Statutory Auditors and Third Country Auditors Regulations 2016 — House of Lords, 2016-06-13
Topic: Domestic Commerce
Robin Granville Hodgson (Conservative, Centre-right): My Lords, "Statutory Auditors and Third Country Auditors Regulations" is not an exciting title—it will certainly not have them dancing in the saloon bar of the Dog and Duck—but this is important to the country, to the companies in this country and indeed to our capital markets. I want this evening to question the extent to which these regulations will achieve the very wide-ranging and important objectives the Government expect from them and whether there may not be perverse and unintended consequences, possibly just maintaining the status quo and the risk of a further increase in the regulatory burden, which my noble friend referred to in his opening remarks I hope that the House will forgive me if I take a minute just to lay out my case. I make these remarks drawing on my experience as a non-executive director of a public company from 2002 to 2014. I ceased to be a director two years ago, so I do not have a direct interest to declare, but I should draw the House’s attention to my past record. The company was what they call a FTSE 250 company—that is to say not in the top 100 but in the next 250, so one of the 350 largest companies in the country What are the Government seeking to achieve? I draw the House’s attention to page 1 of the impact assessment, where it says: "What is the problem under consideration? Why is government intervention necessary?" It goes on to say: "The financial crash in 2008, led to calls for greater scrutiny of the audit profession. The belief was that the accounts of several financial institutions had been given unjustified ‘clean’ audit reports and so potentially misled investors and regulators, undermining confidence in the financial system as a whole and affecting the efficient allocation of financial capital". In reading that, one could only conclude that the fundamental purpose behind these regulations is to address issues of systemic risk. If this were not the case, why would the impact assessment focus so heavily on undermining confidence in the financial system as a whole If we are addressing systemic risk, there are relatively few companies that are large enough to pose a systemic risk in this country: the banks, certainly, along with other financial institutions, and some of the biggest industrial and commercial companies. How many? Possibly 50, but probably no more than that. However, the regulations, as my noble friend has told us, apply to every company called a public interest entity—a PIE. When I read the policy background on page 2 of the Explanatory Memorandum, it was clear that it applies to all listed companies of whatever size, from the biggest to the smallest. Just for the record, it would be helpful if my noble friend could give an assurance that the regulations do not apply to companies listed on the AIM. If he cannot give that assurance, I will be seriously upset What additional reporting requirements will be imposed on PIEs? According to paragraph 7.6 on page 3 of the Explanatory Memorandum, "The Regulations make changes to audit reporting requirements, including the reporting of irregularities; auditors of PIEs will be required to submit an additional report to the audit committee of the audited entity" In order to try and tackle the challenges—or possibly the failures—of auditing the 50 or so companies which pose a systemic risk to the British economy, we are proposing to require all listed companies to prepare further reports, for which of course they will have to pay, directly or indirectly I have heard many politicians on both sides of the House deplore the emergence of private equity at the expense of the public stock market. Such people seem to worry about what may be happening behind the green baize door of a private company, away from the public gaze. As it happens, I do not share that view—I think there are good and bad everywhere—but I share it in one respect, which is that the man in the street cannot and probably should not invest in private equity in the way he can and should in shares traded on public markets such as the London Stock Exchange. In order to encourage general faith and confidence in the fairness of our liberal capitalist economy, we need a healthy, growing public market in which all our fellow citizens can participate. Every time the Government come up with another set of regulations to be complied with by public companies, they give another boost to the growth of alternative funding mechanisms and therefore accentuate the different investment opportunities available to different parts of our society. If the Government said: "These regulations apply only to companies which pose a systemic risk to the UK economy", I would be entirely supportive, but I fear that is not the case How do the Government think that this can be remedied? My noble friend referred in his opening remarks to excessive concentration. I return to the impact assessment: "The market failures are due to misaligned incentives, conflict of interests and lack of competition. Companies infrequently tendering audit appointments or changing auditors cause there to be little opportunity for new entrants to compete for contracts, leading to a lack of competition in the market for the provision of audit services" Lack of competition? There are only four major firms in the PIE space—all other auditing practices are at present effectively also-rans—so there are only four entrants to the race, one of which must be ruled out because it will be the current auditor and another may be ruled out because it is providing corporate finance or other services. We have a race of only two horses. This is what we call competition. There is bound to be the effect of taking in each other’s dirty washing or passing the buck around when you have that limited a number of participants.