Will local audit bring diversity or a ‘Big Four’ monopoly?

30 Apr 12
The abolition of the Audit Commission will eventually lead to councils appointing their own auditors. Richard Johnstone looks at the lessons for audit from foundation trusts and academy schools
By Richard Johnstone | 30 April 2012

The abolition of the Audit Commission will eventually lead to councils appointing their own auditors. PF looks at the lessons for audit from foundation trusts and academy schools


In October, four private firms will take over the work of the Audit Commission’s in-house audit practice for the next five years. This outsourcing marks the end of local authorities being held to account by district auditors, a system that has been in place since 1844.

But these contracts mark only one step on the road to the future of local public audit, not the final destination. Before the end of May, legislation will be published to formalise the abolition of the Audit Commission and prepare the ground for the government’s main reform: giving local authorities a duty to appoint their own auditors on the advice of an independent auditor appointment panel.

Ministers say the move will give responsibility and freedom to councils. Communities Secretary Eric Pickles said last year it would help ‘local people hold councils to account’. He wants the power implemented once the new contracts come to an end.

Councils would not be the first public sector bodies to appoint their own auditors. Reforms introduced by the last Labour government extended the power to both NHS foundation trusts and academy schools. So what lessons can be taken from these other sectors?

The first foundation trust was approved in April 2004, and now as many as 141 trusts appoint auditors for their accounts, which are submitted to government. Foundation trust regulator Monitor publishes a code that trusts must abide by when appointing auditors.

Andrew Geldard, chief executive of the North Essex Partnership NHS Foundation Trust and a member of the Healthcare Financial Management Association’s governance and audit committee, says the move to self-appointed auditors has been positive.

Before becoming chief executive Geldard was a finance director. He says that, looking back, it felt as if the auditors were appointed to the foundation trust. And it wasn’t clear whether the Department of Health or the Audit Commission or the trust was the client.

‘The relationship between us, the board and external audit is on a different track now, and [audit] is viewed as a device to do things.’

Geldard adds that he doesn’t feel any accountability has been lost by letting hospital governors make the appointment.

‘We are working in a looser system in this sector and the audit change does go well with that. The NHS is becoming a varied place and I’m not particularly interested in the organisation next door.’

He highlights the immediate 30% reduction in audit fees that his trust enjoyed once it gained foundation status.

Despite the good experience reported in North Essex, it has been argued that the number of audit firms involved in the foundation trust sector has decreased.

Audit Commission chair Michael O’Higgins told the Commons communities and local government committee last March that the number of firms carrying out foundation trust audits had fallen from six to just three.

The ‘barriers to entry into the local audit market are underestimated’, he said.

‘The local authority audit is very complex, perhaps an unnecessarily complex issue… and there are not many firms that would be able to enter that market.’

Indeed it’s possible to question how successful the recent outsourcing process was in opening up the local authority audit market ahead of self-appointment. Only two new firms – Ernst & Young and Mazars – won audit contracts, taking the total number of firms doing principal local authority audits to seven, including all of the ‘Big Four’. More firms are involved in the audit market at town and parish council level.

O’Higgins’ fear is shared by Keith Ward, audit director at chartered accountants Baker Tilly. The firm is among those that have lost their foundation trust audit contracts.

Ward says that in the NHS, tough entry rules have contributed to a reduction in the number of firms in the market. The main cause is that firms bidding for foundation trust work have to demonstrate an ability to audit health bodies in particular. Specifically, Monitor’s audit code states: ‘The auditor must have an established and demonstrable standing within the health care sector and be able to show a high level of experience and expertise... the work is of a specialised nature, and so general audit experience is not sufficient’.

Ward says it is ‘hard to do this without auditing one. It’s been a closed shop for other firms to enter.’

He suggests that to avoid a similar fate in local government, an ‘understanding’ could be reached with auditors, rather than imposing exact conditions. For example, experience of auditing a council’s arm’s-length management organisation could be accepted as proof of ability to do an authority-wide audit.

Smaller firms such as Baker Tilly also fear they could be shut out if ministers allow councils to pool contracts. ‘If the Greater Manchester authorities were to procure together, that would be about £3m – £4m of fees in one go. Firms outside the Big Four would essentially be excluded from that,’ Ward says.

‘From a local authority point of view, we can see why they would want to do a joint procurement. But that would reduce access, and that won’t help to reduce price,’ he adds.

However, in the academies sector, where the regulations are less strict and are based on the Companies Act, there has been an increase in the number of firms available to schools.

Sarah Morrison, a partner at Littlejohn chartered accountants, which undertakes academy audits, says that schools face audit fees of between £7,000 and £13,000.

She told Public Finance that there was ‘downward pressure’ on these costs, with increasing numbers of auditors, often smaller firms that have charity or other education contracts, competing.

‘It’s fairly early days – there are many more schools planning to go for academy status and there are many more firms in the market all the time,’ Morrison says.

The Department for Education requires audited financial statements by December each year, and although the schools have the powers to appoint auditors themselves, the process itself is ‘pretty prescriptive’, she adds.
There are currently 1,776  academy schools  and the figure is rising. The governors have most likely not had any audit role before.

Morrison highlights this lack of experience as the sector’s main lesson: to ensure that the people selecting an auditor know what it is they are agreeing to if they have not been involved in such deals before. ‘In cases where people haven’t had responsibility for appointing auditors before, it is key that they need to know what they’re getting. It’s an audit, and not accounting. This needs to be clear,’ says Morrison.

This lesson could equally apply to those on councils’ audit appointment panels, who might have limited experience of financial governance issues.

CIPFA’s Audit Conference 2012: ‘Audit in an era of change’ takes place in Nottingham, May 23 – 24

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