Boundary spanning and gatekeeping roles of UK audit committees

Abstract

Post-financial crisis, audit committee (AC) reforms are proposed to improve the quality of financial reporting.^†

† The editorial process for this paper was undertaken by Pauline Weetman, former ABR editor.

This paper's empirical contribution is to investigate the extent to which ACs and audit committee chairs (ACCs) engage with chief financial officers (CFOs) and audit partners (APs) across a range of 32 financial reporting issues. It is the first large-scale survey of interactions to move beyond the micro-CFO/AP dyad and to distinguish the individual ACC from the AC group. While 37% of the 5445 reported discussions involve all three key individuals together with the full AC, 35% involve neither the AC nor the ACC and the ACC acts without the full AC in a significant minority of cases. The parties reported to be involved are similar across the three respondent groups but vary with financial reporting issue, company size and audit firm size. The paper's theoretical contribution is to interpret the evidence using the concepts of boundary spanning and gatekeeping roles. The research reveals incomplete levels of AC and ACC engagement with financial reporting issues. Findings have implications for policy-makers regarding the role, influence and effectiveness of the AC in financial reporting matters. Directions for future research are identified.

Keywords:

• auditor–client interaction
• audit committee
• boundary spanning
• corporate governance
• discussion
• negotiation

Acknowledgements

We thank The Institute of Chartered Accountants in England and Wales' charitable trusts for financial support on this project. Thanks also go to John Coombe, Ken Lever, Ian Percy and Gerald Russell who have acted as general advisors to the project (including pilot testing the questionnaire); Steve Maslin who also helped pilot test the questionnaire; and the 100 Group of Finance Directors, the ICAEW's Audit and Assurance Faculty and many audit firms who gave their support. Our sincere thanks to 498 individuals who completed the questionnaire on which this paper is based. We appreciate the comments of participants at the British Accounting Association's Annual conference in 2009, the European Accounting Association's Annual Conference in 2009 and the UK National Auditing Conference in 2011. Particularly, thanks to two anonymous ABR reviewers for their very constructive comments and suggestions.

Notes

† The editorial process for this paper was undertaken by Pauline Weetman, former ABR editor.

1. Neither the 2008 nor the 2010 revisions to the Corporate Governance Code (FRC 2008, 2010) materially changed the requirements for audit committees in relation to financial reporting in comparison with 2007. Changes introduced in the aftermath of the financial crisis into the 2012 revision require companies (for accounting periods beginning on or after 1 October 2012) to include in a separate section of the annual report a description of ‘the significant issues that [the audit committee] considered in relation to the financial statements, and how these issues were addressed’ (FRC 2012, para. C.3.8).

2. In 2005, the UK adopted International Auditing Standards with some adjustments to ensure compliance with UK company law.

3. Furthermore, the usual code requirement that the AC should include at least one person with recent and relevant financial experience could be viewed as a resource for smaller companies with smaller finance functions.

4. It is noted that other actors also fulfil boundary spanning roles, however the focus of the present study is the AC.

5. Representative UK studies include Song and Windram (2004) and Al Najjar (2011); Piot and Janin (2007) consider France; Pucheta-Martínez and de Fuentes (2007) consider Spain.

6. While the mean reported incidence of discussions was found to be broadly similar across the three respondent groups, 11% of discussions involve the ACC only, rather than the full AC, and a further 25% do not involve any member of the AC.

7. Four weeks prior to mailing the questionnaire, the names and addresses of companies, CFOs and ACCs were checked and where necessary corrected using Regulatory News Service data (which requires prompt announcement of changes in board and directorate membership).

8. A fifth group of two SOX issues and one item relating to regulated industries are excluded from the present paper as they do not apply to all companies.

9. Beattie et al. (2000) used a longer three-year period to ensure that some negotiation activity was picked up by the questionnaire. In the present study, a single year was used as, based on the evidence in Beattie et al., this would generate sufficient levels of negotiation to be informative and to avoid straddling pre- and post-IFRS implementation.

10. ACC respondents were all audit committee chairs, with the exception of two who were Deputy Chairs; AP respondents were all listed company audit engagement partners (four responses were eliminated as they did not fall within the criteria set for the following reasons: client reported under US GAAP only, client not yet on IFRS (AIM company), AP audited investment trusts only; and client was a public sector organisation); CFO respondents, based on job title, were FD/Group FD/CFO (74%), financial controller (9%), (group) chief accountant (3%), deputy FD (1%) and other/non stated (13%).