The Financial Reporting Council today published the findings of its review of the continued appropriateness of the Turnbull Guidance on internal control.

The review found that the Guidance had contributed to improvements in internal control in UK listed companies. It strongly endorses the principles-based approach of the Guidance, which allows companies to focus on the most significant risks facing them. It recommends only limited changes to the Guidance to bring it up to date.

Douglas Flint, Group Finance Director of HSBC Holdings plc, who chaired the working group that conducted the review, said:

“Boards and investors alike told us that the Turnbull Guidance has contributed to a notable improvement in the overall standard of internal control since 1999. The overwhelming view was that the Turnbull Guidance continues to provide an appropriate framework for risk management and internal control. Its relative lack of prescription is considered to have been a major factor contributing to the successful way it has been implemented, and we have therefore decided against recommending substantial changes.”

“This does not mean there is nothing new for boards to do, or that some boards could not make more effective use of the guidance. They need to ensure that their internal control systems develop to take account of new and emerging risks, for example, and some boards could do more to explain to their shareholders in their annual reports how they are managing risk. But we believe that these issues are better addressed by boards reviewing on a continuing basis their application of the Guidance, rather than by more prescriptive guidance”.

Sir Bryan Nicholson GBE, chairman of the Financial Reporting Council, said:

“I am grateful to Douglas and the Review Group for this very thorough analysis. I believe that their findings confirm the strength of the UK’s principles-based approach to corporate governance, and that their recommendations are consistent with a risk-based approach to regulation”.

There will be three months consultation on the draft revised guidance. The intention is that the revised guidance will come into effect for financial years beginning on or after 1 January 2006.

1. The Financial Reporting Council (FRC) is a unified, independent regulator. Its aim is to promote confidence in corporate reporting and governance. The FRC’s five operating bodies are: the Accounting Standards Board, the Auditing Practices Board, the Financial Reporting Review Panel, the Accountancy Discipline and Investigation Board and the Professional Oversight Board for Accountancy. The Council is responsible for the FRC’s work on corporate governance and is assisted by a Committee on Corporate Governance, whose members are drawn from the Council.
   
2. Published in 1999, the Turnbull guidance sets out best practice on internal control for UK listed companies, and is used to demonstrate compliance with the internal control requirements of the Combined Code on Corporate Governance. The Code states that boards should maintain a sound system of internal control, conduct a review of the effectiveness of that system at least annually, and report to shareholders that they have done so.
   
3. In July 2004 the FRC set up a group led by Douglas Flint to review the guidance in the light of experience in implementing the guidance and developments in the UK and internationally since 1999, and to update it where necessary. The group includes representatives from business, the investment community and the accountancy profession. The Review Group reports to the FRC Council, which will be responsible for approving any revisions to the guidance.
   
4. Between December 2004 and March 2005 the Review Group sought views and evidence on the impact of the guidance and whether any changes were needed. Over 100 responses were received to a public consultation exercise, including from companies representing 56% of the total market capitalisation of UK companies listed on the London Stock Exchange’s Main Market and from institutional investors that are between them responsible for funds under management in excess of £2,350 billion. The consultation exercise was supplemented by telephone surveys of company directors and investors.
   
5. The Review Group’s main recommendations are attached.
   
6. Consultation on the recommendations and draft revised guidance runs until 16 September 2005. Copies of the consultation document can be downloaded from http://www.frc.org.uk/corporate/internalcontrol.cfm. Responses to the consultation should be sent to turnbullreview@frc.org.uk.
   
7. All press enquiries should be directed to: Chris Hodge on Tel: 020 7492 2381 or e-mail: c.hodge@frc.org.uk

The main recommendations of the Turnbull Review Group

1. The Turnbull guidance has contributed to improvements in internal control in UK listed companies, and significant changes are not required.
   
2. The guidance should continue to cover all internal controls, and not be limited to internal controls over financial reporting.
   
3. No changes should be made to the guidance that would have the effect of restricting a company’s ability to apply the guidance in a manner suitable to its own particular circumstances.
   
4. The guidance should be updated to reflect changes in the Combined Code and Listing Rules since 1999 and the proposed statement of directors’ duties in the draft Company Law Reform Bill.
   
5. Boards should review their application of the guidance on a continuing basis.
   
6. It would not be appropriate to require boards to make a statement in the annual report and accounts on the effectiveness of the company’s internal control system, but boards should confirm that necessary action has been or is being taken to remedy any significant failings or weaknesses identified from the reviews of the effectiveness of the internal control system.
   
7. Boards should look on the internal control statement in the annual report and accounts as an opportunity to communicate to their shareholders how they manage risk effectively, and include such information as is considered necessary to assist shareholders’ understanding of the main features of the company’s risk management processes and system of internal control.
   
8. There should be no need for companies that are already applying the Turnbull guidance to develop additional processes in order to comply with the requirement to identify principal risks in the Operating and Financial Review (OFR), but companies are encouraged to ensure that the OFR and the internal control statement are complementary.
   
9. There should be no expansion of the external auditors’ responsibilities in relation to the company’s internal control statement.