Written by Hywel Ball, head of UK audit at EY
IT’S fair to say that the ascendency of the audit committee has reached new heights. Indeed, not since its role was extolled by the Cadbury Committee in 1992 has so much attention been paid to it. This is due in large measure to recent EU audit reforms which have given added recognition to the importance of the committee, with a corresponding increase in the regulatory requirements placed upon it. This, in turn, has drawn more attention to what it could and should do for those to whom it is ultimately accountable i.e., the shareholder.
Perhaps ironically it is the UK’s imminent exit from the EU that may now put the audit committee to the ultimate test. This is particularly relevant to the committee’s task of reviewing the company’s internal financial controls, and managing and monitoring financial risks. These risks and the extent to which they are mitigated by management, need the utmost vigilance and scrutiny of committee members.
Front and centre of each audit committee member’s agenda should be going concern and viability, as the management of their respective companies forecast future cash flows in the run-up to Brexit. Committee members will need to challenge the validity of these forecasts and working capital assumptions.
Likewise, if the company has to increase its borrowing, committee members need to monitor how management factor in a potential increase in exchange rate volatility and a rise in the cost of borrowing. If refinancing is required, the members should also concern themselves with when and how management plan to find new capital and/or debt at the right time and on the best terms. The members should also be interested in the reliability of existing loans, especially if asset values drop below levels required in loan facility covenants.
The full implications of Brexit are unclear at this stage, yet there will inevitably be challenges and risks to navigate as well as opportunities. It is vital therefore that the risk control environment should feature highly in the collective conscience of the committee. Any potential restrictions to the movement of free labour for example may also require companies to give careful consideration to how their risk management apparatus should be resourced and operated.
Whilst grappling with financial risks and controls, committees also need to ensure they remain satisfied with the company’s financial report and accounts as a whole. The hot spots, pre and post Brexit, should include hedge accounting, fair value and impairment (financial and non-financial). More broadly, many committees are now approached by their boards to offer a view on whether the report and accounts are Fair, Balanced and Understandable (FBU). This applies to issues which might not be reported very clearly, or not reported at all (e.g., the omission of certain principal risks and/or uncertainties related to Brexit). The committee has a duty to report on this, and similarly the auditor is obliged to report by exception if its findings are at odds with what the committee and board are saying in regards to FBU.
Finally, and in-keeping with its namesake, the audit committee has the task of undertaking new requirements on managing the appointment (or reappointment) of the external auditor, and approving and monitoring permissible non-audit services provided by the auditor to the company worldwide. The composition of the committee has to change as well. Specifically, the committee as a whole shall have competence relevant to the sector in which the company operates, the majority of members must be independent of the company, and at least on member must have competence in accounting and/or auditing. Early indications suggest that all of these requirements will stay in place after Britain leaves the EU.
So there are two things that audit committee members can be reasonably certain of, especially those whose UK companies are affected by the EU audit reforms. Firstly, new requirements on their composition and role look here to stay. Secondly, UK committees will continue to play a vital role as companies seek to manage the risks and maximise the opportunities that will be created by Brexit.