Business and Trade Committee
Oral evidence: Delivering audit reform: follow-up, HC 663
Tuesday 26 March 2024
Ordered by the House of Commons to be published on 26 March 2024.
Members present: Liam Byrne (Chair); Ian Lavery; Andy McDonald; and Mark Pawsey.
Questions 1 - 45
Witnesses
I: David Herbinet, Head of Audit and Assurance, Mazars; Scott Knight, Head of Audit and Assurance, BDO UK; Iain Wright, Managing Director (Reputation and Influence), Institute of Chartered Accountants in England & Wales (ICAEW); and Bruce Cartwright, Chief Executive Officer, Institute of Chartered Accountants of Scotland.
Witnesses: David Herbinet, Scott Knight, Iain Wright and Bruce Cartwright.
Q1 Chair: Welcome to this morning’s session of the Business and Trade Select Committee. Thank you very much indeed to our witnesses for joining us this morning on this one-off special session looking at the failure of the Government to bring forward their long-promised programme of audit reform.
Mr Wright, I will start with you. Welcome back. It is good to see you on that side of the table.
Iain Wright: I am not sure I share that sentiment, Chair, but thank you for inviting me.
Q2 Chair: Can you just tell us what the business case is for audit reform?
Iain Wright: If we take a step back and look at why reform was needed, there were a series of corporate scandals and failures—BHS, Carillion and Patisserie Valerie—where the early warning indicators of unexpected failure were not working. Were directors doing what they should be doing? Were they assessing and managing risk? Was audit of sufficient quality? Were directors handing out dividends from reserves that were not really there? Was there material fraud?
Taking a holistic view, the audit reforms—this includes the importance of raising quality, improving competition and having resilience and choice in the audit market—seek to enhance trust and transparency, which in turn improves competitiveness and the growth agenda for the UK. We have had stagnant growth for too long, and this helps to some extent.
Q3 Chair: Is business failure not just part of the creative destruction of the marketplace? Is it not something that is part and parcel of the way our system of capitalism works?
Iain Wright: You are absolutely right. I am glad you have mentioned that straightaway because the notion that you can somehow stop corporate failure is wrong. It simply will not happen. It is a natural characteristic of capitalism. Businesses grow and they die. That can sometimes be because of the actions or inactions of directors. They did not anticipate market changes; they have done things that they perhaps should not have, not in a negative or pejorative sense, but in terms of failing to respond to how things were altering.
The other key thing I would mention is that corporate failure is a part and parcel of life. It is regrettable. It can be painful for those affected—as Members of Parliament, you will have to deal with the consequences on behalf of your constituents—but it will still happen. It is a natural part of capitalism.
The other key point to mention is that corporate failure is not necessarily audit failure. Audit failure does not really lead to the collapse of a company. It may not spot and detect what is needed and it may not highlight a deteriorating financial position, but I would not equate audit failure with corporate failure.
Q4 Chair: What does audit reform give us that we do not have today?
Iain Wright: In terms of what it gives us that we do not have today, there has been some movement in the last few years. As a Committee, you might want to come on to that.
It gives assurance not only to investors, who are the prime stakeholders, but to a wider group of stakeholders, whether that is employees, suppliers, regulators or others, that the company’s financial performance and statement is true and fair as of balance sheet date. That gives confidence to investors, as part of a whole range of other different pieces of information, that they can invest in a company.
Q5 Chair: If confidence goes up, does that create a more benign environment for, say, investment going up in the economy?
Iain Wright: Yes, absolutely. The UK is competing in a fiercely global market, particularly at the capital markets end. You want a good range of early warning indicators and corporate governance to give some degree of assurance to investors and others. Money cannot be safeguarded—you may lose your money—but in terms of directors doing their duties, regulators holding people to account and auditors carrying out high-quality audits, we know that the system of corporate governance and audit is working well. That is a sign of comparative strength for the UK.
Q6 Chair: Bruce Cartwright, what is your view about the business case for audit reform?
Bruce Cartwright: I share a lot of Iain’s views about the market. I have been in post six years. It coincided with the collapse of Carillion, purely coincidentally. I have lived this for the last six years in terms of the reforms that have happened. Looking at the bigger picture, my starting point—forgive me for saying this—is that “audit reform” is a bit of a misnomer. We are really talking about accountability and transparency, of which audit reform is a section.
It has been likened before to a three-legged stool. Audit and audit reform is part of that. Audit is very important, but you also have the directors and their responsibility and then you have the controls within the company. I have three legs on my stool. I have the directors and their management responsibilities; I have the internal controls; and then I have audit and assurance. Audit reform is only one leg of this stool. That is really important because talking about accountability is a shift in mindset.
Q7 Chair: Let me just bring you to the question. What is the virtue of this improvement in accountability? What does the country get out of it?
Bruce Cartwright: There are three things. You get enhanced quality of audit; a more robust and transparent marketplace; and you get transparency and responsibility in terms of the directors’ position.
Q8 Chair: Why should the residents of Hodge Hill care about any of that?
Bruce Cartwright: Take the directors’ responsibility. At the end of the day, we are not going to stop corporate failure, but, if we have better systems for monitoring what is going on, we can at least have early warning systems to see what is going on.
If you are referring to individuals, we are all heavily invested in corporate UK. We all have pensions, every single one of us. That is really important. We sometimes talk vaguely about how nobody really suffers. Every time there is a corporate failure or investments are lost, every single one of us suffers because it is our pension scheme money.
Q9 Chair: Our investments are safer and our pensions are safer.
Bruce Cartwright: They should be safer. We are a capitalist society—things go up and down—but we need to have more transparency, honesty and accountability from directors, not just those with a professional qualification. That is the fundamental thing that we have not achieved at all: wider responsibility for the running of corporate Britain by directors.
Q10 Chair: There is a well-rehearsed argument that the investment rate in our country is too low. Is improving accountability in the way that you outline good for moving that investment rate up?
Bruce Cartwright: Yes, because we are going to get greater transparency and responsibility. If you get greater transparency and responsibility, it is a more powerful market for investing in.
Iain Wright: If I may, Chair, corporate governance reform and having best-in-class corporate governance should not be seen as burdensome or red tape. It is a great catalyst to improve competitiveness.
Q11 Chair: Could it help us improve foreign direct investment into the UK?
Iain Wright: Yes, because we are competing around the world. By having that regime of good transparent accountability, capital flows will come to the UK. It helps our growth, and we need that at the moment.
Q12 Mark Pawsey: I wonder whether I might start with Mr Cartwright. I and others on the Committee here conducted the report five years ago when we looked at the future of audit. That was done at the same time as Brydon’s work and Kingman’s work. In response to our report and those other reports, the Government said they would bring forward proposals for audit reform. That has not happened. At this stage, I am not sure we have a clear understanding of why not. We have the Minister on our final panel, as I am sure you know. That will be the first question that we will put to him.
I am just wondering whether you can tell me, from what you understand, why reform has not been forthcoming.
Bruce Cartwright: Hopefully, it will coincide with what the Minister might tell you later. From my perspective, we have to be clear that we are not sitting in an ivory tower, immune to what else is going on in the world. There have been some fairly seismic shocks around us. We have had the legislation, the whole Brexit environment, the covid pandemic, et cetera. There are wider seismic things going on that might have delayed this. Therefore, you might say that we have not found the parliamentary time to put this into legislation. That is a valid argument to some degree, but when is the right time?
Q13 Mark Pawsey: You think it is a lack of parliamentary time.
Bruce Cartwright: I am hearing that there has been lack of window space to do it as opposed to a lack of willingness to do it.
Q14 Mark Pawsey: Iain Wright, you know how this place works. Are you convinced by that?
Iain Wright: Mr Pawsey, politics is about priorities. It is a question of priorities. I am not entirely certain the Government have demonstrated that audit and corporate governance reform is a sufficient priority for them.
I understand what Bruce is saying. There have been seismic shocks—Brexit and covid. Parliament has had to deal with that. The other thing I would say, Mr Pawsey is that Government priorities are one element of parliamentary time. There are different actors in the audit and corporate governance ecosystem. Those have played their part in trying to deal with some of these things. I would include you as a Select Committee. You are holding feet to the fire even as we speak. You have pushed this from five years on.
Audit firms, to be fair to them, have tried to improve their quality by putting in place things such as improved governance and operational separation. The regulators have ramped up their activity. Professional bodies have dealt with things in terms of improved CPD. These different actors have done things. The missing link, as it were, is Government and their emphasis.
Q15 Mark Pawsey: Both of you have spoken about the challenges of the last five years—the business environment, covid and the war in Ukraine, for example. Do those uncertainties not make the need for confidence in our audit system stronger rather than weaker?
Bruce Cartwright: That is a leading question, but yes. Things have to find the space to be done, but, if we do not do it, we ignore it at our peril.
I would just stress what Iain said. Coming back to the three legs of the stool, if I was whizzed back five or six years to Carillion, the one that has probably shifted the dial most is the audit side in terms of having really robust, healthy discussions, particularly between the audit firms and the FRC. We have been on a journey, and we are in a different place. We are much improved in those five years. Frankly, that is down to the FRC and the firms taking a really robust, holistic look at what they are doing.
Q16 Mark Pawsey: To follow that up, audit firms have improved—they have made some of these changes, such as splitting consultancy work from audit—and the FRC has doubled in size. It is doing more than it was five years ago. Are those two things what the Government have in mind when they say, “Things have improved, so we do not need to bring forward legislation”?
Bruce Cartwright: We could tick a box and say, “This has significantly improved”, but that is only part of a balanced scorecard. Where we have not gone anywhere is the dialogue. The Kingman report and the Brydon review make the point about directors’ responsibilities very clear. Internal controls is the other big one. That is improving through corporate governance; that gets a tick so far. Frankly, if you were scoring all three, there would be a semi-tick on the first, a semi-tick on the second, but on director responsibility there has been no progress whatsoever.
Q17 Mark Pawsey: Iain Wright, did you share the view that we have not gone far enough and it really does need some legislation?
Iain Wright: I would answer that by reference to the title of the Government’s press release when they withdrew the secondary legislation in October. They used words to the effect of, “Government are pulling burdensome red tape”. I would really challenge that. Good, effective, proportionate and holistic corporate governance reform is good for UK business; it is not burdensome red tape.
Q18 Mark Pawsey: Does the fact that this legislation, which was promised by the Government, has not come forward make another Carillion more or less likely?
Iain Wright: I would go back to an earlier response. As part of a capitalist system, we will have corporate failure. Given the volatile situation that we have found ourselves in over the last five years, it is a big surprise that we have not had as many corporate failures as we perhaps might have expected.
That could be for a variety of different reasons, but ultimately the lack of a holistic response to audit and corporate governance reform means that the points about unexpected corporate failures and the failure to identify a material fraud still remain on the cards.
Q19 Mark Pawsey: Bruce Cartwright, could another Carillion be lurking, where auditors have not gone dug deep enough when something does not look quite right? Have they had the incentive to dive deeper and root out some of the things that may be happening?
Bruce Cartwright: First of all, we are totally aligned in terms of corporate failure—corporate failure will happen—but what we are stressing is “unexpected”. When we get to a better place on all this, it should be less unexpected. You talk about the incentive for auditors to dig deep—I think those were your words—but auditors are professional people who are highly incentivised to dig deep.
Q20 Mark Pawsey: Would the reforms that we asked for, which Kingman and Brydon have also asked for, have eliminated unexpected failures?
Bruce Cartwright: You can never eliminate unexpected failures, but you can reduce them. For example, corporate fraud will happen; corporate failure will happen. Sometimes they are seismic.
Q21 Mark Pawsey: Failure may happen and be undetected—that is a function of the market—but why should fraud not always be identified by the auditors?
Bruce Cartwright: This is one of these so-called expectation gap questions. Fraud comes in many manifestations and can be really difficult to spot. Bear in mind that, where it is intended, you are looking at positions where people are misleading deliberately. That is not the same as a corporate failure that comes about from a loss of market.
Mark Pawsey: I understand that.
Bruce Cartwright: Fraud will happen sadly because it is the nature of a society where we get people—
Mark Pawsey: It can go undetected.
Bruce Cartwright: No, that is not fair. Many frauds are detected.
Q22 Mark Pawsey: No, but fraud can go undetected despite an audit. Is that right?
Bruce Cartwright: It can go undetected for a period of time. Inevitably, frauds come to light because cash flow runs away with you.
Q23 Mark Pawsey: Is fraud more likely to go undetected as a consequence of the failure to implement the reforms?
Bruce Cartwright: I would look at being very clear about the auditor’s responsibility and the directors’ responsibility. The directors have the responsibility to ensure there are good internal controls. If you have clarity on responsibility, there is a smaller likelihood of irregularities.
Iain Wright: In response, I would say it is more likely because of the lack of reform. Maybe we will come on to this, but I would cite the secondary legislation that was announced by Government in July and then withdrawn in October. There were four key elements of that dealing with some of the aspects of the early warning indicators that we have talked about.
One of those was asking directors to produce a material fraud statement. How are you identifying material fraud in your business? What are you doing in terms of internal controls? That was withdrawn. That is a major plank of the reform agenda. Parliament rightly has said, “We are concerned about corporate fraud”. The Government have taken that away.
Q24 Andy McDonald: Just picking up on the Carillion point about the unexpected happening, I was here at the time. That was not unexpected. Everybody was aware of the difficulties that Carillion was in. I am just a little bit surprised. The audit system did pick it up, but we still ended up in a situation where Government awarded contracts to Carillion for HS2.
Can I turn to Scott and David to ask about market share? We have had these conversations before. In other jurisdictions, there is a greater number of providers in this space and there is double accounting and so on. Specifically, audit services has remained heavily concentrated. The share of the FTSE 250 from the so-called next five has grown from 4% in 2018 to 11.2% in 2022. I am interested to know how you have developed your capabilities to develop this work over that period in that regard.
Scott Knight: The last time I was here I was asked how many FTSE 250 companies we audit, and the answer at that point was four. The answer today is 25. There has been significant progress. We have built a 10% market share. In order to achieve that, we have increased the number of auditors that we have from 2,000 to 3,000. We have recruited 50 partners from big four firms to add to our capacity and capability. We have invested an additional £10 million a year in our audit quality infrastructure. We have made some big investments and we have seen return.
However, the pace of that change is slowing down for two reasons. First, the FRC understandably has told the challenger firms that are growing quickly to ensure that they control their growth and that they are investing in their quality infrastructure at the same pace. At the same time, one of the drivers for this change was the prospect of reform. Markets tend to act ahead of regulation and reform. That created a backwind for change. We have seen that slow down. That is because these reforms have moved further and further over the horizon and the drive for companies to get ahead of that regulation has eased off.
Q25 Andy McDonald: If this is not enacted in legislation in the way that was trailed, will you then be prone to a scaling back or a retreat from the position you are in now?
Scott Knight: Hopefully there is not a retreat, but the pace of that change has slowed. Clearly, the significant investments that we have made give us greater capability and capacity. In the absence of reform, we will see that change. The pace of change will be a lot slower.
When people see reform on the horizon and they know there is a need to act, we will see change in market share and we will have a more competitive market. That will be good for UK plc.
David Herbinet: We have followed a very similar trajectory to what Scott has described. The delays in the implementation of audit reform have been a major challenge for all market participants, including us. We have invested heavily in the market to provide competition and choice. As Scott has mentioned, we have seen green shoots of improvement in terms of bringing more competition and choice, but to a great extent these green shoots of improvements are deceitful.
If you look at UK plc, three-quarters of audit fees are in the FTSE 350. The figures that you quoted are in terms of the number of companies. If you look at the actual audit fees shared across the market, the FTSE 350 fees are still 98% captured by four firms. There are signs of improvement, but we need to read behind the signs.
The real issue at stake here is market resilience, especially for audit. We have seen—we may talk about this later, if you wish—two firms exiting the building society market, for example, which impacts a number of your constituents. That is an example of firms exiting the market. If BDO and Mazars had not been able to step in to provide competition in that market, there would have been a serious issue in the building society sector. BDO and Mazars now represent about 50% of the building society audit sector.
This market resilience issue is a real issue. It is only 20 years since Arthur Andersen was removed from the market for an event that happened outside the UK. It cannot all be controlled from the UK. Market resilience is really important.
The three very credible reports that were produced in 2019-20 provide some real solutions to this. One of the big proposals in these reports is for managed shared audits. We continue to believe to this day that this would have a major impact on the market by providing resilience and some certainty for firms to invest. That investment is absolutely critical to enhancing the quality of audit in the UK.
Q26 Andy McDonald: You talked about the big four dominating fee income, but they also dominate the position around the FTSE 100. They have 98% of that market. What is holding the challengers back in terms of the FTSE 100? Why is the progress so slow there?
Scott Knight: Our approach is one of controlled managed growth. We take on work that we are certain we have the capability and capacity to deliver well. We have built a very good position in the FTSE 250. This is the latest chapter. Over the last 10 years we have built a market-leading position in AIM, the main board outside of the FTSE 350. In the last few years, we have built that market position in the FTSE 250. It is layer by layer.
There are FTSE 100 companies that we have both the capability and capacity to audit, but our focus is on creating the right type of market for BDO in the FTSE 250. I am leaving the FTSE 100 for my successor because that will take longer. It would be really difficult for any firm to be credible in the upper part of the FTSE 100 without having built the platform in the FTSE 250 first.
David Herbinet: Timelines are really important. It is a question of choice, again. What Scott describes is very much a trajectory that Mazars has been on as well in terms of building that underpinning. The change that Scott mentioned is going to take decades whereas the solution that—
Q27 Andy McDonald: Is that healthy? It sounds like you are both alluding to a long timescale. Is that sensible and healthy?
David Herbinet: Change must happen much faster than this. The solutions that have been proposed would enable us to accelerate this transformation. We have done extensive modelling, which we have shared with the FRC and the Department for Business and Trade, showing that, with managed shared audits, the market could be transformed within the next seven to 10 years, with controlled growth and control of quality transformation. That would be really positive for corporate Britain.
Q28 Chair: Let me just crystallise this before I come to Ian Lavery. From your points of view, Scott and David, what are the perils of us not moving ahead with the audit reforms and transparency reforms that were proposed? What is at risk, Scott?
Scott Knight: You will see the pace of change slow down.
Q29 Chair: What does that mean?
Scott Knight: It means you do not get a more vibrant market. The market gets stuck.
Q30 Chair: It is not becoming more competitive.
Scott Knight: No. If I look at it from an optimistic viewpoint, we have seen more change in the last five years in building a FTSE 250 base than for decades beforehand. The pace of change has been positive, but there is the risk that that slows down. Firms such as mine have put huge amounts of investment into increasing capacity and capability. There is a risk that we will not see the returns. It is a loss of momentum.
Q31 Chair: Why does the country care about this market not becoming more competitive?
Scott Knight: In order to be successful, capital markets need both liquidity and transparency. Transparency requires a strong audit market that is driving companies to do the right things and is resilient to change. Bruce talked earlier about an ecosystem. The audit market is one part of that ecosystem, but the whole ecosystem together of supporting capital markets is critical to UK plc and national success.
David Herbinet: If I look at this through supply and demand, on the supply side you have a number of firms that are currently willing, interested and committed to the market. A lack of change or a lack of support may drive some of these firms away.
If you go back not so long ago, one of the tier 1 firms, as we call them, decided to leave that market. There is already a limited availability of skills and competencies in the PIE market and that could further reduce without some level of support. That is on the supply side.
On the demand side, we are continuing to see a real lack of choice. I apologise; I am going to refer to the European Union’s third monitoring report, which was published recently. The facts and circumstances of the EU market are very similar to the UK market. That report shows that 75% of companies consider that they have limited and sometimes no choice in the auditor that they appoint. That cannot be good for quality and fees. When you have a restricted market in terms of competition, you lose control over fee inflation.
Q32 Chair: Your view is that, if there is more competition, the quality of audit will go up?
David Herbinet: Yes.
Q33 Chair: Conversely, if competition does not improve, quality will flatline or decline.
David Herbinet: All markets—you can take any other market—are showing that, when you have limited competition, quality does not improve and even reduces. It is a fact of life. More competition in the market will enable greater choice. When you have greater choice, you have competitive pressure that drives quality up.
Q34 Chair: If we have higher quality, better transparency and lower risk, will investment in the UK economy rise?
David Herbinet: Yes. If quality and competition improve together, trust in corporate Britain will increase.
Q35 Chair: Scott, what is your view on the relationship with investment?
Scott Knight: If you have the best-quality reporting, the best-quality governance and the best-quality audit in the UK, it cannot be anything other than a positive for inward investment, for companies looking to list in the UK and use the UK’s capital markets, and for the domestic companies that use capital markets.
Chair: That is nice and clear.
Q36 Ian Lavery: Just turning to the cost of audit, it has been reported that it has increased dramatically over the last five years. A recent report suggested that across our markets audit fees have increased by an average of 127%. Iain, your organisation quoted a report showing that the audit fees for the London Stock Exchange main market had increased over the past five years by 149%. What is driving this huge increase in audit fees?
Iain Wright: Mr Lavery, there are a number of things to respond to in that. First, the regulator demands more and the regulator itself is doing more. That comes at a cost. The cost of regulation is sometimes seen as a pejorative term and the extent of regulation can be examined, but the regulator, in response to Parliament and other fora, is saying that more work needs to be done on audit. That is reflected.
Secondly, firms have invested in people, technology and new methodologies. Again, that comes at a cost. To some extent, rising audit fees are a consequence of the operational separation between audit firms and the non-audit side of the business. It has been demanded, rightly, that audit firms have to stand alone, with a separate profit and loss account, separate governance and no cross-subsidy. That comes at a cost.
It was Scott who mentioned the global perspective. There are other things. Global audit quality is being considered as well. There are a number of factors there. There is ISA 315—International Standards on Auditing—which looks at risk and how you manage risk, particularly in terms of how you control IT systems. That takes up an awful lot of work. There is ISQM, the International Standards on Quality Management, which also means there is more work.
More work is being done. That is reflected in the cost. That is not taking into account the rising cost of living and the rising need to attract talent and pay more in terms of remuneration. All these factors are having an impact upon the cost of audit.
Q37 Ian Lavery: Are these huge increases acceptable? From what you are saying, do you think they are understandable or acceptable because of the factors you have just laid out?
Iain Wright: If society and the markets want to value audits, that has to come at a cost. One of the dangers of the last 20 years or so is that, with no disregard to utilities, audit was seen very much as, “I have to do this. It has to be done. It is a bit of a utility. I will just get through it”. Actually, it can be a valuable service both for the company and certainly for the investors and the wider market. Audit is a public good. That comes at a cost.
We also need to look at whether rising audit fees are sustainable in the long run given the cost of business, but, in terms of making sure that society values audit, you have to recognise that that does come at a cost.
Q38 Ian Lavery: Are these increases sustainable?
Iain Wright: As I said, that needs to be looked at. You cannot have rising fees indefinitely. There needs to be some sort of equilibrium in terms of returns, in respect of the audit firm’s investment in methodologies and people and in terms of the rising cost of regulation. Does the regulator demand ever more requirements? That needs to be looked at as well. No, over the long term, audit has to come to some sort of equilibrium.
Q39 Ian Lavery: I want to ask Mr Knight and Mr Herbinet a further question with regard to the UK main market companies. I am just wondering how much your fees for audit have increased in the past five years.
Scott Knight: In terms of the increase in fees, you are seeing two things at play. First, the increase in prices is not translating through to increased margins. Our gross margin percentage over that period has not increased. The number of hours spent on each audit has increased year after year. Some of that is new standards, as Iain sets out, and some of it is regulatory pressure, but the gross margin percentage in our business and, from what I understand, in our competitors as well, has not increased.
Secondly, a suboptimal market structure, where you do not have competition, has to be a contributory factor to prices increasing. Stronger competition is good for increasing innovation and keeping a check on productivity. It is also a good check on prices increasing unnecessarily.
In terms of how our fees have moved, it is really difficult to measure because our book has changed so significantly over the last five years.
David Herbinet: On average, across our audit portfolio, our fees have increased between 20% and 30%, sometimes more and sometimes less. It is important to have in mind that during this three-year period the cost of goods and services has increased by 21%. There is a small differential there, which is there to absorb, as has been mentioned, increased regulatory costs.
Interestingly, Scott mentioned the £10 million of costs that has been incurred by BDO to invest in that market. That is exactly the figure that I have in my notes as well. That is a very substantial cost to be able to operate in the market. On top of that, we have made significant investments in technology, which are necessary to operate in the audit market today. This is outside of my £10 million investment.
Q40 Ian Lavery: A recent Financial Reporting Council review emphasised that the difficulty of attracting suitably qualified audit personnel at different levels is one of the main causes for severe constraints in audit capacity. What impact is this having on competition?
Iain Wright: It is a question of supply and demand. In making sure you get the right resource, it is absolutely essential to have that mix, whether it is audit juniors, audit managers or audit partners.
There is an issue about attractiveness of audit. I qualified as a chartered accountant, as Bruce and others did. It is a very marketable qualification. When I was in audit, 30 or so years ago, people did their training contract, which tended to be concentrated in audit, and then they went to do other things because there was flexibility and huge opportunity. That is still the same today. It is probably even more enhanced today with the amount of opportunity there is.
I am concerned that the attractiveness of audit and making sure you have sufficient resource and capacity within the audit market is acting as a drag on the potential to have this improved resilience, competition and choice.
Q41 Ian Lavery: Is it a necessary drag?
Iain Wright: No, far from it. It is a drag. All of the actors—professional bodies, firms, the regulator, perhaps the Select Committee and Government—need to work in concert to deal with the attractiveness issue to ensure that people want to stay in audit and have a good and valuable career in audit, and make sur that audit is as resilient as possible.
Bruce Cartwright: It is just worth noting that, at one end in the pipeline, both in our Scottish institute and in England and Wales, we have a record number of apprentice trainees. The number of graduates or school leavers—there are many more school leavers now rather than it just being graduates—coming into the profession is at an all-time high.
The qualification is not easy to gain. It is very rigorous. The number of people who are coming out qualified is at an all-time high. There is a question about how you retain enough within the audit profession because, as Iain said, these are highly qualified and credible people—they tend to be younger people—coming into the marketplace. There are many opportunities for them.
The attraction to keep that talent is across many markets. It is not just an audit issue. It is across all professional services and wider. There are so many opportunities for the younger generation coming through. That is fantastic.
If we get ourselves back into a proper growth economy, which will drive a lot of good change, et cetera, that demand will become ever-increasing. We are also seeing that professional people have increased mobility around the world, which is really important.
Q42 Ian Lavery: To each member, very briefly bearing in mind the time, have the reforms to date appropriately focused on enhancing the accessibility of capabilities and resources for smaller firms?
David Herbinet: Very briefly, this market is challenging for firms such as BDO and Mazars and it is even more challenging for smaller firms, hence the need for reform to facilitate entry into the market.
Chair: Is that a yes or a no?
David Herbinet: To make sure I have got the yes and the no right, would you mind repeating the question, please?
Ian Lavery: I am basically asking whether or not the reform efforts to date have focused on enhancing the accessibility of capabilities and resources for smaller firms.
David Herbinet: If it is about the lack of reforms, I would say no; if it is about the proposed reforms, I would say yes.
Ian Lavery: I will go to Mr Knight and then I will call it a day.
Scott Knight: No, the barriers to entry for smaller firms are even greater today. In the absence of reforms, you will see smaller firms, smaller than BDO and Mazars, leaving the PIE market.
Q43 Mark Pawsey: Can I just ask a quick question about the future regulator? In its report, this Committee agreed with Kingman that the FRC needed to be replaced by a new body. The new body was supposed to be ARGA. We have had a little bit of evidence from you that firms have separated out their audit and consultancy work and the FRC has more people and is doing a little bit more.
Do we still need to replace the FRC with ARGA or can the FRC step up to do the job?
Bruce Cartwright: First of all, the name change is largely irrelevant. It is a name change. If you can introduce the reforms without a structural change, I do not think it is entirely necessary. It is more important that you get the outputs.
Q44 Mark Pawsey: Five years ago, we got a sense that the FRC was so weak and lacking in powers that it needed to go and be replaced. You are saying that is no longer necessary.
Bruce Cartwright: We have moved on from there. You should take your hat off to the FRC. It has moved a long way in the last five years, in conjunction with dialogue with the firms. I would not paint a new building and change the name for the sake of it. I would focus on getting the reforms done.
Iain Wright: I partially agree with Bruce. In terms of the name, let us not get fixated on the name. Having said that, the FRC is not a council and it is not focused on financial reporting. It could be focused on auditing, governance and reporting. That makes more sense.
Where I perhaps differ from Bruce is that I think legislation is needed because the FRC currently lacks the powers to enforce actions against directors who fail to carry out their duties. That is needed in order to avoid—
Q45 Mark Pawsey: Will that be given to the FRC?
Iain Wright: My understanding is that primary legislation is needed in order to do that. To avoid a lopsided reform package focused solely on audit when you need a holistic system of audit and corporate governance reform, you need the FRC to be strengthened in the way that I have described.
Bruce Cartwright: I am sorry. Just to clarify, we do not disagree. We are in exactly the same place on that. My emphasis was more on the structure, but I totally agree that that legislation is required.
Chair: Thank you very much. You have set the stage extremely well for us. You have basically said that there are some significant virtues to proceeding with reform. Risk would come down, fraud would come down and economic crime would come down. On the other hand, competition in the audit market would go up, quality would go up, market resilience would go up, transparency would go up, confidence would go up and investment would go up. If we do not proceed with reform, the risk of another Carillion is higher.
Thank you very much for laying that out with such clarity today. That concludes this panel.