144. The Financial Reporting Council (FRC) is the regulator of accountants, auditors and actuaries. It has a responsibility for maintaining high standards of financial reporting and auditing, and for pursuing sanctions against those who fall below established professional standards. It also has a wider mission to promote the integrity of UK business through its Codes on Corporate Governance and Stewardship. To this end, it seeks to "encourage companies to produce timely, relevant and trustworthy information about their performance, prospects and board behaviour".422 While it can go to the courts to require revisions to accounts or reports, it generally operates by agreement with the companies concerned.
145. The FRC can also take legal action in respect of misconduct and breaches of professional standards, but the UK Corporate Governance Code operates on a "comply or explain" basis. Directors of companies are not subject to legal action for non-compliance with the Code and the FRC only has powers of persuasion in promoting adherence to its principles and guidance. It is principally a matter for shareholders to ensure that the board complies with the Code and runs the company effectively. Whilst the FRC has no business in intervening in the day-to-day management of companies to prevent them failing, it is responsible for maintaining confidence in the system of checks and balances which underpins the UK business environment by actively pursuing any failings in a timely manner, not least to act as a deterrent against future poor performance or misconduct.
146. In respect of Carillion, the FRC identified some concerns relating to disclosure of information as early as 2015. It reviewed the company's accounts as part of its regular cycle of corporate reporting reviews, the subject of which are determined by risk profiling and the identification of priority sectors.423 It contacted the company in relation to twelve issues, ranging from a lack of clarity in goodwill assumptions to inadequate explanation of a significant decline in the book to bill ratio.424 Carillion made the requisite disclosures in subsequent accounts,425 but crucially, the FRC did not follow up by reviewing Carillion's accounts the following year, nor by investigating further. The Chief Executive of the FRC, Stephen Haddrill, told us that, "with hindsight, clearly it would have been better to have had a further look",426 but that "we did not think that the lack of disclosure was symptomatic of something more serious".427 The FRC had not reviewed the auditing of the Carillion accounts by KPMG since 2013.428 In spite of subsequent reports of aggressive accounting practices and evidence of the extensive shorting of Carillion stock, the FRC did not choose to take a closer look at the accounts of Carillion, nor the auditing of them, until after the first profit warning in July 2017.
147. Shortly after the collapse of Carillion in January 2018, the FRC announced that it had been "actively monitoring this situation for some time in close consultation with other relevant regulatory bodies".429 This was not, however, active monitoring of the accuracy of disclosure of information by the company; it was instead a review of the previous audit begun in July 2017.430 The fact that this review was underway could not be made public until after the company's collapse due to confidentiality requirements, which Stephen Haddrill told us he had been trying to get around in some respects and were in need of review.431
148. On January 29 2018 the FRC announced an investigation into the auditing by KPMG of Carillion's financial statements from 2014 onwards under its audit enforcement procedure.432 On 19 March 2018 it announced specific investigations into the conduct of Richard Adam and Zafar Khan, in relation to the preparation and approval of Carillion's financial statements during this period.433 Under its existing powers, the FRC can only take action against those with accounting qualifications. Stephen Haddrill told us that the FRC would conduct these inquiries "as fast as possible" but could not estimate any timescale.434 The FRC routinely aims to complete such investigations in around two years.435 Mr Haddrill told us that the FRC's enforcement team had been increased from 20 to 29 since January 2016, with further expansion planned. While we welcome the swift announcement of investigations into the audit of Carillion and the conduct of the Finance Directors responsible for the accounts, we have little faith in the ability of the FRC to complete important investigations in a timely manner. We recommend changes to ensure that all directors who exert influence over financial statements can be investigated and punished as part of the same investigation, not just those with accounting qualifications.
149. The FRC was far too passive in relation to Carillion's financial reporting. It should have followed up its identification of several failings in Carillion's 2015 accounts with subsequent monitoring. Its limited intervention in July 2017 clearly failed to deter the company in persisting with its over-optimistic presentation of financial information. The FRC was instead happy to walk away after securing box-ticking disclosures of information. It was timid in challenging Carillion on the inadequate and questionable nature of the financial information it provided and wholly ineffective in taking to task the auditors who had responsibility for ensuring their veracity.
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422 Financial Reporting Council, About Us, accessed 23 April 2018
423 Letter from FRC to the Chairs, 2 February 2018
424 Letter from FRC to the Chairs, 2 February 2018. The book to bill ratio is the ratio of the number of orders received to the number billed for.
425 Q31 & Q39 [Stephen Haddrill]
426 Q33 [Stephen Haddrill]
427 Q50 [Stephen Haddrill]
428 Q35 [Stephen Haddrill]
429 Financial Reporting Council Statement Regarding Carillion, 15 January 2018
430 Q34 & Q59 [Stephen Haddrill]
431 Qq64-65 [Stephen Haddrill]
432 Financial Reporting Council, Investigation into the audit of the financial statements of Carillion plc, 29 January 2018
433 Financial Reporting Council, Investigation into the preparation and approval of the financial statements of Carillion plc, 19 March 2018
434 Q3 [Stephen Haddrill]
435 Letter from FRC to the Chairs, 6 July 2016. We note that this period has almost expired in relation to the investigation into the audit by PwC of the BHS accounts.