FROM THE TREASURY OFFICER
Central Finance Group
BANGOR BT19 7NA
Tel: 028 9185 8150 (x 68150)
TO: PRINCIPAL FINANCE OFFICERS Fax: 028 9185 8262
FROM: DAVID THOMSON and firstname.lastname@example.org
DATE: 15 JANUARY 2004
NI Perm Secs
CFG Grade 5s
Issue: Recently published guidance from HMT on audit
Recommendation: Departments to consider the application of this before DFP
formally issues the guidance
1. The increasing role of audit committees can be traced back to the wider
developments over the last decade in UK corporate governance. These
started in the wake of a number of financial scandals in the late 1980s/early
1990s (e.g. Maxwell, BCCI, Polly Peck) with the publication in 1992 of the
Cadbury Code. Those corporate collapses were characterised by a number
of similarities such as dominant chief executives, clean audit reports for the
period before collapse and ineffective (or no) non-executive directors.
2. The Cadbury report made important recommendations to deal with such
issues and these have now become best practice in business. The most
important were that there should be at least three outside directors, that the
role of chair and chief executive should be split and that audit committees
should be established in all listed companies. A key theme at the heart of the
Cadbury report is the role of the non-executive director.
3. The Cadbury report was followed by three further major corporate governance
reports in the 1990s – Greenbury (mainly on executive pay), Hampel (a
review of the implementation of Cadbury) and Turnbull (on internal control).
Last year, there were a number of further reports – the main ones being the
Higgs report on non – executive directors and the Smith report on audit
4. Separately, in the public sector, we had the Sharman report a few years ago
which addressed specific audit issues in the public sector. We implemented
aspects of this last year in the Audit and Accountability Order.
Application to the Public Sector
5. Many of the recommendations in these reports have been read across to the
public sector and, as a consequence, there have been significant changes in
the governance of departments and public bodies.
6. However, I have had a concern about the direct read-across of some of the
recommendations, especially on areas such as audit committees. The
Cadbury recommendations were designed to overcome certain perceived
weaknesses, and the creation of audit committees was largely to ensure that
external auditors were not subject to undue influence by a dominant chief
executive. However, this does not apply to the same extent to the public
sector, especially government departments, with the particular role of the
C&AG and the appointment of accounting officers.
7. We had commenced work on a report to facilitate discussion as to how these
concepts applied to the NI situation, but contact with HMT colleagues last
year indicated that they were having similar concerns and consequently we
stopped work on the issue, pending the outcome of HMT’s deliberations.
HMT produced a handbook on audit committees last autumn (copy attached)
and circulated this, under a DAO, in December.
Key points in the HMT guidance
8. The HMT handbook draws on the recent reports and incorporates what it
considers as best practice. It recognises the difference between the public
and private sectors and concentrates on the internal role of audit committees
i.e. it ignores the responsibilities for dealing with external audit which was one
of the objectives of audit committees set out in the Smith report.
9. Some of the key points to note are
; The handbook contains 10 policy principles
; The “independent” perspective is central, with the implication that
boards should have non- executive members
; There is a difference between a risk committee (which is executive)
and an audit committee (which is advisory)
; A non-executive should chair the audit committee, not the Accounting
; If there are sufficient non-execs on the board, then audit committees
should be made up entirely by them.
; Larger organisations should have four or more meetings of the audit
committee per year.
; The handbook contains suggested terms of reference.
Implications for NI departments
10. Most, if not all, NI government departments and major public bodies have
audit committees. However the composition of the committees and the
manner in which they operate differs. There are very few which have external
members on committees and most accounting officers chair them. Many of
the audit committees are also risk committees.
11. A linked issue is the role of external board members on departmental boards.
Whilst a number of agencies have adopted this practice, it is not common in
NI departments to have external members on boards. Although I don’t have
specific details, it would appear that an increasing number of Whitehall
departments have such members.
12. If we adopted the principles set out in the HMT handbook, then most
departmental audit committees (and perhaps department boards) would
change in structure and function.
13. Normally, when HMT issues a DAO letter, we issue a similar DAO letter,
amended as appropriate to the NI situation. However, if a DAO raises
significant matters, we have circulated it in draft to get comments from
departments. I consider that this is a good opportunity to review our
governance procedures and I am generally supportive of the approach set out
in the HMT handbook. But before formally issuing it, I would welcome any
views on the principles in the HMT guide and the practical issues in
14. If the handbook is issued under a DAO, then departments will be expected to
comply with the principles contained in it. Indeed, even if we didn’t formally
issue it, the PAC will expect us to follow good practice. However, it is worth
noting it is guidance based on principles, so there is flexibility in the
15. PSG discussed last year the issue of non- executive directors and I am also
copying this minute to permanent secretaries, who will wish to note these
developments and who may wish to have a further discussion on the issue.
Treasury Officer of Accounts
The Attachment ‘The
Handbook’ can be found on the AASD