More PIEs in the ARGA

On 31 May 2022, the UK government published its response to its consultation on substantial proposed changes to the UK's audit, corporate reporting and corporate governance regimes.

The government has said that it is "looking to strengthen aspects of audit and corporate governance in ways that balance the benefits of high standards with the costs of introducing and maintaining them." As a result, it has looked sympathetically at consultation responses that propose lighter-touch ways of achieving the White Paper's aims and is proposing to implement the changes through primary legislation, secondary legislation, changes to the UK Corporate Governance Code (Code), and amendments to codes of practice and guidance.

Whilst many of the government's changes are welcome, including raising the level at which private companies are caught, these proposals still represent substantive changes for those companies (and their directors) and limited liability partnerships (LLPs) that fall within the regime. 

Key proposals include:

• Companies in scope: the changes will apply to current public interest entities (ie those entities with publicly listed securities in the UK, credit institutions or insurance undertakings) but the following will also become public interest entities:

• large private companies with 750 or more employees and an annual turnover of £750 million or more (size threshold)
• companies traded on AIM or other multilateral trading facilities if they meet the size threshold; and
• LLPs that meet the size threshold.

(All such companies and LLPs referred to as 'PIEs' and ones that meet the size threshold as 'Relevant PIEs').

• Internal controls and fraud measures: FRC to amend the Code to require an explicit statement about the effectiveness of a company's internal controls and the basis for that assessment.

• Dividends: the new regulator (see below) to issue guidance on what should be treated as "realised" profits and losses for the purposes of determining distributable reserves. Relevant PIEs (both listed and unlisted) will have to:

  • disclose their distributable reserves (or a "not less than" figure if determining an exact figure would be impracticable or involve disproportionate effort)
  • explain the board's long-term approach to the amount and timing of returns to shareholders (including dividends, share buybacks and other capital distributions) and how this distribution policy has been applied in the reporting year
  • get their directors to make an explicit statement confirming the legality of proposed dividends and any dividends paid within the year.

• Fraud prevention: directors of Relevant PIEs will have to report on the steps they have taken to prevent and detect fraud.

• Annual Resilience Statement: a new statutory resilience statement for Relevant PIEs (both listed and unlisted), reporting on matters they consider are a material challenge to resilience over the short and medium term.

• Audit and Assurance Policy: a new statutory three yearly Audit and Assurance Policy for Relevant PIEs (both listed and unlisted) describing the directors' approach to seeking internal and external assurance of the information that they report to shareholders.

• New regulator: the Audit Reporting and Governance Authority (ARGA) will replace the FRC and will oversee the accounting and actuarial professions, have a stronger role in auditor registration, and have new powers to tackle breaches of company directors' duties relating to corporate reporting and audit.  

• Company directors: as noted above, ARGA will have additional powers to enforce directors' statutory duties relating to corporate reporting and audit. The FRC will be invited to consult on amending the existing malus (withholding of directors' remuneration) and clawback (recovery of directors' remuneration) provisions in the Code to provide greater transparency and to encourage a broader range of conditions in which executive remuneration could be withheld or recovered.

• Audit committees and shareholder engagement: ARGA will set new minimum requirements for audit committees of FTSE 350 companies relating to the appointment and oversight of auditors and monitor compliance with those requirements but will not be able to appoint an observer to the audit committee as originally proposed. The government is also taking forward a series of proposals to empower shareholders to engage more effectively with audits and audit quality.

• Audit firms: UK-incorporated FTSE 350 companies will have to appoint a challenger firm as sole group auditor or, alternatively, appoint a challenger firm to conduct a meaningful proportion of its subsidiaries' audits within a shared audit. This 'managed shared audit' requirement will be introduced in phases.