into the market in the future.
· There is still very little clarity about what activities the NAO will implement and will not implement, such as co-ordination of whole of government accounts consolidation packs, limited assurance frameworks for small audits etc. Also, it is still not clear how their role will work in practice, particularly given that they will not hold local authorities to account in the same way that central government is held to account.
1. Localism and decentralisation-specifically, whether the provisions empowering local bodies to appoint their own independent external auditors will work and provide adequate safeguards, for example, to ensure independence and the extent to which the provisions in the draft Bill are future-proofed to take account of emerging changes such as the accounting arrangements for community budgets and the sharing of services.
ACCA recently responded to the Government’s consultation on the draft local audit bill and said that, whilst we thought the proposals for audit safeguarding auditor independence were heading in the right direction, we were disappointed that the draft Bill was proposing to do this through the introduction of audit panels and not existing audit committees, thus adding an additional layer of bureaucracy. In our view this will lead to an unnecessary burden and additional costs on local authorities. Also, the audit panels’ intended relationship with the auditor and the audit committee is not clearly set out in the draft Bill. This is likely to confuse rather than enhance governance arrangements within a local authority.
Whilst we support the criteria and functions set out in Part 3 of the draft Bill we believe that these functions should be performed by audit committees and a statutory duty should be included within the draft Bill for all local authorities to maintain an audit committee. This would make governance arrangements comparable with those operating in the private sector.
Local authorities should be required to make the necessary membership changes to audit committees and take on the functions of advising on auditor appointments, maintaining relationships with the auditor and dealing with public interest reports. The audit committee’s functions and membership requirements would include those set out for the draft Bill together with the wider duties set out in the Financial Reporting Council’s (FRC) revised guidance for audit committees (September 2012), albeit this will also need to be adapted to reflect the different context of local government. In our view it is more likely that the arrangements will be future proofed if they are aligned to the models working in the private sector. Health trusts, for example, already follow the private sector model of governance.
We have reported in our response to the Government that there should be an independent chair of the audit committee who is financially competent and has a sound knowledge of local authority finances and the governance structures. The majority of committee members should also be independent.
We also stated in previous submissions to the Government that more attention is now being given to risk management and the establishment of risk committees for listed companies. We are aware that a number of local authority audit committees already take on this function, but believe that the draft Bill could be strengthened by setting out an audit committee’s responsibility in respect to risk management.
It is not clear form the draft Bill how auditor appointments will be made and independence assured in the case of shared services or community budgets. As services become more localised and fragmented there is a potential for accountability to fall through the gaps. Drawing upon experience, it was often the case for shared services that the Audit Commission would agree a lead auditor to co-ordinate the audit with the auditors of other bodies involved in the shared service. It is not clear how the audit will be co-ordinated in the future. Additional difficulties may arise where a public interest report is required. The draft Bill needs to clearly outline how the audits of shared services are co-ordinated in the future in the absence of the Audit Commission.
On the broader issues of whether the audit framework being proposed in the draft Bill supports localism, we would argue that it does not, for the following reasons:
- A significant number of local authorities will not have the opportunity to appoint local auditors for a further seven years until 2020/21 because of extension clauses within the contracts. Also, it seems irrational that there is no planned oversight of these contracts posts the Audit Commission from 2015.
- Rather than stripping away the layers of top down bureaucracy and oversight placed on local authorities, the Government is actually adding to them with at least four new national bodies having a role including, the National Audit Office (NAO), potentially the National Fraud Authority (NFA), the Financial Reporting Council (FRC) and the LGA responsible for undertaking peer review assessments. These bodies will have to co-ordinate with a myriad of other scrutiny arrangements e.g. audit panels, audit committees, inspectorates, external auditors, internal auditors and scrutiny committees.
We believe that the fragmentation of the audit framework as proposed in the draft Bill has the potential to blur governance and accountability arrangements, frustrate co-ordination and make it less likely to detect service failure, respond to emerging challenges and judge whether value for money is being achieved in the future.
2. Transparency-in particular, whether the provisions in the draft Bill will ensure that results of audit are accessible to the public in a transparent and intelligible manner and data of interest to the public is easily available so that local bodies can be held to account for local spending decisions.
We are pleased to see in the draft Bill that most elements will remain the same for auditors making reports in the public interest. We also agree that public interest reports on connected entities should be considered by the relevant ‘parent body’. However, from a practical point of view it is still not clear how public interest reports will be co-ordinated by potentially different auditors when they cover multiple local authorities or shared services arrangements.
We are also pleased that the draft Bill contains provisions to modernise the rights of the public to object to the accounts. The public now have access to a number of avenues for redress.
We believe that the real challenge for both auditors and local authorities is to make data accessible and understandable for the public. But we also hold the view that the public want independently assured data. By simply putting all items of expenditure on a web site provides neither assurance of accuracy of the data or the context in which it is spent. We would suggest that the costs imposed on local authorities potentially outweigh the benefits. We are supportive of the Public Accounts Committee’s recommendation in its 10th report on ‘implementing the transparency agenda’ (2012) that a cost benefit analysis needs to be performed.
We are concerned about how transparency will be achieved through the Local Government Association’s (LGA) new peer review programme. In the Government’s response to the CLG committee’s report it said ‘it wanted councils to embrace the spirit of openness, transparency and accountability so that local people can understand what they are doing and to hold them to account. The sector as a whole must be robust in challenging poor performance’. But only recently this aspiration has been challenged by three peer-reviewed authorities refusing to publish their assessments. Given this development it is unclear how in the future transparency will be addressed and potential service failure detected.
3. Lower audit fees-will the draft Bill ensure that the audit fees paid by local public bodies are competitive and offer value for money as well as securing the reduction in the overall costs which the Government has predicted.
In our view the impact assessment analysis of market f orces and competition on fees was no t comprehensive as it was drawn from research directly commission ed by the Government and does not reflect wider academic research. At least two recent studies show that audit fees have a tendency to increase and not decrease in the long-term. For example, a study conducted by the London School of Econo mics (LSE) in 2002 identified an increase in audit fees following the reduction from five large firms to four. According to the LSE audit fees increased by 2.4% and have continued to grow since then.
Similarly, a 2009 study comparing ‘in-house’ to outsourced private sector audit suppliers delivering financial a udits in the public sector i n Western Australia found that for 178 public agencies outsourced audits are, in general, more costly than in-house audits in the long term . More specifically it found that outsourced audits are more costly than in-house audits for small statutory authority audits, whereas for large and complex statutory authority audits, the in-house supply is equally as efficient as the outsourced service.
There is also anecdotal evidence from our European partners of the impact that low fees can have on audit quality. For example, this has become of such a concern in Belgium that the Government is requesting an amendment to a European Commission public procurement directive t o prevent ‘statutory audit’ being tendered out , as it believes audit is being compromised by low fees.
4. The market in auditing service-specifically, whether the operation of the market in audit services is sufficiently competitive to allow smaller firms and organisations such as mutuals and co-operatives to be able to compete with large well-established companies and the effectiveness of the draft Bill in promoting competition in the delivery of audit services.
We agree with the CLG selct committee that ‘unless the Government can crack the problem of the very limited competition in the audit market in the UK, it will always be open to the accusation that the abolition of the Audit Commission is not a measure to save public money but merely a mechanism to transfer public money into private hands’. For local auditor appointment to work, the local government audit market must be opened up to wider competition. Since the contracting out of audit services earlier this year there have been two new entrants to the market, which is a step in the right direction, but this needs to go further than is currently the case to provide local authorities with a genuine choice of audit firms which includes small practices.
We believe that further work is required by the Government to work with other appropriate bodies, including DBIS, Competition Commission, FRC, the LGA and professional accountancy bodies to deliver a more open and competitive local government audit market.
5. Auditing standards-specifically, whether the draft Bill will ensure that there is an effective and transparent regulation of public audit, and conformity to the principles of public audit and whether the arrangements in the draft Bill will ensure that both good practice and lessons to prevent failure are disseminated adequately.
As well as developing the Codes of Audit Practice the Audit Commission was instrumental in specifying the audit approach for those aspects of the audit not covered by professional standards, such as the value for money conclusion and review of whole of government accounts consolidation packs, certification of claims and returns, limited assurance approach for small audits and developing standard forms of audit reports, guidance and advice for auditors, and deals with technical queries from auditors on technical issues etc, for both private audit firms or Audit Commission staff. It is not clear from the draft Bill which body will take on these functions to ensure that audit is seamlessly delivered by audit providers in a cost effective and co-ordinated way. Without any clarity in the draft Bill it has to be assumed that the NAO will be taking on these functions, if not, there will be a fragmented approach to ensuring consistent standards is applied.
Also, in the absence of the Audit Commission it will be important that the FRC works with the supervisory bodies in specifying the technical standards for firms seeking to operate in the sector. We have previously reported that the Audit Inspection Unit (AIU) of the FRC would be best placed to oversee and regulate audit performance as it has already undertaken this role for a handful of local authority audits at the invitation of the Audit Commission. It would , of course, need additional capacity and resources and assurances would have to be sought in this respect .
6. The objectives of the new arrangement-specifically, what are the objectives for the new arrangements and how will their impact be measured.
Our understanding of the Government’s objectives of the new audit arrangements is to give local authorities more choice over appointing their own auditors, whilst at their same time minimising audit fees. A notable absence from the objectives is how the Government intends to ensure the quality of audit is not compromised and that it is delivered consistently for local government. In the absence of the Audit Commission there will be no longer a requirement for comparable audit between individual authorities. In the future, what a local authority gets in the way of audit is what the governing body is prepared to pay for.
We believe that the Government’s other objectives include providing greater transparency through the publication of data and self-regulation by local authorities themselves through the peer review process. Although these objectives have their merits they are based on assumptions, such as the accuracy of data and the capability of it being interpreted by the public and that local authorities are well governed and value for money is achieved. While this is true for a large number of authorities it will not always be the case. In the absence of a future champion for VFM it will be much more difficult to identify scandals, service failure and whether public money is being well spent in the future
We support the development of an evaluation framework to measure and monitor whether the objectives of the new arrangements are being fulfilled.
7. The winding-up of the Audit Commission-for example, whether the arrangements in the draft Bill for winding up the Audit Commission made adequate provisions for liabilities and that expertise built up by the Commission is not dissipated.
Our understanding is that the Audit Commission is now reduced to 70 staff with direct responsibility for regulating the market. In our view the expertise of the Commission, and its knowledge of the health and local government sectors, has been dissipated since the decision was made in 2010. This is a considerable loss to the sector.
We were disappointed with the impact assessment prepared by the Government that the focus was wholly on cost with no reference to quality or the impact of a downward fee pressure could have on audit quality. This should be of concern to the NAO and Treasury.
In our response to the Government’s consultation of the Local Government Draft Audit Bill we expressed our disappointment that the Government was still questioning the realism of its own figures. The cost benefit analysis that was provided by the Government was compiled using a very narrow basis on what applied to the Government’s accounts rather than accounting for the overall impact of the changes. We are sceptical about the government’s claims that savings of £650 million can be achieved over a five-year period given a number of anomalies contained within the impact assessment statement.
8. The intended role of the National Audit Office-specifically, whether the arrangements for value for money are adequate and whether in time the NAO will take over the role of the Audit Commission.
A gainst the severe spending reduction background, increased devolved services and the fragmentation of the governance, audit and scrutiny framework we believe that it will become more difficult for an organisation such as the NAO to judge performance across public services in the future.
In our previous submissions to the Government we have supported the NAO taking over the Audit Commission’s value for money function following its demise. We are also aware that the NAO has now established a reference group and value for money team to undertake a smaller range of value for money studies.
However, we have concerns about its resources and capacity to undertake value for money, as well its experience of the local government sector. The Audit Commission has few remaining value for money experts and we believe that a key opportunity was missed earlier in the process to transfer key staff to the NAO. As a result a wealth of experience has been lost to the sector at a time when the sector is changing so much.
We also understand that the NAO will not hold local authorities to account in the same way it does central government. It is not clear how this will work in practice and whether this will open up scope for local authorities to be called to account by the PAC in the future.
9. Audit arrangements for health services, with particular reference to the new NHS ‘system architecture’ and new health responsibilities for local authorities under the Health and Social Care Act 2012, which will take effect from 1 April 2013.
As far as we are aware the local external auditor will have responsibility for auditing the new health and well-being responsibilities. This should not present an accountability gap at a local level as it the audit will be conducted in accordance with the Code of Audit Practice.
However, the fragmentation of audit means that it will be increasingly difficult to gauge whether value for money has been achieved nationally, unless, the new health and well-being responsibilities are subject to a NAO value for money review. Given that the proposal is to limit VFM studies in local government to a handful of studies, this area is at risk of being crowded out by competing priorities. In addition, a local authority will find it increasingly difficult to compare its performance against other local authorities and to know what good practice looks like as there will be no benchmark.