Response to the report of the Independent Review of Local Authority Financial Reporting and External Audit in England (the “Redmond Review”)

Rt Hon Robert Jenrick MP,

Secretary of State for Housing Communities and Local Government

Ministry of Housing Communities and Local Government

Marsham Street

London

SW1P 4DF

9 November 2020

Dear Mr Jenrick,

Report of the Independent Review of Local Authority Financial Reporting and External Audit in England (the “Redmond Review”): Response from the Local Government Association

I am writing to you in my role as Chair of the Local Government Association’s Resources Board. The Local Government Association has been considering the Sir Tony Redmond’s report that was published in September and would like to respond to it and make some suggestions for a way forward. The content of this response was discussed and agreed by the LGA’s Executive Advisory Board on 22 October.

Local government is one of the best regulated and most transparent parts of the public sector in this country. As democratically elected bodies, councils understand the need for good governance, of doing the right things at the right time and to be seen to be spending public money well and wisely. The system is a complex web of checks and balances, ensuring that decisions are made in public by default and the outcomes of those decisions are also made plain. Despite escalating pressures, examples of councils failing in their responsibilities remain rare. Councils are complex organisations, and the LGA together with the sector is committed to ensuring that the way public money is spent, and local decisions are made is as clear and relevant to local residents as possible. External audit is an important part of this system.

In our response to the call for views we identified that while the basic external audit arrangements are still relevant and appropriate, there is a need for some changes. We pointed out that there is evidence that current arrangements are not working as well as they should, but that there are conflicting views about what is going wrong and why and what should be done. In our opinion the main issue is the robustness of the audit market. In particular, there are too few firms engaged in the market and too few suitably qualified auditors employed by firms. These problems have been shown by the delays in finalising audited accounts which have been due to a shortage of suitably qualified senior staff. In addition, many councils have reported that the lack of skills and knowledge of staff undertaking audits impact on the time of council staff supporting the audit process. This is a complex and difficult problem which we do not believe will be resolved by the measures in the Redmond report, as outlined below. In particular, we think that the proposal to create a new regulatory body is not the right answer and it will require a lot more work across a whole range of bodies and stakeholders to resolve, not least the audit firms and the audit profession itself. It would not be within the power of the proposed new body to resolve this.

The case against the proposed new body is a strong one. 

Bringing together auditor procurement and audit regulation in one body will create problems. This combination of functions does not occur in other industry regulating bodies. There could be a conflict of interest, for example, if auditors defend poor performance by criticising the contract. Procurement and contract management remain crucial, but this is separate from regulation and should be carried out by a separate body.

The Redmond report raises the issue of the current prices in the audit contract. It is worth reflecting that these are the prices that the market produced, again reflecting that the solution is not simple. To some extent the current pressure on prices arises from changes that have arisen since the contract award- new standards of quality for example imposed after several company failures in the private sector. If changes to regulation result in applications from audit firms to vary contracts, then the responsibility for the change occurring needs to be clear and is an additional cost on councils.

Sir Tony’s recommendation that audit fees should be increased because the audit firms’ margins have reduced cuts across the contracting process and could raise legal challenges by firms that weren’t awarded contracts at the time of the original procurement exercise. Should the recommendation to raise fees be followed, or changes in regulation lead to higher costs of audit, councils will need to be recompensed through the new burdens process.

Since the 2014 Act only came fully into effect in 2019 (when the current round of audit contracts started), in our view it is too early to be contemplating major change. Under the current arrangements Councils are given the opportunity to opt into the Public Sector Audit and Appointments (PSAA) procurement arrangements and 98% of them have done so. The principle of local choice is something that the government invested a lot of time and effort into when introducing the current system and it is one that we continue to support.   If procurement were moved to a centralised regulatory body, it could centralise the function under Government control with no sense that councils can opt in or out and retain local control.

PSAA has undertaken a wider role than just audit procurement. It has carried out improvement related activity to support councils and audit committee members in developing skills in managing local relationships with auditors, for example through initiatives such as the Local Audit Quality Forum. This work would be hard to reconcile with a regulator’s remit and would likely be lost if PSAA were subsumed within a regulatory body.

Financial resilience is a major issue for councils made much more acute by the advent of COVID19, and Sir Tony recognises this, but we do have concerns over the recommendations on auditor reporting of financial resilience. The main factor affecting financial resilience is about government funding not keeping pace with the growing financial pressures on councils, not lack of control. The response to resilience should not be about auditors anticipating local democratic decision-making (for example by extrapolating from past decisions about use of reserves) or heaping controls on top of controls (for example by requiring  auditors to  sign off the Chief Finance Officer’s sign off of the budget). 

We believe that auditors have enough powers to exercise their responsibilities and provide assurance to local residents and other stakeholders.  What is needed is more capacity in the market to enable these powers to be exercised. 

There are many of Sir Tony’s other recommendations that we do agree with.  Changes to the timetable for the completion of audits would be welcome, as it has been shown that over-tightening the deadlines too much has simply put too much pressure on auditors and council finance staff at a time when capacity is lacking.  We see the benefits of introducing more independent expertise onto audit committees, while preserving the important role of elected members as those responsible for governance.  We welcome the proposal for an MHCLG stakeholder group and we welcome proposals to simplify the form of accounts, which have become complex to the point where even local government insiders often find them impenetrable.   

We also think that the local audit market for local government cannot be considered in isolation from the local audit market for health as local NHS audit is currently undertaken by the same audit teams as local authority audit, so a solution for one affects the other. We understand that consideration of health was beyond Sir Tony’s remit, but the answer has to consider both. We welcome Sir Tony’s call for coordination between MHCLG and DHSC.

We propose the following as a way ahead.

1. The current procurement arrangements with PSAA should be given more time to bed in before any (externally imposed) changes are considered. 2019 is effectively the first year that the new arrangements have operated in full. There is scope for PSAA to strengthen its current role and opportunities to improve the current arrangements without the need for merging procurement and regulation in a new body, and we will press for this to happen. For example, PSAA is reviewing the fee variation process and aims to publish proposals for consultation soon.
2. As recommended by Redmond, a Liaison Committee should be established comprising key stakeholders and chaired by MHCLG. This should be as outlined in the LGA’s original submission to the review.
3. Market fragmentation should be reduced by incorporating the audit of local NHS (which was not included in Redmond’s terms of reference) within current local procurement arrangements and adding other public bodies as well. This would help build market capacity by taking advantage of the synergy created by the two audit processes being carried out by the same firms.  
4. Promote Redmond’s call for coordination between MHCLG and DHSC.
5. The deadline for completion of audits should be moved back to 30 September, as recommended by Redmond.
6. Any increase in audit fees following the recommendation by Redmond should be funded through the new burdens process.
7. Proposals on simpler more transparent forms of accounts should be pursued, while ensuring that simplification does not create   extra work for councils and auditors.
8. Extend the use of independent members on Audit Committees while ensuring that committees remain member led, and that Full Council retains its role as having ultimate responsibility for governance

The above outlines a practical way forward that can be implemented quickly without the need for primary legislation. I would be happy to discuss these proposals further. If you require further details or clarification of our proposals please contact the LGA via [email protected].

Yours sincerely,

Cllr Richard Watts

Chair Resources Board