Essential Corporate News – Week ending May 13, 2016

Welcome to Essential Corporate News, our weekly news service covering the latest developments in the UK corporate world.

On May 11, 2016 the Department for Business, Innovation and Skills (BIS) published a summary of feedback and the Government’s response to its October 2015 consultation paper on the technical legislative implementation of the EU Audit Directive (2014/56/EU) (the Directive) and Regulation (537/2014) (the Regulation). The Directive amends the existing Directive 2006/43/EC on statutory audits and applies to all audits required by EU law. The Regulation only applies to the audits of Public Interest Entities (PIEs).

The Government’s response includes the following:

• A framework for mandatory rotation and retendering of audit engagements and significant new controls on the provision of non-audit services by statutory auditors to their audit clients is to be introduced.
• The definition of a PIE will be restricted to entities with securities admitted to trading on a regulated market, banks, building societies, and relevant insurers, so companies traded on AIM will fall outside the definition.
• All PIEs will be required to put their audit out to tender at least every 10 years and change their auditor at least every 20 years.
• The Directive requires all member states to identify a competent authority for the regulation of statutory audits. This will be the Financial Reporting Council (FRC) in the UK. The FRC will be required to delegate tasks as much as possible to Recognised Supervisory Bodies (RSBs). The FRC will continue to be the standard setting body for auditors, and will have to conduct audit inspections, investigations and disciplinary cases in relation to PIEs.

Additionally, BIS will apply the amended Directive framework to audits of Limited Liability Partnerships (LLPs) as this will continue the current approach of making LLPs subject to the same audit regulatory framework that applies to companies and other business entities. BIS notes that applying the updated framework to LLPs will not result in any significant additional costs, but will require amendments to LLP specific legislation. These changes will follow in due course since the Government’s priority is to implement the Directive on time and the deadline for that is June 17, 2016.

(BIS, Auditor Regulation: Consultation on the technical legislative implementation of the EU Audit Directive and Regulation - Summary of responses and Government response, 11.05.16)

On May 12, 2016 the Department for Business, Innovation and Skills (BIS) published the final draft of the Statutory Auditors and Third Country Auditors Regulations 2016, which were initially published in October 2015 with the BIS consultation paper on the technical legislative implementation of the EU Audit Directive (2014/56/EU) (the Directive) and Regulation (537/2014) (the Regulation). BIS has also published an explanatory memorandum, transposition note and impact assessment.

The Regulations differ significantly from the October 2015 draft, and, among other things:

• Specify that the competent authority responsible for the public oversight of statutory auditors and for carrying out the tasks provided for in the Regulation is the Financial Reporting Council (FRC). Additionally, the Regulations set out the FRC's responsibilities as competent authority, including as to monitoring and inspections, and its sanctioning powers.
• Provide detail on the more onerous standards that statutory audits must be held to, including in relation to professional ethics, independence, objectivity and confidentiality.
• Set out the FRC’s obligations in monitoring the conduct of statutory audit work that relates to Public Interest Entities (PIEs).
• Set out the system of monitoring of audits, sanctions and enforcement, with appropriate modifications, for the performance of third country audit functions.
• Give no effect to any term in a contract which restricts an audited person’s choice of statutory auditor to certain categories or lists of auditors, apart from in relation to audited persons who are PIEs.
• Set a limit for fees for non-audit services, over a three-year period, of 70% of an entity's audit fees.
• Apply the relevant provisions of the Directive and Regulation to auditors of Limited Liability Partnerships (LLPs).

The Regulations will be periodically reviewed by the Secretary of State, who must publish a report within five years after they come into force and within every five years thereafter. They will apply from June 17, 2016, if made on or before June 16, 2016, otherwise they will apply from the day after they are made.

(Draft Statutory Auditors and Third Country Auditors Regulations 2016, 12.05.16)

As part of the Anti-Corruption Summit held in London in May 2016, the Ministry of Justice has announced that it will consult on plans to extend the scope of the criminal offence of a corporate “failing to prevent” bribery on its behalf under the Bribery Act 2010 or failing to prevent the facilitation of tax evasion by its staff to other economic crimes.

The consultation will seek views and evidence to assess whether changes in the law could allow the courts to more effectively prosecute corporate economic crime. The consultation, to be published this summer, will explore whether the ‘failure to prevent’ model should be extended to complement existing legal and regulatory frameworks.

(Ministry of Justice, Press release: New plans to tackle corporate fraud, 12.05.16)

In May 2016, the Institute of Chartered Secretaries and Administrators (ICSA) published a joint report with Ernst & Young which considers the role of the nomination committee. The report notes that, while the nomination committee’s role may be less clearly defined than that of the audit committee, and its profile lower than that of the remuneration committee, it is arguably the most important of the three. It plays a pivotal role in appointing directors to the board and, if the board lacks the right balance, knowledge, skills and attributes, the likelihood of it and its committees operating effectively is greatly reduced.

ICSA and Ernst & Young sought to find out what happens in nomination committees and boardrooms through a series of roundtable discussions with board chairmen, nomination committee chairmen and members, and company secretaries from over 40 listed companies (predominantly from the FTSE 350) throughout February and March 2016. Many of the representatives said their companies were expanding the role of their nomination committee, as well as adopting a more professional approach to the recruitment and selection of candidates. The representatives were keen not only to share their experiences, but also to learn how others were addressing these issues and identify ideas that might be useful for their own committee.

The report considers the nomination committee’s role, its membership and its reporting in the annual report, and it sets out a number of points for boards and nomination committees to consider, including:

• What the appropriate role of the committee should be, e.g., whether the committee should look at executive talent if it does not already do so, and whether the board would benefit from combining the committee into a nomination and governance committee.
• Whether the following processes are clearly linked: the discussion of current board composition and future composition in light of the company’s strategy, the executive and senior talent succession planning and company strategy, the outcome of the board evaluation exercise and board succession plans, and the link between board evaluations and development and training plans.
• The existence of a two-pronged approach to identify succession plans in both emergency and steady-state situations.

The report then considers executive succession and the talent pipeline, as well as executive development and suggests points for the board and nomination committee to consider include:

• The extent to which nomination committee looks across the market and internally to identify four or five potential successors to the CEO.
• How deeply into the organisation the committee should be looking to identify future talent.
• The best way to develop the skills of future executive leaders in the business.

The report includes a section on the search for non-executive directors, looking at specific skill sets and personal attributes and then at preparation for future challenges, including linking longer-term strategy to succession plans and having open conversations.

The report concludes with a list of questions for boards and nomination committees to consider.

(ICSA/Ernst & Young, The Nomination Committee – Coming out of the Shadows, 05.16)