External Auditing of Companies: Deficiencies

Baroness Warwick of Undercliffe Excerpts

Monday 14th October 2024 Lords Chamber

[Baroness Warwick of Undercliffe (Lab)]

My Lords, I thank my noble friend Lord Sikka for securing this debate. He has great expertise in this area, and has reminded us today of the terrible fallout, not least in terms of human misery, from such high-profile corporate failures. The scandalous collapse of Carillion in 2018, and in fact all the cases that he mentioned, highlighted poor auditing practice and inadequate supervision and accountability in the operation of those companies. The various reviews that followed all said the same thing: as the Audit Reform Lab puts it, the auditing industry is plagued by conflicts of interest, poor standards and weak regulation.

I am grateful for the various briefings for today’s debate, which have set out the systemic nature and extent of the problem. In 2022, Deloitte, KPMG, PwC and EY—the big four—earned 96% of FTSE 350 audit fees. Alongside that, a huge percentage of revenue of the big four firms comes from non-audit services. If the vast majority of your revenue comes from offering consultancy services to the same companies that you audit, there is surely a real risk of conflicts of interest.

I also learned that fines by the Financial Reporting Council for audit failures reached a record high in 2022 of over £33 million, yet, as the Audit Reform Lab highlights:

“From 2015 to 2022, regulatory fines for poor audits were on average just 0.16% of revenue and 0.85% of profits for Big Four firms”—


as the briefing says—

“too small to materially affect partner pay or change behaviour”.

From 2020 to 2022 the average pay for partners at the big four firms rose by 31%, while average pay for Deloitte partners reached over £1 million. Directors at these firms are being rewarded for failure.

Almost seven years on from the collapse of Carillion, businesses, regulators and auditors all agree that we need a corporate regulatory framework that is fit for purpose. Audit serves the public interest by underpinning transparency and integrity in business, while trust in our major companies is essential if we are to have long-term investment in the UK economy. Financial transparency and accountability are essential parts of economic stability. Failures such as BHS, Patisserie Valerie and London Capital and Finance undermine that stability.

Like all other speakers in the debate, I warmly welcome the Government’s intention to publish a draft audit and corporate governance Bill, which will replace the Financial Reporting Council with a new regulator—the audit, reporting and governance authority. It is clear that the Government have inherited a completely inadequate audit system. The UK needs a regulator with the teeth to tackle bad financial reporting and to ensure robust and rigorous scrutiny of company accounts. The inclusion of the draft Bill in the King’s Speech was a welcome indication of this Government’s determination to bring about reform. Given the crowded legislative timetable—40 separate Bills were included in the King’s Speech—can the Minister give us any idea whether this one will be a priority in the current parliamentary Session? When can we expect the ARGA to be functioning?

It is important that our Government push forward on audit reform because, in very simple terms, by doing so they are acting in the interests of working people, who are always the victims of business failure on this scale. In the cases noted by my noble friend, failures in the audit process cost working people their jobs and pensions and hurt suppliers and investors. I am thinking of the 11,000 jobs lost and a pension deficit of £571 million when BHS collapsed. At Carillion, companies went into insolvency, leaving huge debts, thousands of unpaid subcontractors, and delays to school and hospital building projects. Yet those responsible for the financial chaos that follows corporate failure are not the ones who pay the price.

I understand that directors of a company making incorrect financial statements can be held accountable by the regulator only if they are members of an accountancy body. Can the Minister assure us that the Bill will seek to ensure that all directors in the UK’s most significant companies face consequences if they neglect their duties regarding financial reporting?