Examination of Witnesses (Questions 376-401)
NIGEL R JOHNSON, GERVASE MACGREGOR AND RAKESH SHAUNAK
29 MARCH 2011
Q376 Chair:
Good morning. Welcome to you all to the fifth evidence session
of the Committee for the Inquiry into the Audit and Inspection
of Local Authorities. For the sake of our records could you just
introduce yourselves and say which organisation you represent.
Nigel Johnson:
Thank you. I am Nigel Johnson, I am from Deloitte.
Gervase MacGregor:
I am Gervase MacGregor, from BDO LLP.
Rakesh Shaunak:
I am Rakesh Shaunak from MacIntyre Hudson, MHA.
Q377 Chair:
Thank you very much for joining us this morning. We have had quite
a bit of differing evidence given to us about whether there really
is a difference between the audit requirements of public and private
sector organisations. Do you think there is a difference and do
you think the basic principles of public audit, particularly the
fact that a public body should not appoint its own auditors, is
important and should be maintained, or should it be altered and
adjusted somewhat in line with the practice in the private sector?
Who would like to start?
Nigel Johnson:
I will kick off, thank you. I think there is a difference in the
audit requirements for public sector bodies, in terms of the need
for a review of the accountability for the use of public funds,
and I think that is the principal difference between public and
private sector audit. In terms of the scope of work, I think the
current requirements for auditors in the public sectors, certainly
in the Audit Commission regime, ask you to deal with elector queries,
report on value for money as well as report on the financial statements
themselves. Some of those responsibilities are sensibly able to
be reviewed. I think public reporting by the auditor can still
play quite a strong part in how auditors engage and show visibility
of their work to the public at large, but I think the audit scope
currently is probably too broad, would be my view, in terms of
having to deal with every single elector query, some of which
can be quite vexatious and become a waste of auditor's time and
elector's money.
Gervase MacGregor:
The main difference we see is clearly between the audit of expenditure,
which is traditional territory for accountants, and VFM reporting,
both of which are within the current scope of the audit report.
VFM reporting is not something that naturally falls within the
territory of accountant auditors but obviously the audit of expenditure
does. So there is a difference in scope certainly.
As far as appointment is concerned, companies appoint
their auditors on behalf of their shareholders and essentially
what happens is that audit committees appoint those auditors.
That I think over the last 20 yearscertainly since I have
been in practicehas been a good thing, and whatever changes
take place as far as in the public sector I think need to replicate
that sense of independence.
Rakesh Shaunak:
I think, Chairman, if one looks at it quite radically and tries
to divorce what is now to what could be there is benefit in convergence
between public sector audit and private sector audit. I think
fundamentally it comes off the fact that the public sector stakeholders
are your taxpayers and in the private sector the reporting is
to the shareholders, so arguably the public are the stakeholders
within the public sector. I think their needs could be easily
fulfilled by introducing intermediaries, such as community interest
groups for example, for very specific studies, part of the Big
Society, how does one dovetail the private and the public sector?
So I think currently, as the Code of Practice is drawn, yes, it
is difficult to see how one could divorce all those functions,
but I think if one looks at it radically there would be benefit
in converging the two.
Q378 Chair:
We will come on to the scope of the audit and the public interest
issues in a little while, but one of the principles of public
audit has been the independence of public auditors from the organisation
being audited. That has been a principle for a long time. Therefore,
are you all happy to tear it up and forget about the past 150
years?
Gervase MacGregor:
I certainly did not say that. I said that the independence, so
far as in the private sector, the way audit committees have taken
that role on from the reforms that started taking place 20 years
ago, is something that needs to be maintained within the public
sector. That independence is clearly very important. So it is
certainly not our position that that should be torn up. How it
is replaced is another matter and, in terms of having educated
committees of non-execs, for example, who do the appointment,
it is clearly something like that that has to replace it, it is
not our suggestion at all that you tear up that degree of independence.
Rakesh Shaunak:
Chairman, if I might chip in here, I think this question of independence
applies equally to the private sector as well, because at the
end of the day that is a potential conflict we face all the time.
I know there are our colleagues from the Institute appearing later
but fundamentally independence is the foundation of the work we
do. So I don't think one necessarily need compromise its independence
by being appointed by somebody else.
Nigel Johnson:
Can I just add, I think it is right to look at the private sector
and say what creates the ability for an auditor to remain independent
and potentially to be reporting without fear or favour, and I
think there are mechanisms within that regime. For example, if
an auditor is asked to resign by the directors, or indeed the
shareholders, there are rights to write formally and have that
letter reported in Annual General Meeting and that goes on public
record at the company's registrar, in terms of the statement of
reasons and the auditor's position versus perhaps the auditor's
position as presented by the directors or shareholders.
There are protections and mechanisms by which there
can be openness about reasons behind an auditor being asked to
resign or fired, which obviously can be in the public domain and
therefore can show whether there is right or wrong in that decision.
Similarly, obviously the appointment of an auditor should indeed
be supervised by an appropriately qualified audit committee and
again taken into public meeting for that approval. So again, it
is not necessarily just the officers appointing the auditorswho
they have friends init is generally an open appointment
process.
So, with protections, with strong audit committees,
with open ability to report reasons why and perhaps disagree with
a resignation request, I think there can be ways in which that
independence can be maintained, as indeed it is within the private
sector.
Q379 Simon Danczuk:
Can I start by asking about the pros and cons of the scope of
the audit? I just wanted you to talk a little bit more about that,
what do you think are the advantages and disadvantages of restricting
the audit, the scope of the audit?
Nigel Johnson:
Sure. I commented, that at the moment I think there are I guess
two key areas on which one reports positively currently: one is
the true and fair view on the annual accounts; the other one is
the value for money conclusion, and I think the value for money
conclusion is one of the key differences with the private sector.
What has been helpful in a way, because I think that could be
quite a broad set of responsibilities and require a broad amount
of work, is: what is the definition of the scope of work that
is required to apply to reaching that conclusion, because to say,
"Value for money has been achieved" at an organisation
as complex as a large local authority would take quite a lot of
work.
So what has been helpful is that the Audit Commission
has specified the scope of work that underpins that conclusion.
Therefore, there have been some boundaries set. I think in any
new regime people would expect perhaps for auditors to still have
a value for money responsibility, but I think again some boundaries
that are set by a regulatory organisation would be useful so that
there is an expectation, there is a clear brief under which the
auditors should work.
The other responsibility is about public interest
reporting and objections as a result of elector challenge. I have
commented, as I say, that I think there have been useful powers
historically. I have had ranges of experience from very well-targeted
queries from electors to some very, very seriously vexatious ones
and single issue ones, which should not be applied in terms of
auditor's time and also local authority cost. I think, with a
more transparent agenda, access to greater amounts of information
currently, all the expenditure perhaps being accessible, it is
possible for those inquiries to perhaps be better directed towards
the authority rather than go through the auditor, and then perhaps
for the auditor to assess how well those arrangements for handling
those queries are constructed and dealt with. That could well
form part of a value for money scope of work, to look at the arrangements,
how elector queries in respect of expenditure or other challenge
are dealt with, rather than going through the auditor.
Gervase MacGregor:
I think, Nigel, I would probably take a slightly different view
as far as the VFM is concerned. I mentioned earlier the territory
of auditing expenditure clearly within the usual expertise of
an accountant auditor. Obviously, included within that is the
audit of the system of internal controls, that any organisation,
including public sector organisations, use to control expenditure,
make sure it is properly authorised and things like that.
I think when it comes to VFM the expertise required
there is different, is different from what accountants are used
to providing. Where I do see VFM, within the scope of an accountant,
is making sure that an organisationlike an authority, for
examplehas a control that it looks at VFM, rather than
undertaking the VFM itself.
Q380 Simon Danczuk:
Just on that, it is almost as though you are suggesting that the
system should be shaped to suit the accountants that are going
to do the work, as opposed to what Government might want in terms
of auditing the local authority.
Gervase MacGregor:
I don't think I am saying that at all. What I am trying to make
sure is that the auditing is seen as auditing, and to the extent
that value for money is undertaken. There are experts in various
areas who can do that, and who can do that better than an accountant.
Quite frankly, if you go to a large accounting organisation and
you ask the auditors there, when the auditors do VFM they will
be calling on their specialists. In my firm, for example, we have
many specialists in healthcare who can very much do those aspects
of VFM. I do distinguish those from what I see as the traditional
territory of auditors, which is looking primarily at the audit
of expenditure and looking at the system of internal controls.
I would say one other thing about VFM, it seems to
me that a lot of it is based on measuring inputscost per
whateverrather than some of the outputs, making a separation
and putting the responsibility primarily for looking at whether
there is value for money on the body that is spending the money
and then getting specialists, as necessary, to come in and look
at that. That is a much better way of achieving that. I am certainly
not suggesting that you should stop that or that you stop looking
at value for money altogether, far from it. What I am suggesting
is that you look at it in a better way.
Rakesh Shaunak:
My position is that value for money should be done by specialists
as well. I think internal audit has a role to play in that, whether
it is an externally appointed internal auditor or the local authority's
own internal audit function, provided the controls are in place
and the requirements are clearly stated, such as for example in
the Code of Practice.
I think the scope currently is too wide, and it ought
to be focused towards expressing the opinion, both on the use
of funds on the regulatory and probity side. There is a parallel
in education, for example, where it is driven by a self-certification
of the systems of control, back to the system of control, and
assignment of the auditors, leveraging off the certification.
So I would welcome a narrowing.
Q381 Simon Danczuk:
Just very briefly, do you think that the local authority should
be able to determine the scope of the audit? Would that be a good
thing?
Nigel Johnson:
I do not think that would be appropriate. I think somebody else
should be setting the scope of the audit and that would be potentially
around the annual accounts, although I think that is well-trodden
territory and one draws on the normal accounting and reporting
standards. For value for money, assuming that remains within the
auditor's remit, I think somebody else should set the scope of
work for that piece of the audit.
Can I just say one other thing? In the value
for money context I think auditors always prefer to report on
something that is attested by the client, be it the directors
or whatever. At the moment obviously the annual accounts are indeed
certified by the finance officer and sometimes the leader of the
council. There is no current attestation confirming, "We
have spent money properly" or given a value for money attestation.
So the auditor's conclusion is the only thing that currently does
that, and I wonder whether there ought to be an explicit attestation
within this annual reporting framework, which requires the authority
to confirm they have indeed spent money economically, efficiently
and effectively.
Q382 Simon Danczuk:
Do you think the local authority should set the scope?
Gervase MacGregor:
I don't think they should set the scope at all. Carrying on from
what Nigel said about the VFM pointand he raises an interesting
point thereif you did put that requirement for a test on
the officers in a local authority, I think you would end up with
a position where they were going out and getting specialists to
carry out specific VFM studies on particular parts of their services
and, you know what, if they did that that would all be part of
what I said before, which is making sure there are adequate controls
within the local authority to look specifically at VFM.
Rakesh Shaunak:
I think on the attestation I stated my position, which is the
same as these two gentlemen. No, certainly, the local authority
should not be setting the scope. I do not mean to denigrate that,
but I think fundamentally it is public money and so the scope
should be set outside that regime.
Q383 Mark Pawsey:
Chairman, I would like to go into the issue of public interest
performance and, Mr MacGregor, you said earlier that the audit
of expenditure is traditional territory for accountants and it
is accepted that public audit needs to go further than that. Currently,
if an auditor finds malpractice or improper expenditure by an
authority they go into a public interest report. That is currently
funded by the Audit Commission who provide advice and guidance
in doing that. Is it your belief that those reports: firstly,
should they continue; secondly, does the private sector have the
expertise to be able to carry them on if they do, and who should
pay for them?
Gervase MacGregor:
I see the PIR as like an insurance policy or a failsafe. The local
authorities know that it is there and it is one of those things
that, at the end of the day, keeps them honestif I can
put it like thatknowing that that thing is out there. So,
one looks at abandoning that with some trepidation, I think. I
would be uncomfortable if an auditor found something, or was told
about something, and was not able to investigate it because it
was outside scope.
To investigate it, it is the age-old problem of somebody
paying you to investigate their malpractice, or alleged malpractice.
I think that I would feel quite uncomfortable with a situation
where I would be going to somebody and saying, "I have been
told about this, I want to investigate it. I need you to pay me
to do that". So, I think if you continue PIR, and I think
there are very good reasons to continue it, you need to maintain
some sort of system of indemnification for whoever it is who is
undertaking the investigation.
Q384 Mark Pawsey:
So you would accept there is a conflict of interest, if the auditor
has been appointed by the local authority and the auditor wishes
to go further than the original specification?
Gervase MacGregor:
I think that is consistent with the answers each of us has given
in respect of the last question, which is: to what extent should
a local authority set the scope? Here you are potentially talking
about the local authority being asked to set the scope of a PIR
and the best way to frustrate scope is to withhold funds to investigate.
Q385 Mark Pawsey:
Who should pay for it?
Gervase MacGregor:
Clearly public funds should pay for it, but how that is channelled
to the auditor I think is a different question. It would need
to be one of the public bodies.
Nigel Johnson:
I think public reporting by the auditor should continue and again,
in our submission, I think we did make the comment that we think
that our audit plans and our end of year reports should be publicly
available. I think our suggestion is that matters of particular
concern, which are perhaps currently looked at through the special
public interest reporting regime because they are tricky issues,
unlawful expenditure, or just very serious matters that auditors
believe should be investigated and brought out in public, I think
those then could be done through that public reporting regime
and perhaps flagged quite specifically. I think that maybe that
becomes a natural part of public reporting by auditors, rather
than something that is currently very special and different and
requiring quite a different response. So I think there is a refinement
and perhaps an enlargement of public reporting by auditors, which
could encompass bringing these sorts of special matters to attention.
In terms of expertise, most of the public interest
reports that I have both read and been involved with I think the
auditor has had the expertise to examine. There are some exceptions,
and I would make a distinction between public interest reporting
and objections. I think objections are much more difficult for
the auditor currently, simply because that gets you into quasi
judicial and legal areas with potential for challenge, and so
on, through the courts. That sort of aspect of the current audit
regime is potentially better served, and better value for money
would be achieved, through excluding the auditors from that and
letting lawyers handle that, or the matter be pursued through
the local authority directly. So I think the auditor has the expertise
to deal with most matters raised. If they need to take advice
they will have to obtain that.
Then who should pay and how that mechanism should
pay? At the moment, on public interest reports, the audited body
pays. The Audit Commission doesn't pay. So there is a way already
whereby it is acknowledged that, if an auditor has to undertake
a public interest report, the audited body will pay and they do
indeed pay. Now, if you take the Audit Commission away and say,
"Well, there isn't that protection" where would the
auditor be? I come back to if there is a very robust audit committee,
who is independent and objective around the political colour of
the organisation
Q386 Mark Pawsey:
So this is the audit committee of the body being audited?
Nigel Johnson:
Yes, I think if there is a robust audit committee then I think
they can serve as the channel through which not only can an auditor
say, "I need to investigate this matter. This will cost money"
and alert in advance, but also be the conduit through which the
auditor does indeed get paid and proceed to do that reporting,
without feeling put upon about, "Will I get paid for this
and, therefore, I should be uncertain about proceeding to investigate
the matter".
Q387 Mark Pawsey:
Do you think there is a danger of conflict of interest?
Nigel Johnson:
For the auditor?
Mark Pawsey: Yes, for
the auditor being paid for by the body that is being audited.
Is it in their interest to be too critical?
Nigel Johnson:
That is where I think you need those protections about the independence
of voice within the council itself, and I think you need a regime
of quality control and oversight. If you ask me to duck a particular
issue, then I would have to think very hard, because regulators
already scrutinise our audit work very thoroughly. I think any
new regime would indeed want to be looking at these sorts of issues
that have arisen, and whether they have or haven't been pursued.
So I think again, with the regulatory oversight of the profession
at the moment, I would be surprised if any professional person
would feel put upon not to pursue something if they felt that
was genuinely professionally the right thing to do.
Rakesh Shaunak:
I agree absolutely and completely. I think independence is something
that exists all the time and we overcome it quite successfully.
Not simply because the regulators are looking over our shoulders,
but through being professional and just the way we operate the
Code of Conduct.
Yes, I think public interest reporting should continue
and continue to be funded, whether it is top sliced, or a war
fund, I think it is something that can easily be reformed.
Q388 Mark Pawsey:
Do you think that the public interest reporting should be funded
by an independent, separate body or are you comfortable that it
should be paid for by the body that is being audited?
Rakesh Shaunak:
I have no issue with the body that is being audited paying for
it, provided the scope and the expectation is clearly defined.
Q389 Chair:
Can I ask: do you really believe that Westminster Council would
have paid for the public interest report into its various activities
and Lady Shirley Porter?
Nigel Johnson:
I would declare an interest in having been in the firm that investigated
that.
Chair: With the backing
and payment of the Audit Commission, of course, right the way
through.
Nigel Johnson:
Yes, but that is why I did make the distinction between a public
interest report and an objection. The Westminster case was an
objection, a legal objection, and I think I am suggesting that
those powers to investigate objections do not sit any longer with
an auditor.
Q390 Chair:
We will come on to the objections in just a second, but an objection
can lead on to a public interest report, can't it? If a problem
is drawn to the auditor's attention, which he then deems is worthy
of that degree of investigation then that can be the outcome?
Nigel Johnson:
Yes. I guess the dealing with the objection and the response to
it is typically taken in public anyway.
Q391 Chair:
Okay, but in the end if the only degree of independence is that
you have an independent audit committee, which I understand you
are basically all suggesting might be one of the ways of achieving
some degree of independence, should that audit committee have
the right to specify expenditure on audit where required, separate
from any further approval by the council?
Rakesh Shaunak:
I think that would be a good safeguard to build in with the audit
committee to commission additional work.
Nigel Johnson:
I think they can make a recommendation; it is whether they should
have the power to commit funds on behalf of the council. I think
there is something to be said for that, to the extent that they
believe there is something appropriate and they feel that it should
be investigated and perhaps councillors might not take the same
view.
Gervase MacGregor:
I will also declare an interest. We acted in the defence of some
of the councillors against Mr Pickles. If something is sufficiently
seriousand let us think about this in the context of the
private sectorauditors are going to say something and auditors
will threaten to resign or will resign. The same thing applies
to members of audit committees if something is sufficiently serious.
The world of PLCs has become very challenging over the last couple
of decades, as people have realised, non-executives in particular,
members of audit committees have realised, that they have real
responsibilities and real legal liabilities, in respect of not
discharging their job properly. If something is sufficiently serious,
such as you have just referred to, I find it very difficult to
believe that an appropriately qualified audit committee or group
of non-executives wouldn't make sure that something was investigated
properly.
Q392 Heidi Alexander:
I just wonder if you think that the right of electors to challenge
the financial statements of councils should be retained. If you
don't believe they should, what other process do you think should
be put in place to maintain elector accountability?
Rakesh Shaunak:
I think my analogy of the electorate being the stakeholders, the
shareholders is particularly pertinent here, so I think that right
should still be retained. As to whether there should be a direct
access from the stakeholder to the auditor is something I am uncertain
about. In fact, I feel it is too stark. I think there should be
an intermediary; perhaps an officer, a nominated officer, a sponsor,
and ultimately, the audit committee. We have mentioned the audit
committee a number of times today having had experienced, both
in the public sector and in the private sector. Provided the competition
and the skill set within the audit committee is right, they can
act as a very good buffer, so I think the right should be retained
but not direct access.
Gervase MacGregor:
I think that is right, the right should be maintained, but going
through the audit committee seems to be an appropriate mechanism.
Again, this is presupposing that you have properly qualified and
experienced members of audit committees. We are hanging a lot
on that being one of the big safeguards of the effect of all of
these changes.
Nigel Johnson:
I would make the distinction between the right to access information
about the accounts and the right to challenge the accounts. I
think it is entirely appropriate for access to be granted by any
elector who wants to understand what money is being spent on,
why it is being spent, and I think that is a natural sort of conversation
and communication between the elector and the council. In terms
of challenge to the accounts, I think that challenge can indeed
be made and that right can still be retained to the auditor, but
again that can fit very comfortably within an audited body, audit
committee conversation. Again, I think it is an appropriate right
for the elector to have.
Q393 Heidi Alexander:
Was that what you said in your written submission, because I thought
there it said that you considered that the extended audit powers
to hear and pursue electorate objections should be dispensed with?
Nigel Johnson:
Yes. That is objections about legality rather than matters in
the accounts themselves.
Q394 Bob Blackman:
At the moment, the Audit Commission both commission the private
sector to do audits and control the quality consistency of audits
right across the piece. With them going, how are we going to ensure
that consistency and quality is maintained?
Gervase MacGregor:
Currently within the private sector and other aspects of not-for-profit,
our work is fairly heavily regulated, in our case by the AIU,
the Audit Inspection Unit of the Financial Reporting Council,
and the quad of the Institute of Chartered Accountants. So there
is already sufficient regulation. When you go into other areas
where we undertake audits, there are additional regulations through,
for example, the involvement of the Charity Commission and all
sorts of bodies in higher education.
So I think that, as far as auditors are concerned,
there are sufficient controls that could absorb the current role
on audit quality. We get inspected once a year; a report comes
out. It is the same for Deloitte and the other large firms, so
I don't have any worries as far as that is concerned.
Nigel Johnson:
To my mind, consistency would be more of an interest than quality
and I think the Audit Commission indeed has played a significant
part in ensuring consistency through the guidance it has issued,
and so on. There are other regimes where there are mechanisms
through which information is disseminated to auditors to help
with the consistency in those different regimes.
The NHS Foundation Trust regime is one of those,
for example, where there is guidance issued and a forum around
which issues are debated and discussed among auditors to ensure
greater consistency. There are ways, but I think there would need
to be some mechanisms through which those involved did get some
guidance about some of the areas where there could be inconsistency.
I would concur with Gervase around the quality aspect.
I think firms who are registered under the various regulatory
bodies and professional bodies will be ensuring that the work
that they do meets the required professional standards, so I think
consistency needs to be thought about more in any new regulatory
framework than in quality.
Q395 Bob Blackman:
So do you think there should then be some form of regulatory body
that is introduced to make sure this consistency takes place?
Nigel Johnson:
We have talked about the scope of the audit. I think someone somewhereunless
the legislation is going to be very detailedneeds to define,
underneath the legislative principle, the scope of audit work.
Beneath that, potentially, there could be some formal guidance,
be it a code of audit practice or whatever, sponsored by an organisation,
which does put more flesh on the bones of what the scope of the
audit work here is, and indeed any further guidance that is required
by auditors to provide the consistency and approach for the diversity
of the providers. I think there should be somebody given that
role and responsibility to set that more detailed code and guidance.
Q396 Bob Blackman:
So who do you think that should be?
Nigel Johnson:
It is reported to be the National Audit Office. I think they would
be as good as anybody, given their knowledge of audit work. If
there were to be a residuary body coming out of the Audit Commission,
then there might be somebody else, but I would say
Q397 Bob Blackman:
The Audit Commission in another guise, do you think?
Nigel Johnson:
An Audit Commission, a light regulatory body that doesn't have
its own in-house audit practice.
Rakesh Shaunak:
If I could look at the Audit Commission first, and you mentioned
the Audit Commission's current role. It is highly unusual, in
my view, for an organisation to be a regulator, a commissioner
and a provider as well. I think separation of those functions
is very important. Whether the oversight goes to the NAO with
a very defined scope as the ultimate custodians of public funds.
I think it sits quite readily there.
As far as consistency among the firms is concerned,
I think if the Audit Commission does go, whether or not it does,
when the new work is commissioned, provided there is sufficient
scope and coverage in terms of alternative providers, and they
are then encouraged to get together and define benchmarks and
key performance indicators, and what have you, consistency can
easily be achieved and it has been achieved in other sectors.
As far as the professional oversight is concerned, the institutes,
the AIU, the Financial Reporting Council, the QE, fulfil a very
useful function, so I think that is less of an issue. The consistency,
as Nigel says, is an issue but not an insurmountable one.
Q398 Bob Blackman:
One of the concerns is going to be that, if local authorities
are deciding who the auditor is going to be, they are going to
put this out to a contract and there will be competition; they
will de-scope the elements of audit and try and get the cheapest
possible cost they can. Now, someone somewhere is going to have
to oversee that, so who oversees it?
Rakesh Shaunak:
The NAO, for example, and the Audit Code of Practice is pretty
fundamental in this. That is not to say that the Code of Practice
would necessarily be automatically followed, but it could be seen
to be followed by reviews and so on. So, the NAO, I would suggest,
has a role to play in this in the scoping of it, through the Audit
Code of Practice in defining what the expectations of the auditor
are and that would drive the process.
Gervase MacGregor:
You are absolutely right to have the concern. That is why the
scope needs to be properly worked out, so that is what an appointed
auditor is looking to when he plans and he undertakes his work;
and secondly, to avoid this concern of basically people driving
down costs by self-limiting the scope of their work. That is where
something equivalent to the annual inspection that we have on
our private company audits takes place. That is how you stop local
authorities constricting the scope by withholding the fees.
Bob Blackman: Mr Johnson,
you were nodding your head sagely there. I just wonder if you
have anything to add.
Nigel Johnson:
Sagely? Yes, I think that there is always price pressure but I
am not sure every organisation, even among the local authority
fraternity, will automatically be looking for the cheapest auditor.
Some people will want something other than just cheapness and
price to be a factor in who they appoint and what sort of auditor
they have. Some people may be looking for a proper check and balance,
some assurance and choose that weighs quite properly along with
a price element to the decision. So I think it is right for people
to go through a local appointment process, decide what criteria
they wish to apply and decide. I think price will be one of those
dynamics but I am not sure it will be the only dynamic.
Q399 James Morris:
Just pursuing this thing about the Audit Commission; when the
Secretary of State decided to abolish the Audit Commission and
stated his intention, he did say that the audit practice had done
quality work and there was a lot of competency he wanted to retain
in there. What do you think is the best model? A few models have
been proposed, in terms of mutualisation or a private firm taking
on the role and the function that the Audit Commission has. What
do you think is the best model moving forward? Now that the Government
has decided to abolish it, what is the best mechanism of mutualisation
or another process in your view?
Nigel Johnson:
I am not sure I have the answer. There clearly needs to be a proper
thorough evaluation of what the options are. As somebody who has
worked in this particular sector for quite a long time, I have
no question that the level of expertise within the Audit Commission's
in-house practice is something that we need to protect and ensure
has some sustained value in any new regime. If they can create
a sustainable business case for mutualisation, I think that would
be good and I think that would preserve a lot of that capability
in one place rather than see it fragment, which I think is potentially
the risk with any other alternative.
So the question: can they build a sustainable business
case from what they have? Currently it has 70% or so of a market,
which is a large share of any market. Again, obviously with local
choice becoming available, you wonder again whether that is a
sustainable level of market share from day one for any mutualisation
let alone going forward. So I think it is a challenge to build
a sustainable model, but I would like to think that some case
could be made for maintaining the majority of that business in
the whole to keep that expertise in the market.
Q400 James Morris:
Do you think this move will stimulate more market competition
for audit or will we have greater concentration?
Nigel Johnson:
I think making local appointment will create greater choice and
greater competition. There are many firms who will look at this
market and think it is attractive. If it is freed up, and it has
been, as I say, a very severely managed market up until now with
that large in-house share, I think it will create serious competition.
James Morris: Any other
views?
Gervase MacGregor:
I think looking at the mutual model, yes, there are attractions
and there are certainly attractions as far as keeping the talent,
which is currently in the Audit Commission, in one place. The
problem is that over time that market dominance is going to be
eroded, through a variety of normal competitive means. I think
inevitably, where this will end up is that that work is going
to end up being shared among a larger group of audit providers.
I think that is inevitable over time.
Q401 James Morris:
Do you think that is a positive thing?
Gervase MacGregor:
Is it positive? Yes, it is, I believe it is positive, but I also
think it is inevitable. I don't think you can fight the market
in that respect. I don't think you can say, "Here is an almost
monopoly provider of 70% of audit services" and then go and
let it compete out there in the market. Its share is going to
get eroded with time.
What is arguably more important is this: there is
a lot of talent within the Audit Commission. This was announced
some time ago. You do want to keep that talent within audit and
I think the longer it goes on before there is some sort of solution
to the abolition, the more uncertainty there is obviously in terms
of what the new model is going to be, so any benefits that come
out of it are going to be delayed. There will also be a lot of
attrition at the Audit Commission. We won't be the only firm that
has had people from there approaching us to look for positions
because they are worried about what the final model is going to
be. So whatever it looks like, I think it has to proceed apace.
Rakesh Shaunak:
We welcome the opportunity for wider competition because the market
is concentrated among very few providers currently. We are heavily
biased, of course, but I think there is no dichotomy in looking
at the skill set within the Audit Commission staff and that model,
because fundamentally people will move with the demand and with
the awarding of contracts.
Chair: Thank you very
much indeed for coming this morning and giving your evidence;
thank you very much.
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