What’s Going on with UK Corporate Governance and Audit Reform?

In Summary: Despite media reports that primary legislation required to enact the Government’s proposed reforms to UK Audit and Corporate Governance will be delayed, several other mechanisms for implementing the reforms are already underway. Consequently, businesses should continue preparing for compliance.

• Secondary legislation on corporate reporting revisions, including resilience statements, anti-fraud measures and audit and assurance policies, is already before parliament. If approved this will apply from 1 January 2025.
• The consultation on revisions to the UK corporate governance code, which will introduce greater scrutiny of internal controls and requirements for non-financial reporting, is in progress. The revised code, if approved, will be implemented from 1 January 2025.

The UK Government won’t introduce audit reform bill in the next parliamentary session

Businesses and markets like certainty, and certainty is something there has been very little of in recent years. In its absence, companies need to ensure that their governance and reporting is sufficiently effective to guide robust decision-making in turbulent times. Compliance with the Companies Act 2006 and UK Corporate Governance Code are key mechanisms for achieving this. But, when the code itself is undergoing revision, coupled with a significant programme of audit reform which is now facing delays, it might feel as though all bets are off.

That is the scenario we face right now, as media reports suggest that the long-awaited primary legislation that will launch the major reforms is likely to be delayed. This has prompted industry heavyweights, including the Chartered Institute of Internal Auditors’ Chief Executive Anne Kiem, to respond, criticising the government for failing to deliver its commitment to reform.

The primary legislation that would have seen the Financial Reporting Council (FRC) replaced by the Audit, Reporting and Governance Authority (ARGA) and granted new oversight and enforcement powers appears to be on hold for the time being, but that doesn’t mean that significant changes to audit and governance obligations are not still on the horizon. 

The Government’s response to the White Paper ‘Restoring trust in Audit and Corporate Governance’, published May 2022, refers to the delivery of reforms by a “variety of mechanisms”, and some of those mechanisms are already at an advanced stage. This means businesses should continue preparations to comply with several key changes to audit and corporate governance code requirements.

Secondary legislation on revisions to corporate reporting has been laid before Parliament 

Part of the ambition of the reforms is to better inform stakeholders on the resilience of large public interest entities, and this will be delivered via secondary legislation in the form of amendments to the Companies Act 2006. The draft Companies (Strategic Report and Directors’ Report) (Amendment) Regulations were laid before Parliament on 19 July 2023. These regulations include four new reporting measures requiring in-scope companies (those with at least 750 employees and an annual turnover of £750m or more) to report on:

• Resilience: Explain how they are identifying, managing and mitigating principal risks and building or maintaining resilience. The internal governance processes in place to manage these risks.
• Dividend payment arrangements: Demonstrate that they have enough realised profits to pay any dividend (or make any other distribution of profit), and explain the company’s approach to making dividends and other profit distributions over the short and medium term.
• Anti-fraud measures: Describe the actions taken by the directors to prevent or detect major fraud.
• Audit and assurance policy: Explain how the company assures the quality and reliability of its corporate reporting.

If these amendments pass readings in the House of Commons and House of Lords, they will come into effect from 1 January 2025.

The UK Corporate Governance Code revision consultation is under way

The FRC launched its formal consultation on proposed changes to the UK Corporate Governance Code in May this year. Some, but not all, of these changes relate to the parallel amendments to the Companies Act 2006 and the proposed (but now potentially delayed) primary legislation. In the FRC’s own words, the changes include:

• Setting out a revised framework of prudent and effective controls to provide a stronger basis for reporting on, and evidencing their effectiveness.
• Improving the functioning of comply-or-explain, taking account of recently published FRC research and reports.
• Making necessary revisions to reflect the responsibilities of the board and audit committee for sustainability and ESG reporting, and associated assurance in accordance with a company's audit and assurance policy.
• Updating the Code to ensure that it aligns with changes to legal and regulatory requirements as set out in the Government's response to the White Paper, including strengthening reporting on malus and clawback arrangements.

Source: frc.org.uk – Corporate Governance Code Consultation

The consultation closes on 16th September 2023 and, if implemented, the new code will come into effect from 1 January 2025. All these proposals will affect how boards and governance teams undertake corporate reporting and, as such, companies should continue preparing for their implementation.

Fundamentally, the problems that UK Corporate Governance and Audit Reform set out to address should still be priorities for any responsible businesses in today’s environment. Building trust in UK businesses is an important pillar of success and beneficial for all stakeholders in the UK economy.

Political pressures may be preventing the timely introduction of primary legislation, but there is a good sense of momentum across other parts of the business and regulatory spectrum, and we should aim to harness this to move forward with reforms where possible.