Auditors Audit Firm Supervision

Audit Firm Supervision

Overview

The FRC has revamped its approach to the way it supervises the largest audit firms through the creation of three teams – Audit Firm Supervision (AFS), Audit Market Supervision (AMS) and Audit Quality Review (AQR) within the Supervision Division.

Audit Firm Supervision (AFS) is responsible for the overall supervision of the firms, drawing together the results of work undertaken by the other two teams as well as other areas of the FRC.

AFS is responsible for the forward-looking supervision of audit firms of Public Interest Entities ("PIE audit firms") and focuses on identifying and prioritising what firms need to do to improve audit quality and firm resilience. There are three main areas that AFS lead on in respect of audit quality and firm resilience:

  • AFS Supervisors allocated to each PIE audit firm
  • PIE Auditor Registration
  • Cases and constructive engagement

Please read further information on Our Approach to Supervision.

AFS Supervisors

There are currently four Supervisors who each have responsibility for certain PIE audit firms. A key part of their work includes an assessment of the firms’ audit quality initiatives, which includes reviewing the firms’ root cause analysis, action planning and quality improvement plans.

A key part of our supervision aims to promote a culture of learning and improvement within firms in relation to audit quality. Detailed root cause analysis (RCA), implementation of robust actions on a timely basis to address findings and integration of those actions into a quality improvement plan are all important elements of an audit quality improvement mechanism. We assess each firm’s RCA and other lessons learned from quality matters arising and monitor and assess the sufficiency and appropriateness of action plans in place to address them. The Supervisors also have responsibility for monitoring Non-Financial Sanctions imposed following an investigation by the Enforcement team. The Supervisor is therefore in a position where they have a deep and broad understanding of the various audit quality initiatives being undertaken by the PIE audit firms.

AFS leads the publication of the annual inspection and supervision reports on Tier 1 firms, usually in July each year. We also sent a private supervisory letter to each Tier 1 firm in the autumn, clearly outlining our view of relevant risks to audit quality and the resilience of the audit market, and our prioritisation of the actions the firm should take to address them. The letter describes the supervisory work we plan to carry out in the following 12-18 months. This repeated some of the messages in the public report on the firm, as well as conveying messages relating to our private supervisory work. These letters are tailored to each firm. The firms have replied setting out the actions they will take in response to our letter. Similarly, we will shortly send a private annual supervisory letter to each Tier 2 firm, focused on the work we have done in respect of that firm in the year and any areas of particular concern where we want leadership at the firm to focus in the future. Our private annual supervisory letter to the Tier 3 firms will be generic to all Tier 3 firms unless the firm has been subject to an inspection in that year. In all cases, we assess the actions a firm has taken in response to our letters at our next inspection.

Cases and Constructive Engagement

The AFS case team works with the Case Examiner to both identify and manage audit-related cases which may fall within the remit of the Audit Enforcement Procedure (AEP). For more details on the AEP visit our section on the Audit Enforcement Procedure.

Cases are identified by employing a variety of intelligence gathering activities such as horizon scanning activities, referrals from FRC teams or other regulators and external complaints.

Once a case has been identified, it is assessed and enquiries are made with audit firms in order to determine the appropriate next steps. These steps may involve either:

  • No further action.
  • Constructive Engagement with the audit firm to agree appropriate remedial actions.
  • Referral to the Conduct Committee to consider whether it may be appropriate for the Enforcement division to conduct an investigation, with possible financial and non-financial sanctions.

The case team also work with AFS Supervisors to monitor ongoing non-financial sanctions imposed on audit firms and individuals.

Constructive Engagement is a process introduced by the AEP to deal with cases where the audit quality concerns can be appropriately and satisfactorily addressed, and the risk of repetition mitigated, without the time and expense of a full investigation.

In cases where the Case Examiner or Board/Conduct Committee are of the view that Constructive Engagement is appropriate, the case may be referred back to the Supervision Division to undertake Constructive Engagement with the audit firm to ensure appropriate actions are taken to address our concerns.

The Constructive Engagement process may result in enhanced monitoring and scrutiny over the relevant firm until we believe that the risks relating to the firm’s poor conduct have been addressed through a suitable mitigation plan.

We may ask for specific action to be taken by the firm to address the issues raised or we may agree that existing audit improvement plans are sufficient or can be amended suitably. If, after discussing the actions taken by the firm, the Supervisors are not satisfied that sufficient progress has been made, the case may be referred back to the Case Examiner to determine whether further enforcement action may be needed.

The latest report on the FRC’s investigation and Constructive Engagement work can be found in the Annual Enforcement Review.

Public Interest Entity (PIE) Auditor Registration

A key recommendation of the Kingman review was that the FRC should undertake the approval and registration of audit firms conducting PIE audits. The Kingman review noted concern that the delegation of the approval and registration of statutory auditors leaves the FRC without sufficient power to act where systemic quality issues with an audit firm are identified. The Kingman review also recommended that a new FRC regime for the approval and registration of audit firms conducting PIE audits should have a range of available sanctions.

In light of the Government’s clear policy steer, the FRC has been preparing to assume responsibility for PIE Auditor Registration.

For further details on the progress of PIE Auditor Registration visit Public Interest Entity (PIE) Auditor Registration.

Notification of change of Auditor

Sections 522 to 525 of the Companies Act 2006, as amended, set out the requirements on auditors and on companies to send statements and notices to the “appropriate audit authority” when an auditor ceases to hold office. In respect of an audit of a public interest company the appropriate audit authority is the FRC in its capacity as the Competent Authority. Both auditors and companies need to notify the “appropriate audit authority” and there are separate requirements placed on auditors and on companies by this legislation.

Guidance on the circumstances in which the FRC is the appropriate audit authority, how the notification to the FRC should be made, and what it must cover is provided in the form of:

Regulation 2 of The Statutory Auditors and Third Country Auditors Regulations (SATCAR) 2016 defines PIEs as entities governed by the law of a Member State whose secure transferable securities (equity and debt) are admitted to trading on a regulated market in the EEA; and credit institutions and insurance undertakings. (The “Flowchart for Auditors” refers to public interest companies (PICs) which, are for the purposes of this requirement the same as public interest entities (PIEs).)

The outgoing auditor is required to notify their Recognised Supervisory Body (RSB) for non-PICs audits. Auditors of non-PICs, including AIMS and Lloyds syndicates, must send copies of their resignation letters to the RSBs (namely ICAEW, ACCA, ICAS, ICAI).

Please send all notifications and queries to auditorresignation@frc.org.uk

Between 1 October 2020 and 1 October 2021, The FRC received 238 Auditor resignation notifications

Pre-appointment - Our Expectations

As part of our focus on leadership and governance we have set out, below, our expectations of the experience, skills and attributes of candidates for the key roles of Independent Non-Executives1, Head of UK firm, Chair, Head of Audit and Ethics Partner at the Big Six firms. In a pre-appointment meeting we will assess and feed back to senior management of the firm how well we believe their appointees meet these criteria.

When requesting a pre-appointment meeting:

For candidates for all roles, details should be provided of:

  1. How the appointment was agreed, including details of any discussions at governing body level.
  2. How the candidate is considered competent and capable to carry out the role.
  3. The candidate’s understanding of the firm’s values and audit specific values, in particular:
    • Integrity, objectivity, professional competence and due care, confidentiality and professional behaviour, as set out in the Audit Firm Governance Code.
    • Integrity, objectivity and independence, as set out in the Ethical Standard.
  4. How the appointment complements the firm’s strategy.

In addition, for the individuals proposed for the roles of Head of Audit, Ethics Partner and Head of UK firm details of any complaints made against the candidate by clients or former clients in the last five years, which the candidate has accepted, or which are awaiting determination, should be disclosed to the FRC.

When considering appointments, we will take account of the following characteristics:

Independent non-executives

  • Knowledge of professional services firms (or an induction plan in place to address gaps)
  • An understanding of the public interest and its importance to the activities of an audit firm
  • Ability to command the respect of the firm’s partners
  • Sufficient time to devote to the role

At least one INE should have competence in accounting and/or auditing.

Head of UK firm

  • If from an audit background - evidence of involvement in audit quality initiatives within the firm in recent years
  • If from a non-audit background – consideration of how the individual will support audit quality within the firm as Head of UK firm
  • Sufficient time (outside of their portfolio of fee earning work) to devote to the role

Chair

  • Consideration of how the individual will support audit quality within the firm as Chair
  • An understanding of the public interest and its importance to the activities of an audit firm
  • Sufficient time (outside of their portfolio of fee earning work) to devote to the role

Head of audit

  • Track record of audit quality (from internal and/or external reviews)
  • Evidence of involvement in audit quality initiatives within the firm in recent years
  • Sufficient time (outside of their portfolio of audit work) to devote to the role

Ethics Partner

  • Track record of involvement in ethical matters/issues within the firm
  • An independent attitude of mind
  • Evidence of sufficient standing within the firm to uphold difficult decisions
  • Sufficient time (outside of their portfolio of fee earning work) to devote to the role

1 The role of INEs is considered in detail in the Audit Firm Governance Code.

Pre-appointment - Meetings

As part of our focus on leadership and governance we have set out our expectations of the experience, skills and attributes of candidates for the key roles of Independent Non-Executives, Audit Non-Executives, Heads of UK firm, Heads of Audit, Chief Risk Officers (or equivalent) and Ethics Partners at the Big Seven firms. In a pre-appointment meeting we will assess how well we believe appointees meet these criteria and feed this back to senior management of the firm.

Process for pre-appointment meetings with independent non-executive directors and certain roles within the firm

Who do we expect to meet and when?

We expect to meet the firm’s proposed, final candidate for all independent non-executive (INE) and Audit Non-Executive (ANE) positions and certain other roles as agreed with the firms ahead of a formal appointment being made. For roles which are elected by the partners, we will meet the newly elected individual as soon as possible after their appointment, or both candidates prior to the election.

What is the process for arranging meetings?

Once the firm has decided on a proposed appointment, the firm should contact their Supervisor to arrange a meeting and provide the information requested. We will try and schedule a meeting as soon as possible so as not to unduly delay the proposed candidate’s formal appointment process.

Who from the FRC will be at the meeting?

The firm’s Supervisor and an FRC Director will be present for meetings.

What will be the format of the meeting?

We will tailor the content of the meeting depending on the role the individual is being put forward for and their background. We would normally expect to cover the following with the candidate:

  • what they see as their role as INE/ other role;
  • their understanding of our strategy and the audit firm governance code;
  • their awareness of current audit supervision issues for the firm or issues from the recent past; and
  • their expectations for their induction programme.

We will discuss any issues which we think the candidate should be aware of and there will also be an opportunity for the candidate to ask questions.

What will happen after the meeting?

We will write to the firm to provide high level feedback on the meeting and to identify any areas which it might be helpful to focus on as part of the candidate’s induction process.