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MPs grill FRC chief on Carillion collapse
The FRC’s Stephen Haddrill recently answered questions from the Business, Energy and Industrial Strategy and Works and Pensions committees. Here are extracts of the best bits…
Chair: Thank you very much for coming to give evidence on the collapse of Carillion to our two Select Committees this morning. I will start by asking you to provide us briefly with an update of your investigations into Carillion.
Stephen Haddrill (SH): We announced yesterday [29 January 2018] that we will have a formal investigation into the audit by KPMG of Carillion and we are looking at the three years from 2014 to the present day. We have said that the scope of the investigation will include the going concern matter, pensions matter and how the contracts were being assessed, and it will look into other matters as well.
There is also the question of whether we launch an investigation into what we call members in business, the accountants who were in the company. That is under different regulations and has a different test for launching the investigation, a misconduct test rather than a breach of regulations test. It is going to take us a little longer to work through whether there is a proper basis for launching the investigation, but we hope to do that very soon.
Chair: What does “very soon” mean Mr Haddrill?
SH: I would hope certainly within a matter of a few weeks. We have managed to launch the investigation into the audit very quickly and that would be our intention with that as well.
Chair: How long would you expect your investigations into KPMG and then potentially into the accountants at Carillion to last?
SH: I fully understand that the public, and in particular those people who have been heavily disadvantaged, lost their jobs and so on, as a result of this, want the most rapid possible conclusion to this investigation and, if it points that way, any prosecution thereafter. I think it would be wrong of me to set a firm timetable on this because, first, the scope of the investigation is very wide, going back a number of years, and secondly, it is absolutely vital that we do this thoroughly. We have the resources we need. We have expanded the resources of our enforcement team considerably over the last few years and I have made it clear to the executive counsel that if she needs any further resources we will provide them…
Chair: I ask because it is 19 months since the FRC announced that it will investigate PwC’s audit of BHS and we have still had nothing from the FRC. The FRC investigation of audit failures at MG Rover, audited by Deliotte Touche, was announced in August 2005 and the outcome was not finalised until April 2015. Might we have to wait 10 years to get the outcome of this inquiry?
SH: No certainly not. The Rover one was deferred while other inquiries we going on. We are starting this one absolutely now and, as I said, we will do it much faster than those timescales.
Chair: When might you expect the work on the audit of BHS to be completed?
SH: It is close to completion.
Chair: It might report within two years, might it?
SH: I think we will see a report faster than that.
Frank Field (FF): One year?
Chair: No, it has already been 19 months.
SH: I really must not be drawn on things.
Chair: No, Stephen Haddrill, the point of a Committee hearing is for us to try to draw out evidence from you and there is a public interest here. BHS was a huge collapse that cost jobs, people’s pensions and livelihoods. It has been 19 months and there is still no report. We are trying to find out whether there is any chance that the report that you announced yesterday, ahead of coming to our Committees to give evidence, might be published in a timescale that allows learnings to be made and also to have some resolution for people who worked there and received pensions from Carillion.
There was then some discussion on the expansion of the FRC’s enforcement team and Haddrill explained he now has 32 lawyers and forensic accountants at his disposal. Two years ago that number was 24.
Peter Kyle (PK): Mr Haddrill, to what extent did poor corporate governance lead to the collapse of Carillion?
SH: It is something that I hope will emerge through the investigation.
PK: You have been watching them for a while now. Did they break the code of conduct of corporate governance at all?
SH: I think I would draw a distinction between what we have been doing in looking at the auditing and the financial statements. We set the corporate governance code but we do not enforce the corporate governance code. That is enforced by the shareholders. What we will want to understand is how the directors reached the decisions that they took, particularly towards the end of the last financial year, how they took the decision in relation to going concern and whether that was soundly based. That is the sort of thing that would underpin any investigation that we conduct into the directors.
PK: In your opinion, at these early stages, do you feel that there is cause for concern about the way the company was governed?
SH: I think there must be enormous cause for concern about how the company was governed. That is not a conclusive point of view because we need to look into these matters.
PK: What action have you taken that could have in any way altered the direction of Carillion in the last two years?
SH: What we do not have the ability to do is to see into the way the company is running, is developing its business model and so on.
Antoinette Sandbach (AS): Your chairman made an announcement that the FRC had been actively monitoring the situation at Carilliion for some time. When did that monitoring start?
SH: The monitoring of the audit I think is what was being referred to there. That started after the profit warning in July.
AS: 10 July 2017?
AS: But as you have referred to, you have already gone in and raised concerns with KPMG about the audit in 2015-16.
SH: I was talking about concerns we had with the company about their report and accounts rather than with the audit. I think the last time we reviewed the audit was 2012 with KPMG.
FF: Two of the last three finance directors of Carillion came from KPMG. KPMG has conducted the audit for the last 19 years. Did that not sound a warning to you? Given the oligarchy that now exits among the accountancy firms, shouldn’t we be considering a recommendation to the government to break them up?
SH: We feel there should be more competition in the major accounting and audit area. We asked the Competition Commission in 2012 to do a review and they did. They made a number of recommendations that have been implemented. To some degree, there is more competition among the big four themselves but there has been no entry to the market by other firms at that top end of the corporate sector.
FF: There would be if you broke the companies up.
SH: I think the Competition Commission – the CMA now – at some point will need to review the effectiveness of what they recommended and look at it again. There are rules about the extent to which auditors can join companies. I think there is a two-year cooling off period. I would have to check what the situation is.
FF: But they are all mates, aren’t they? There are four companies dominating the scene. They appear in all papers in one guise or another. You are going to recommend that the relevant body looks at breaking up these companies?
SH: We are going to propose to the CMA that they look again at whether there can be more competition in the sector. What the remedy is I think is for them. We have strengthened what we call the independence rules in relation to the extent to which an audit firm can be engaged with a client to provide non-audit services and the extent to which auditors and company directors can move between those institutions. They were changed in 2016 and they are certainly much stronger than they were.
Chair: KPMG has been the auditor of Carillion since its inception, for 19 years, and had earned £30m worth of fees during that period. Is it FRC’s view that it is appropriate or good practice to have the same auditor for almost 20 years?
SH: The law requires the audit to be re-tendered after 10 years. The incumbent can keep that role for 20 years. That is what the law says.
Chair: Do you think perhaps that law needs revisiting with fresh eyes?
SH: Those regulations came in only less than two years ago. I think we need to review them to see how they are working. One of the things that is happening is the combination of rotation and the independence rules means that in some sectors we may well end up with even fewer than four people competing for the job. There are things that we need to review.
Chair: Do you know what the biggest asset was on Carillion’s balance sheet?
SH: Goodwill, I think.
Chair: Goodwill was worth £1.57bn. That seems quite surprising. Is it good practice to have goodwill as the biggest asset on your balance sheet? Without goodwill the liabilities would have been greater than the assets. It was only the goodwill that kept the assets higher.
SH: It is not untypical. What is happening is that increasingly companies’ balance sheets are made up of goodwill. They are made up of intangible assets rather than bricks and mortar and all the rest of it.
FF: Can you tell us what goodwill is, Stephen?
SH: I can’t give you the strict accounting definition, but it is…
FF: It is an item that disappears once the company is in trouble, isn’t it?
SH: Absolutely. I think this whole issue about how to account for intangible assets and whether too much of the proportion of the balance sheet is in that sort of asset is something that, frankly, we are all struggling with.
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