Global menu

Our global pages

Close

FCA reminds accountancy firms of their reporting obligations

  • United Kingdom
  • Financial services disputes and investigations
  • Litigation and dispute management

25-08-2020

Dear CEO letters are a tool used by the FCA and PRA to highlight issues of concern and  how the regulator expects regulated firms to address them. However, in an unusual move, the Financial Conduct Authority (“FCA”) has written to audit firms to remind them of their reporting obligations to the financial services regulators. The FCA considers that auditors have a significant role in identifying and notifying regulators where they find that relevant firms they are auditing are experiencing financial difficulties. This move by the FCA is perhaps unsurprising given the unprecedented position many businesses now find themselves in as a result of COVID-19 and the concerns that have been expressed about the on-going viability of many companies.

During the pandemic the PRA, FCA and the FRC have been providing firms and auditors with guidance in relation to financial reporting and emphasising the importance to investors and other stakeholders of receiving timely and accurate information about the financial position and prospects of businesses. The FCA letter to accountancy firms is a reminder of the need for both firms and auditors to promptly provide material information to regulators, particularly in relation to going concern. The letter should be seen in the context of the FCA’s comment that historically, information has not always been passed to the FCA in a timely manner, and that auditors have an obligation to report proactively and without delay.

Auditors’ obligations

Accountancy firms that audit financial institutions or companies with transferable securities admitted to trading on a regulated market subject to statutory regulation have certain reporting obligations. The FCA letter highlights SUP 3 of the FCA Handbook, sections 342(5) and 343(5) of the Financial Services and Markets Act 2000 (“FSMA”) and UK auditing standards. Also key in this respect is regulation 2 of the Financial Services and Markets Act 2000 (Communications by Auditors) Regulations 2001/2587. There are also obligations on auditors under the auditing standards and FSMA to report to the appropriate regulator information the auditor has obtained through its audit of a closely linked business to that of the audited company.

FSMA and the Handbook

The effect of these provisions is that auditors must communicate to the relevant regulator of the firm they are auditing (either the FCA or the PRA) certain information they become aware of (or their opinion on such information), including that the auditor “reasonably believes that firm is not, may not be or may cease to be a going concern”.

Sections 342/343 of FSMA provide that the auditor does not contravene any duty to the firm in giving information/an opinion to the regulator that they become aware of in their capacity as an auditor (whether in response to a request from the regulator or not) if the auditor is acting in good faith and reasonably believes that the information or opinion is relevant to the functions of the regulator.

International Standard on Auditing (UK) 250 (“ISA Section B”) (effective for audits commencing on or after 15 December 2019)

ISA Section B confirms that the objective of the auditor of a regulated entity is to bring information it has become aware of in performing audit work to the attention of the appropriate regulator as soon as practicable where the auditor concludes that it is relevant to the regulator’s functions and, in the auditor’s opinion, there is reasonable cause to believe it is or may be of material significance to the regulator.

Paragraph 14(a) ISA Section B lists a number of matters which auditors of financial statements of public interest entities must report promptly to the regulator (for entities in the financial sector, the FCA or the PRA). This includes any information which may bring about a material threat or doubt concerning the continuous functioning of the entity.

A35-5 of the explanatory material to ISA Section B states that this “material threat or doubt” could arise as a result of many factors, including matters relevant to going concern and threats or doubts arising from principal or emerging risks facing the entity (such as those that would threaten the entity’s business model, future performance, solvency or liquidity).

Appendix 2 to ISA Section B provides further guidance on the application of the statutory duty to report. It notes that:

  • the duty relates to information obtained in the firm’s capacity as an auditor
  • it is unlikely that an accountancy firm can be said to be acting in its capacity as auditor of a particular regulated entity whenever any apparently unrelated material comes to the attention of a partner or member of staff not engaged in that audit, particularly if that material is confidential to another client. The duty therefore does not extend automatically to any information obtained by a firm regardless of its source
  • However, while information obtained in the course of non-audit work is not covered by the right or duty to report, firms undertaking audits of regulated entities need to establish appropriate lines of communication to ensure that non-audit work undertaken for a regulated entity which is likely to have an effect on the audit is brought to the attention of the partner responsible for the audit

FCA Guidance on assessing adequate financial resources

Assessing and providing information on going concern is likely to be a challenge for many businesses given the current economic uncertainty created by COVID-19. The FCA gave timely guidance to regulated firms on assessing adequate financial resources in June 2020 (FG 20/1: Assessing adequate financial resources (the “Guidance”)). Although addressed to firms, the FCA expects auditors to consider it in fulfilling their duties to report on entities experiencing financial difficulties. They also draw auditors’ attention to Primary Market Bulletin 27, which is addressed to publicly listed companies and highlights the need for such companies to comply with their disclosure obligations.

Failure to report promptly

Auditors

Under section 345/345A FSMA, the FCA and PRA may apply various sanctions to auditors for a failure to comply with their duties under the FCA and PRA rules or FSMA. These include:

  • disqualifying the auditor from being the auditor of a PRA or FCA authorised firm or class
  • publishing a statement of the auditor’s failure to comply with the duty
  • imposing a penalty on the auditor of such amount as the regulator considers appropriate 

Firms

FCA-regulated firms must comply with the FCA’s reporting requirements. PRA-regulated firms (normally those firms with a significant balance sheet and/or firms which could pose a systemic risk to the safety and soundness of the UK financial system) must in addition comply with the PRA’s reporting requirements.

Firms which fail to report going concern issues may be in breach of Principle 11 of the FCA’s Principles for Business, which requires that a firm deal with its regulators in an open and cooperative way and disclose to the FCA appropriately anything relating to the firm of which the FCA would reasonably expect notice. The FCA would undoubtedly consider matters going to the financial soundness of a firm as falling within the scope of this notification Principle. Similarly, under SUP 15.3.1(3), firms must inform the FCA as soon as they become aware, or have information which reasonably suggests, that the following “has occurred, may have occurred or may occur in the foreseeable future”: “any matter which could affect the firm's ability to continue to provide adequate services to its customers and which could result in serious detriment to a customer of the firm”. Under Rule 2.1 of the PRA Rulebook, the same requirement applies to PRA-regulated firms in relation to the PRA.

In addition, in order to obtain and retain permission to conduct regulated activity, the FCA and the PRA require firms to satisfy certain minimum conditions (known as the “Threshold Conditions”). These include a requirement to have adequate financial resources in place to enable a firm to undertake a relevant regulated activity, and a requirement that a firm makes appropriate provisions for liabilities and risks relating to that activity. Any information acquired during the course of an audit which suggests a firm may be unable to or may no longer meet the Threshold Conditions will be of critical importance to the relevant regulator, not only because of the risk that the firm may fail but also because of the consequential risk that a firm’s failure may pose to consumers and/or financial markets or the financial system as a whole.

Firms and senior managers can be sanctioned for failures in relation to these reporting requirements.

Implications

While the obligation on both firms and auditors to report on-going viability concerns to the regulator is clear, the circumstances in which a report needs to be made will not always be. Legal advice may need to be taken in certain cases.

What is clear is that the FCA and PRA as appropriate expect to be notified promptly of going concern issues. As history shows us, regulators will impose sanctions where Dear CEO letters are not addressed to their satisfaction.