We present our Annual Quality Monitoring Report for 2022. This covers the work of local auditors appointed by PSAA for the 2020/21 financial year and provides relevant related information.
PSAA is committed to working with all parties so that appropriate quality audit services are provided to its opted-in bodies. Along with several national audit agencies PSAA has adopted the International Auditing and Assurance Standards Board’s Framework for Audit Quality (IAASB framework) as the model for its appointing person audit service quality monitoring arrangements. This is widely regarded as a definitive statement on overall audit quality. The IAASB framework recognises there is a complex interplay of many factors in audit quality and notes the need for a rounded approach. We have taken the attributes that the IAASB framework expects to be present within a quality audit and distilled them into three tests which we use to monitor the quality of audit services provided by auditors under our contracts:
- Adherence to professional standards and guidance;
- Compliance with contractual requirements; and
- Effective relationship management.
It is over two years since Sir Tony Redmond’s review of local authority financial reporting and external audit was published. The report highlighted the significant challenges and turbulence within the new system of local audit, emphasising that at present local government audit is under-resourced, undervalued and is not having impact in the right areas. Whilst there are mitigating factors, to date the situation has deteriorated, especially in relation to the timeliness of audit opinions.
We reported last year that only 41 (9%) of 2020/21 audits had been given by the publishing date of 30 September 2021. A substantial proportion of organisations have had to prepare their 2021/22 financial statements with the previous year’s audit still incomplete, and the backlog of delayed audits continues to increase. Only 12% of local government bodies’ 2021/22 audit opinions were given by the publishing date of 30 November 2022. Although this is slightly higher than last year’s 9%, the publishing date is two months later than last year. In total more than 630 opinions are currently delayed. The National Audit Office (NAO) published its second progress report on the issue on 25 January 2023.
Delayed audit opinions have a public-facing impact, undermining the ability of local bodies to account effectively for their stewardship of public money to taxpayers. Too many of them are having to make decisions, managing multiple financial challenges and laying plans for the future with limited assurance about their underlying financial positions. As in previous years we urge every part of the local audit system to play its part in restoring the norm of timely opinions as soon as possible.
The vulnerability of local audit is linked to the limited number of audit firms in the market, which also severely impacted PSAA’s ability in our recent procurement to secure 100% of the required auditor supply at the first time of asking. Two of the UK’s largest audit firms decided to exit the market and, whilst the procurement was ultimately able to obtain just enough supply, there will be a significant increase in the audit fees payable by bodies. The results of the procurement provide clear evidence that local audit remains highly fragile and vulnerable.
Adherence to professional standards and guidance
Information on the quality of local audit work in this report comes from the reports provided by the audit regulators, the Financial Reporting Council (FRC) and the Institute of Chartered Accountants of England and Wales (ICAEW). The FRC issued its Local Audit Inspection Report (FRC report) on 28 October 2022, containing the results of the inspections by the Audit Quality Review (AQR) team of engagements completed in 2020/21. It also included the results of reviews undertaken by the Quality Assurance Department (QAD) team of the ICAEW, and firms’ own internal quality monitoring arrangements. The scope of the report covers the whole of local audit, including those not opted-in to the PSAA appointing person arrangements and NHS bodies, but we are able to use the overall findings to inform our contract monitoring arrangements. The QAD have produced a Feedback video on the outcomes from their inspections.
The FRC also highlighted the concerns on timeliness reporting and commented that ‘As local public bodies face financial pressure and some engage in increasingly commercial activity, it is essential that high-quality financial reporting and the audit process identify and respond to risks on a timely basis’.
In total the AQR and QAD inspected 37 financial statement audits. They reported that 29 (78%) met the required standards (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 where the proportion was 63%. However, overall 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 report identified the key findings that contributed to the increase of unacceptable ratings. These were inadequate financial statements review procedures, ineffective evaluation of identified misstatements, and insufficient justification for issuing a qualified audit opinion. Firms also need to continue to improve the evaluation and challenge of management’s investment property valuations. The FRC reported their concern at the ongoing inconsistency in the quality of audits inspected, in that they also identified good practice in these areas including at the firms where they reported that improvements were required. The FRC report also included other good practice examples in risk assessment, execution of the audit, and completion and reporting including use of internal consultations to assess whether the work completed sufficiently addressed the audit risk identified.
In total the AQR and QAD inspected 24 audits of VFM arrangements. They reported that all bar 1 (96%) met the required standards (which is being assessed as ‘good or limited improvements required’). In the previous two years all VFM arrangements work had been judged as meeting the standard.
The FRC report contains the firms’ responses to the AQR and QAD reviews and the actions being taken. We will follow up firms’ resulting action plans and seek assurance that the concerns are being actively addressed.
Effective relationship management
We surveyed all of our 2020/21 Section 151 officers and Audit Committee chairs to judge the effectiveness of relationships between bodies and their auditors. We received responses from 183 (39%) Section 151 officers and 113 (24%) Audit Committee chairs. Respondents highlighted the local impact of delayed audit opinions, the shortage of auditor resources, the level of scale fee variations, and the extent of the audit work now required on property and pension valuations.
We asked for views on the usefulness of the VFM arrangements commentary within the Auditor’s Annual Report. Of the 182 of 294 respondents bodies that had received a commentary, 85% of audit committee chairs and 60% of finance directors found it useful. Several respondents highlighted that sharing notable practice would be beneficial. We will track this response in future years and discuss with the NAO.
Overall communication remains an area for improvement. As last year around two-thirds of respondents thought that communications during the audit were sufficiently frequent, and just under half of finance directors (49%) and two thirds of Audit Committee chairs (63%) reported that communications were sufficient to provide a “no surprises” basis.
The most common communication issue is the need for auditors to flag earlier the need for audit opinion deferral or the need for fee variation. Reducing the number of delayed audits was clearly expressed as the most urgently required improvement to audit.
Compliance with contractual requirements
Our biggest concern remains the timeliness of audit completion. Only 41 (9%) of audit opinions were given by the 30 September 2021 publishing date. For 2021/22, 56 (12%) opinions were given by the later publishing date of 30 November. Auditor concerns about infrastructure accounting emerged in 2022, halting the issue of opinions at most bodies with material infrastructure assets for several months, with CIPFA leading the search for a solution.
Both the NAO and the Public Accounts Committee have reported on timeliness, with an emphasis on the fundamental importance of timely opinions. The Local Audit Liaison Committee brings together all the key stakeholders, and it has discussed the whole-system action required to address the problem. DLUHC has acknowledged publicly that a full recovery is likely to take several years.
In summary, the results of all the professional regulatory reviews of financial statement work were consistent with the previous year with 78% of all financial statements audits reviewed assessed as requiring no more than limited improvements, and an improvement on the 2018/19 outcome (63%). However, the FRC reported that inconsistency is preventing firms from eradicating poor quality audits. We noted from the findings that where authorities have unusual and higher risk transactions auditors are expected to expand the depth of their audit work. It was disappointing to note that in the audits judged by the AQR as requiring significant improvement it was because audit procedures had failed to ensure that primary statements were free from material error.
In the first year of the VFM arrangements commentary the FRC was able to report on some good practice matters and, in all bar one case, the AQR and QAD were able to assess the audit work completed as meeting the required standard.
However, the fact that there are more than 600 delayed opinions is a serious concern for users of accounts and anyone with an interest in local government and local democracy. The value of a long-delayed audit to the public is questionable. The causes of the delays are widely documented and covered by both the NAO in its report and the work of the Public Accounts Committee. Tackling the issues and dealing with the current situation must be a priority duty for the whole local audit system and its participants.
We welcome the appointment of Neil Harris as the FRC’s first Director of Local Audit, and the development of much-needed system leadership. All stakeholders have a role to play in the clearing of the backlog of opinions, which are vital to providing assurance about the sector’s financial position in these challenging times.