Written evidence submitted by Grant Thornton
UK LLP
ABOUT US
Grant Thornton UK LLP is a leading provider of assurance,
advisory and tax services to individuals, privately-held businesses,
public interest entities and the public sector.
We are one of the top three providers of audit services
to the local authority, health, education, and housing sectors,
and in addition to our contract with the Audit Commission, we
hold framework contract appointments with the National Audit Office,
Wales Audit Office, Audit Scotland and the Northern Ireland Audit
Office.
Given our long standing commitment to the public
sector and our extensive experience of providing audit services
to local authorities, we believe we are well placed to offer the
Select Committee a perspective on the audit of local authority
expenditure.
THE PURPOSE
OF THIS
PAPER
We welcome this opportunity to provide comments to
the Select Committee which is considering:
— audit of local authority
expenditure;
— oversight and inspection
of local authority performance; and
— value
for money studies.
This paper focuses on the first of the Committee's
areas of examination, the audit of local authority expenditure.
We take "audit of local authority expenditure"
to include local value for money (VFM) work undertaken as a part
of local authority audits. This work is separate and distinct
from national VFM studies of the kind published by the NAO and
the Audit Commission. As our experience and expertise lies largely
in the area of local authority audit (including local VFM audit),
this paper does not focus on national VFM studies, or the oversight
and inspection of local authority performance.
SCOPE
We believe that there is a danger that general dissatisfaction
with current arrangements for oversight and inspection of local
authorities may become "muddled" with views about the
audit of local authority expenditure.
This paper does not comment in any detail on future
options for local public audit, but rather concentrates on the
underlying principles relating to audit of local authority expenditure
which, to date, have been subject to little debate.
We are aware that CLG is developing models for the
future of local public audit in parallel with the Select Committee
enquiry. We are engaged in those discussions and look forward
to responding separately to CLG's forthcoming consultation paper.
We shall be pleased to be involved in ongoing dialogue on this
matter.
Whilst the views expressed are our own, they are
informed by discussions we are having with our local authority
audit clients up and down the country.
CONCLUSIONS AND
KEY MESSAGES
We understand the Government's policy of focusing
on choice and localism. Our comments aim to support that focus,
whilst ensuring that the positive aspects of the public audit
model are maintained.
Overall, we think there are compelling reasons to
retain the "Principles of Public Audit"—wider
scope, public reporting and independence—in any future local
public audit regime.
The reasons for this include, but are not limited
to, the following key features of the local government sector:
— the political nature of
local government;
— the need for local and
national accountability;
— the lack of choice for
local taxpayers; and
— the
absence of a profit motive to drive efficiency and performance.
The public audit model remains relevant and the wider
scope of the audit, and relationship with local electors, have
a key role to play in the oversight and success of the localism
agenda.
We conclude that:
— the characteristics and
complexity of local government require auditors to invest in understanding
both the sector, and the unique audit regime, in order to deliver
high quality audits;
— local authorities should
have a greater say in determining the scope of local VFM audit,
and greater engagement in the audit appointment process;
— an independent appointments
body, with local authority representation, would bring the "best
of both worlds" in terms of maximising independence and ensuring
greater local authority involvement in the appointment process.
An appointments body, which could operate nationally or regionally,
would also have the benefit of reducing the procurement burden
on individual local authorities (and auditors), ensuring all authorities
have an appointed auditor, and enabling greater economies of scale
and therefore value for money in terms of cost, quality and continued
investment in the sector; and
— there is a need for a new
framework of regulatory functions, beyond the appointment of auditors,
to ensure quality and consistency in the audit of local government
bodies, and to ensure local elector complaints are dealt with
effectively and proportionately.
PRINCIPLES UNDERPINNING
AUDIT OF
LOCAL AUTHORITY
EXPENDITURE
The 1998 Public Audit Forum paper, "The
Principles of Public Audit" set out
the three main principles which should underpin any public audit
regime:
— wider scope of public audit;
— public reporting; and
— independence
of auditors.
Each principle is related and they are most effective
when applied in their entirety. In particular, if the principles
of wider scope and public reporting are accepted, the principle
of independence of the auditor becomes key.
In addition to the principles of public audit, we
know from discussion with our local authority clients and other
stakeholders that the other primary considerations when reviewing
options for audit of local authority expenditure are:
— cost
— quality.
We address each of these points in the sections below.
Wider scope of public audit
Local taxpayers cannot choose to opt out of paying
for local council services. In addition, the absence of a profit
motive within local authorities means that the first principle
of public audit, that the scope of the audit should go beyond
that necessary to form an opinion on the financial statements,
is important. The audit of local authority expenditure currently
includes the review and reporting on arrangements for ensuring
activities are lawful, well governed, and are likely to promote
value for money for local taxpayers ("local VFM work").
The wider scope of public audit is entirely consistent
with those areas where transparency to the public should be promoted.
Encouragement of the public to hold councils to account locally
is best supported if the public (through access to the independent
external auditor) is able to raise matters that go beyond the
financial statements. Matters of interest to the local media and
topics of Public Interest Reports invariably relate to these wider
aspects of the audit, not the financial statements.
In our experience, local authorities are supportive
of the wider scope of public audit. Audit Committee meetings are
more meaningful and useful to Members if they include reporting
and discussion on assurance relating to the local authority's
governance and value for money arrangements, particularly when
audit work is based on specific local risks and is proportionate
to those risks. Better performing and aspirational councils routinely
rely on local VFM audit work to help target improvement, whilst
less well performing councils are held to account and challenged
through the audit process to improve.
However, local government should have a greater say
in shaping these wider aspects of the audit and, in our view,
local VFM work should be less prescriptive than in the past, with
the onus for delivering, demonstrating, and reporting on, value
for money resting with local government itself, not the auditor.
Whilst it would be possible for the wider scope (local
VFM) aspects of the audit to be delivered other than by the external
auditor, we do not favour that option. The wider scope audit is
best integrated with the financial statements work to ensure consistency,
avoid duplication and minimise cost. Auditors have experience
and knowledge in the wider scope audit and by combining the local
VFM audit with the financial statements audit, the auditor is
best placed to report on the overall performance of the local
authority and deal with questions from local taxpayers.
In summary,
we believe the unique nature of local government requires a wider
scope audit to cover legality, probity and value for money. Local
authorities should have a greater say in determining the scope
of local VFM audit, and in demonstrating and reporting achievement
of value for money. The wider scope audit is best integrated with
the audit of the financial statements to avoid duplication, minimise
cost and maximise the value of audit reporting.
Public reporting
The second principle of public audit—public
reporting—is closely related to the first principle of wider
scope.
If scrutiny of local authority performance is to
be encouraged, local taxpayers need to receive regular, independent
and high quality information from their local authority. Audit
Committees are open to the public and all audit reports are usually
made available on websites, which is a strength of existing local
authority arrangements. The Government has implemented other measures
to increase local interest in, and scrutiny of, local authority
expenditure, for example, requiring councils to publish all payments
greater than £500.
The process associated with formal questions and
objections to the accounts by local taxpayers is now somewhat
out-dated, but we believe that the ability to provide information
to the auditor and to ask questions of the auditor is important,
and is going to take on greater significance in the future with
the encouragement of "armchair auditing". Whilst it
is appropriate for questions to be directed to, and answered by,
the local authority itself in the first instance, we do consider
it likely that auditors will receive an increasing number of questions
and complaints as a result. Auditors will need to be properly
supported by an effective regulatory regime both to examine thoroughly
matters of concern, and to dismiss vexatious complaints.
Equally, there is value to local taxpayers of an
independent regulator in this area, to whom they can turn if they
are dissatisfied with the way in which the auditor has dealt with
a question or complaint about a local authority. This is the most
common form of public dissatisfaction with the local authority
audit process and we believe there is a real risk of it increasing,
especially if auditors are perceived not to be independent of
the body being audited. A clear and impartial way of addressing
these issues is needed to avoid increasing the cost and reducing
the effectiveness of dealing with such "challenge" matters.
A key feature of public reporting is the ability
of the auditor to report "in the public interest". Such
Public Interest Reports typically relate to instances of high
profile and significant failings of probity, governance or local
value for money and therefore require the wider scope of public
audit to be fully effective.
We welcome the proposal to retain public interest
reports, which is a strength of the local authority audit regime.
Such reporting needs to be supported with a framework to protect
the position of the auditor. Auditors are currently supported
by the regulatory regime and benefit from the reduced exposure
to litigation risk that the regime ensures. As such, auditors
are confident to report "without fear or favour" in
public, ensuring that audit reports have the maximum impact in
driving local action and improvement. Such a framework also protects
the position of the local authority to ensure matters of public
interest and local elector complaints are dealt with appropriately
and proportionately.
In summary,
we support the principle of public reporting and the contribution
it has to make to the oversight and success of the localism agenda.
A framework is required to protect the position of the auditor
(and local authority) and to ensure auditors are confident to
report "without fear or favour" in public. There should
be an independent regulator in this area, to whom local electors
can turn if they are not satisfied that an auditor has dealt appropriately
with their concern or complaint.
Independence of auditors
The arguments in favour
of the wider scope and public reporting in turn support the third
principle of public audit, which is independence.
In carrying out their
functions auditors must be able to be critical where appropriate,
without being fettered in any way, for example, by the threat
of having their audit appointment terminated. Equally auditors
should not be influenced by financial considerations, such as
the possibility of loss of fees from provision of non-audit services.
We believe it is important
that the Select Committee considers the question of independence
of local authority auditors in the context of the wider debate
currently taking place in the private sector. In particular, the
Committee should consider the extent to which the private sector
model is indeed a model of best practice or whether lessons can
be learned in the private sector from application of the public
sector model.
Local government is fundamentally different from
the private sector. Risks to auditor independence arise primarily
from the wider scope of the audit which does not apply in the
private sector and auditors need to report critically in public
when needed, in a way that private sector auditors do not report.
The Committee should also consider the rationale
for potentially having different arrangements across different
parts of the public sector. Local government is different to other
parts of the public sector that have local choice of auditor in
that:
— the political nature of
local government is unique;
— local taxpayers have no
choice but to pay for local services; and
— other
parts of the public sector, such as further and higher education
institutions, are subject to some form of regulation in the shape
of specific regulatory bodies in a way that local government is
not.
Given the unique nature of local authorities, the
issue of auditor independence is, in our view, the area in which
it is most challenging to strike the right balance between the
need for independent assurance for the local taxpayer and other
stakeholders, and the benefits to the organisation of local choice.
One way to ensure independence is for the auditor
to be appointed independently of the local authority. Specific
benefits to local government of this approach are that:
— it provides local taxpayers
with maximum assurance regarding independence, through the independent
appointment and management of rotation;
— it ensures maximum independence
to the auditor, especially as regards the wider scope of public
reporting; and
— it
affords local councillors and officers maximum protection against
unjust challenge and complaint from local taxpayers, by having
the safeguard/defence of an independently appointed auditor.
The disadvantages of an independently appointed auditor
are that:
— it may appear that auditors
are being directed by other parties, such as central government
— there may be an apparent
(but perhaps not real) conflict with the objective of localism
or local choice and accountability.
The alternative approach is local choice in the appointment
of the auditor. The advantages are that:
— the
local authority has greater influence over the audit service it
wants
— there
are also perceived/potential benefits of being able to drive down
cost and increase quality (considered in the next section).
The disadvantages of this arrangement are that:
— it may lead to an increase
in local elector complaints or accusations, against both councillors
and local auditors, that the auditor is not independent;
— it would require additional
safeguards to be put in place, such as significant strengthening
of local authority Audit Committees, and mandatory NED appointments
which may not be welcome locally and in practice may be difficult
to deliver; and
— it
would require safeguards around the provision of non-audit services.
As a minimum Ethical Standard five would need to be expanded to
cover the wider scope of the audit. A simple and effective option
would be to ban provision of non-audit services. Given the relative
inexperience of many local authority Audit Committees, and the
wider scope of audit, we would support clear regulation within
prescribed limits, monitored by a regulator, and subject to public
reporting and disclosure in the accounts.
Overall, we believe that that the most effective
balance between independent appointment (the "independence"
argument) and local choice of auditor (the "local focus"
argument) is for there to be an independent appointments body,
but with local authority representation. We believe this gives
the "best of both worlds"—in terms of maximising
independence whilst ensuring greater local authority involvement
generally in the appointment process. Local focus could be further
enhanced if the appointments body operated regionally, to give
focus to specific regional issues, for example London, and with
variation in local authority representation according to the region.
Additional benefits to local authorities are that
such an arrangement is likely to:
— be more efficient and effective
than local authorities procuring audit services individually;
— deliver the best outcome
for local government as a whole, in that it would ensure all authorities
have an appointed auditor, irrespective of their location or how
attractive they are as a potential client;
— avoid the need to put in
place local safeguards, such as mandatory NED appointments to
Audit Committees;
— lead to a more robust outcome,
given that local authorities have no current experience in procuring
audit services and would be unlikely to become sophisticated procurers
given the infrequency with which services will be procured (say,
every five years);
— ensure deep sector knowledge
is retained, which we believe is critical to responding appropriately
to local risk, dealing effectively with the wider scope and public
reporting duties, and delivering overall quality; and
— maintain
competition and choice.
We also believe that an appointments body is the
most effective way to drive cost improvement and maintain sector
specialisation and quality, for example, through volume contracts
and reduced procurement costs (cost and quality are considered
further in the next section).
In summary, we believe
independence of auditors has added importance in the context of
local government and support an independent appointments body,
with local authority representation to ensure greater involvement
of local government, nationally or regionally, in the appointment
process.
OTHER KEY
CONSIDERATIONS : COST
& QUALITY
Cost
In considering the audit of local authority expenditure,
an important consideration of local authorities will be the extent
to which local choice in the appointment of auditor will be effective
in reducing the cost of audit.
The current arrangements for the cost of audit are
not transparent because:
— fee reductions secured
by the Audit Commission through existing contract negotiations
have not historically been passed on to local authorities;
— fees paid by local authorities
cover both the cost of the audit and a contribution to the central
cost of the Commission, currently around 25% to 30% of the fee;
and
— there
is some confusion between audit and inspection fees.
The Audit Commission has demonstrated that it has
reduced the cost of audit by use of framework contracts and bulk
purchasing power. We understand that the Commission's procurement
exercise in 2006-07 secured savings of £30 million over five
years and renegotiation of those contracts in 2010 secured an
additional £11 million savings to 2016-17. The Commission
was able to secure such significant savings because of the volumes
of work on offer, the length of contract and the relatively low
bidding costs of firms.
One of the benefits of a national or regional procurement
process is that it allows for standardisation of audit fees across
audits of different types of local authorities. Whilst our expectation
is that audit fees may fall in areas such as London as a result
of local choice, they may well rise in less densely populated
areas, or for specific types of local government body. The Audit
Commission's tender for audits in Cornwall and Cumbria suggests
that this is a real risk.
Another benefit is that any organisation undertaking
regular procurements of audit is likely to become a more sophisticated
procurer, which will provide value to constituent local authorities
and be less disruptive and costly.
In practice we believe that procurement through an
independent appointments body, with associated regulation of provision
of non-audit services, will be the most effective way to reduce
the overall cost of audit to local authorities in the long term.
An important principle going forward should be that procurement
savings should be passed on to local government.
Our view is that the relationship between competition
in the audit market, and the cost of local authority audit, is
more complex than has been commented on to date, that the market
left to itself may not provide the optimum solution, for example
in terms of the number of suppliers, and that some degree of regulation
is required.
In summary, we
believe that the most effective way to reduce the cost of local
authority audit and increase choice is through a form of independent
appointments body and some regulation of the market
Quality
The cost of audit needs to be balanced against quality
Whilst the precise balance between the two is properly a matter
for the procurement process, our view is that there are some overarching
aspects to the delivery of quality audit in the local government
sector.
Those overarching aspects include:
— publication of a Code of
Practice to cover the wider scope of audit. This needs to be accompanied
by associated guidance and appropriate mechanisms for discussion
of sector related issues to ensure consistency of audit treatment
across local government, which in our experience is important
to local authorities;
— ensuring only appropriately
skilled auditors are eligible for appointment and that those skills
are maintained over time. The wider scope of audit, public reporting
and the relationship with local electors distinguish local authority
audit from the audit of listed or private limited companies, and
other public sector bodies. The skills and knowledge required
by the auditor are necessarily different and much broader than
skills required to audit financial statements. As a result, audit
suppliers use highly specialised and experienced teams to deliver
the audit of local authorities. We believe that specialisation
is key to understanding the risks facing principal and non-principal
local government bodies and delivering an effective and robust
audit, and any new regime should not dilute this specialisation;
— monitoring quality across
the wider scope of audit. Any new audit regime must include an
effective system of quality assurance that encompasses the wider
scope of audit (as set out in the Code of Audit Practice) and
will, therefore, require a degree of quality assurance beyond
that delivered by the AIU or QAD, which principally focus on financial
statements audit quality;
— having a mechanism in place
to deal effectively with local elector complaints; and
— making
quality monitoring information available to those making procurement
decisions.
These functions could be achieved through extending
the remit of a number of existing bodies. That may have some advantages
in terms of streamlining functions and reducing duplication across
agencies, although there is a risk it will lead to complexity
and potential ambiguity for auditors, local taxpayers and those
procuring audits.
We see merit in those functions residing in one body
which can then make all information accessible to those making
procurement decisions.
In summary, effective local authority audit
requires sector specialisation and a broad skill set. Quality
monitoring arrangements, covering the wider scope of audit and
elector complaints, are a necessary feature of any future local
public audit model, and are best provided by one body to provide
clarity to auditors, local electors and those responsible for
procurement of audit services.
March 2011
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