Overview of the year
PSAA is the appointing person for audit services for principal local government, fire and police bodies. It was originally specified as such by the Secretary of State in July 2016 and reaffirmed in May 2021. It operates in accordance with the provisions of the Local Audit and Accountability Act 2014 (the Act) and the Local Audit (Appointing Person) Regulations 2015 (the Regulations).
PSAA is responsible for appointing auditors and setting scales of fees for eligible bodies that have chosen to opt into its national scheme, overseeing issues of auditor independence and administering and monitoring compliance with the contracts awarded to suppliers to carry out local audits.
During this financial year, audits in respect of 2021/22 were expected to be performed at 474 opted-in bodies (98% of eligible bodies). However, due to a high proportion of earlier years‘ audits being delayed, the reality was that auditors were still working on the backlog of outstanding opinions. Disappointingly, 88% of 2021/22 audits were not concluded by the target date of 30 November 2022, adding to the backlog and underscoring serious concerns about the impact on local public accountability and good governance and financial management.
Audit services procurement
2022/23 was a particularly significant year because PSAA undertook a major procurement of audit services for opted-in bodies for the second appointing period, which covers the audits of the financial years spanning 2023/24 to 2027/28. Work on the procurement started in 2021/22 with consultation with eligible bodies, suppliers and wider stakeholders leading to the development of a Scheme Prospectus and Procurement Strategy. The procurement concluded at the end of September 2022 with the award of the new contracts. From the outset the procurement met a huge challenge to secure sufficient capacity for all the bodies that opted into our scheme.
This significant programme of work undertaken included:
- completion of two concurrent procurement processes. A main procurement to let contracts with audit firms for audit services for opted-in bodies for the period covering 2023/24 to 2027/28 secured 96.5% of the required capacity. The second established a Dynamic Purchasing System (DPS) for use, as necessary, for the next eight years;
- a rapid supplementary procurement in August-September 2022 to seek to secure the remaining capacity not secured in the first round; and
- consultation with opted-in bodies and successful firms on proposed auditor appointments. The PSAA Board approved the appointments in December 2022.
Over 99 % of eligible local government, fire and police bodies in England decided to opt into the scheme from April 2023. Only 5 eligible local bodies decided to make local arrangements for their auditor appointment.
The procurement took place against a challenging backcloth of a troubled audit profession, a turbulent market and a local audit system facing unprecedented difficulties including large volumes of delayed audit opinions. Only ten audit suppliers were registered to undertake local audits in England, three of which opted not to take part in this procurement. At the time of writing, there are now only nine registered audit suppliers.
Following a protracted competitive process reflecting the limited capacity available in the market, contracts were secured with six audit suppliers representing 99.5% of the audit work detailed in the tender. The services of three existing suppliers were retained (providing 78.5% of the required capacity), one former supplier returned to the market (14%) and two new suppliers were attracted to enter the market for the first time (6%). Local government reorganisation from April 2023 means that this level of capacity is sufficient.
Average bid prices reflected a significant increase compared to rates secured in the previous procurement in 2017. The audit industry has faced major challenges in the intervening period. In addition, local audit faces several distinctive difficulties which have resulted in a less competitive market. We will consult on the proposed scale of audit fees payable by opted-in bodies in respect of the audit of 2023/24 accounts in the autumn of 2023. Bodies have been informed that a major re-set of fees for 2023/24 is expected involving an increase of the order of 150% on the overall fees for 2022/23. The extent of this anticipated increase will pose a significant funding challenge for local bodies already facing a daunting range of financial pressures.
Having awarded new contracts, we developed proposals for auditor appointments to each opted-in body. The need to ensure auditor independence in relation to each individual appointment meant this was a challenging process. All bar one appointment were made on a timely basis with the support of bodies and the cooperation of the firms. The process further evidenced the resource challenges that local audit faces and that firms are wary about committing to work which they may be unable to deliver.
The results of the procurement and appointment processes will help to maintain the system for the next five years, recognising that robust audit is particularly vital in a period which is likely to continue to be challenging for local public services. It will also provide time for critical local audit system changes to be developed and implemented under the direction of new system leader arrangements.
The challenging local audit market landscape
Following a number of high-profile corporate failures in the private sector, the government commissioned a series of reviews in 2017-18 into different aspects of audit, led by Sir John Kingman, the Competition and Markets Authority (CMA) and Sir Donald Brydon. A number of reforms have followed from the resulting reports, but others – particularly the establishment of the proposed Audit, Reporting and Governance Authority – are awaited pending relevant legislation.
The Kingman Review into the regulation of audit has already led to significant changes in regulatory requirements. As a result, auditors are carrying out more work and exercising greater scepticism and, in turn, audits require increased resources and a different mix of skills. While Kingman’s primary focus was on large, listed companies, the impact of his review has had major implications for the conduct of local audits.
The resulting changes were not envisaged when audit firms submitted tenders to PSAA during the 2017 procurement and the enhanced requirements have led to a significant increase in the volume and scale of claims for fee variations in respect of necessary additional audit work. This has also created significant additional work for PSAA.
Review of Local Authority Financial Reporting and Audit
The local audit system has also been the subject of a review, commissioned by the then Ministry for Housing, Communities and Local Government (MHCLG) and carried out by Sir Tony Redmond. Reporting in 2020, his review of local authority financial reporting and external audit highlighted the significant challenges and turbulence in the local audit system, emphasising that local government audit is under-resourced, undervalued and is not having impact in the right areas. The report made a number of recommendations in relation to external audit regulation, smaller authorities audit regulation, financial resilience of local authorities and transparency of financial reporting.
The Department for Levelling Up, Housing and Communities (DLUHC), has provided its response to the Redmond Review in a series of statements setting out proposed actions to implement the majority of the Review’s recommendations. Key steps this year have included the appointment of Neil Harris, the FRC’s first Director of Local Audit and the development of detailed plans for the leadership and co-ordination of the local audit system going forward. (See footnote)
Redmond review: Redmond_Review.pdf (publishing.service.gov.uk)
DLUHC response in December 2021: Measures to improve local audit delays – GOV.UK (www.gov.uk)
Timeliness of audit completion
The publishing date for 2020/21 audits was 30 September 2021. Eighteen months on from that milestone, at 31 March 2023, 145 (31%) of those audits are still incomplete. 2021/22 audits have seen a further deterioration in the position. The vast majority of 2021/22 opinions (88%), due for delivery by the extended target of 30 November 2022, were also delayed. By 31 March 2023, 347 (74%) of those audits are still incomplete. At 31 March 2023 the aggregate number of delayed opinions totalled 545, as an audited body can have more than one audit outstanding.
A table containing a breakdown of these figures is included on page 12 of the annual report.
Both the National Audit Office and the Public Accounts Committee have highlighted the significance of this unprecedented problem, publishing further reports in early 2023. The scale of the backlog of outstanding opinions is such that it poses a serious threat to the financial management, governance and accountability of local government bodies.
At 31 March 2023 145 bodies were still awaiting audit opinions for both 2020/21 and 2021/22 and for some even earlier years. As a result, the bodies are making decisions, managing multiple financial challenges and laying plans for the future with limited assurance about their underlying financial positions. The local audit system needs to find a way of clearing the backlog and restoring the norm of timely opinions as quickly as possible.
Progress on audit completions during this year has been hampered by uncertainties concerning the valuation of infrastructure assets, leading to delays in finalising opinions. This has added to the significant ongoing challenges of increased regulatory focus; recruiting and retaining sufficient staff with the requisite knowledge, skills and experience to both prepare and audit the accounts to the required standard; and the demands on auditors to evidence scepticism throughout every step of the audit process.
The system needs to develop a well-coordinated collective effort to address the problem of delayed opinions with urgency. The Financial Reporting Council’s Director of Local Audit is leading this work with the support of members of the Local Audit Liaison Committee. However, without a rapid increase in the number of auditors and/or a reduction in the work required to be undertaken, it is unlikely that a full recovery of the position will be possible in the short term.
This issue has a significant knock-on impact for the next appointing period. Instead of an early switch from existing to new audit contracts, the transition is expected to be gradual and take place over a longer period.
Commissioning and undertaking research to inform our work
Where appropriate PSAA has continued to commission or conduct its own research to inform its work. This year our procurement strategy has drawn on, and been shaped by, the independent research report PSAA Future Procurement and Market Supply Options Review commissioned in 2020 and subsequent consultations with the sector and the market. We have also commissioned research in relation to the likely implications for audit resources and fees of a number of revised auditing standards and Code of Audit Practice requirements. We have published the findings of this work to assist planning for local bodies and suppliers. We have also commissioned further work in 2023 to consider the ongoing impact of existing and new changes in audit requirements, the findings of which will be published in due course.
Setting audit fees and fee variations
During 2022 PSAA consulted on and set the fee scale for audits of the 2022/23 financial year, the last year of the current five-year appointing period. We published the new fee scale on our website in November 2022. The local audit regulations require that a fee scale must be set before 1 December of the financial year to which it relates. Audit work under this fee scale will largely be undertaken from autumn 2023 onwards.
The consultation on the 2022/23 fee scale set out the changes in audit requirements expected to have an impact on local audit work, and PSAA’s proposals to address the additional fees needed. Our approach is to consolidate additional fees for ongoing requirements into the fee scale where we have sufficiently reliable information, for example from completed audits or from our externally provided technical research. At the time in 2022 when we were consulting on and setting the 2022/23 fee scale, appointed auditors were generally completing their work on the 2020/21 audits and undertaking the 2021/22 audits. In ideal circumstances the fee scale would be set with full information on all audit requirements and following completion of all audits for the preceding year. A variety of practical difficulties arise from the fact that this is not possible given the current backlog.
There was a substantial and broadly positive response to the consultation proposals. Many of the issues raised by respondents extend beyond PSAA’s remit and relate to the need for radical change in the local audit system, to achieve a more proportionate audit and a more sustainable audit system. We support this argument strongly and continue to seek action on these issues with government and key stakeholders.
Monitoring our contracts and the quality of audit services
We published our third Annual Quality Monitoring Report under the appointing person arrangements, covering the work of local auditors appointed by us for the 2020/21 financial year, with the aim of providing a rounded, well-informed view of performance and quality for each supplier. The report included the results of our third client survey on the quality of audit services and the outcome of the regulators’ inspection reports (FRC and ICAEW) on the quality of local audit work.
The regulators’ inspection reports, covering a sample of 37 local government financial statement audits, reported that there were 29 (78%) that met the required standard (which is being assessed as ‘good or limited improvements required’). This proportion is the same as the previous year and an improvement on 2018/19, when the proportion was 63%. However, four of this year’s inspections concluded that significant improvement was needed (the lowest grade) compared to one in 2019/20 and two in 2018/19. The FRC reported their concern at the ongoing inconsistency in the quality of audits inspected; they identified good practice in areas where improvements were identified at other audits conducted by the same firm. The results this year highlight the need for adequate financial review procedures, effective evaluation of identified misstatements and the continued need to challenge management judgements and estimates.
The inspections found that the quality of value for money (VFM) arrangements work remained high, with all bar one (96% based on 32 reviews) meeting the required standards. In the previous two years all VFM arrangements work inspected had been judged as meeting the standards.
Our client survey collected the views of both Audit Committee Chairs and Chief Finance Officers. Results reflected the current challenges we have highlighted, and respondents expressed their concerns about the wider local audit regime. Recurring themes included the local impact of delayed audit opinions, the shortage of auditor resources, the level of fee variations, and the extent of the audit work now required on property and pension valuations.
Establishing a framework of robust contract management processes for the next appointing period will be a significant focus for PSAA over the next year.
As the government takes forward its audit reform legislation, and system leadership responsibilities transfer initially to the FRC and subsequently to ARGA, we are likely to continue to face an uncertain operating environment next year and beyond. The financial and service pressures facing local bodies are also likely to exacerbate ongoing challenges.
We will continue to monitor closely the local audit landscape and work hard to understand the potential implications of any change for opted-in bodies, audit suppliers, and key stakeholders, particularly those on the Local Audit Liaison Committee. We will continue to work closely with all our partners and engage fully with activities that support the design and development of new arrangements. It is particularly important that the local audit market evolves, improving competition and assuring sustainability for the future.
We strongly support the call for urgent solutions and the need for radical changes in the local audit system. We hope that those changes will include more proportionate audit requirements which auditors are required to undertake before arriving at their opinion on the financial statements, enabled by a combination of revisions to the accounting and auditing requirements. In our view this is an absolute pre-requisite to achieve a more sustainable audit system.