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Melanie Johnson MPA Single Capital Market in Europe: Challenges for Global Companies |
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May I start by saying how pleased I am to be here today. The issues before this conference are of crucial importance to the future of European and global capital markets. I congratulate Peter Wyman and his colleagues at the Institute of Chartered Accountants of England and Wales for their vision, both in organising the event in the first instance, and in arranging for it to take place here in Brussels, at the heart of the European Union, where the debate can have a truly international dimension. I would like to use this opportunity to outline the UK's perspective on current issues for capital markets, to say something about how we have responded to these, and to close with a brief look into the future for the UK, for the EU and for global markets. Post-Enron No-one would dispute that recent events in the US, especially the failure of Enron and WorldCom, have been a shock to us all. It's not just the scale of the losses involved. It's the corporate practices that allowed those losses to occur that have shaken confidence in capital markets and hugely damaged the reputation of business across the globe. And the fallout from these failures has affected all of us, regardless of whether they could have happened under our own regulatory regimes. UK corporate regulation differs from US's in a number of key respects, and in ways that we believe would make it more robust in the face of the kind of corporate practices which brought down Enron. In part, this is because we had the chance to learn from our own major corporate failures, and revised our regime accordingly. UK regulation is build on solid foundations: All of these helped to give us confidence, when news of the US failures broke, that we already had strong arrangements in place, arrangements which would make it harder for the same malpractices to happen in the UK. Harder, but not impossible. We could not say that an Enron, a WorldCom, a Xerox, could not happen in the UK – after all, however good a system, there is always someone who will try to beat it. And there is always room for improvement. Co-ordinating Group on Audit and Accounting Issues So our response was to bring together the key UK regulators: We asked this group to ensure that the whole of the UK regime for accounting and audit was thoroughly reviewed, and that any recommendations for change were well thought-through, especially where changes to regulation in one area could affect regulation in another. The Group published an interim report in July. This made specific recommendations on key issues, as well as calling for additional work on a number of topics – in particular, on the role of audit committees, on auditor independence, on auditing and accounting standards, and on the availability of information about our largest audit firms. The Government accepted these recommendations and the necessary further work is now in progress. The Group will publish a Final Report early next year. I do not want to go into great detail on any of these topics – anyone who wants to know more will find the full text of the interim report on my Department's website. But let me touch briefly on some of the key changes we are considering. I expect they will be familiar to many of you. We see Audit committees as having a key role in underpinning auditor independence. The Financial Reporting Council has set up a group chaired by Sir Robert Smith to develop our existing non statutory Code of Practice for listed companies so that it includes guidance on such issues as the personal qualities needed for membership of such committees, and on the role of the committee in relation to shareholders. There are echoes here of what is happening in the US, which has firmly adopted a legislative route. And the role of audit committees is, of course, very much part of on-going discussions on corporate governance at a European level. On the enforcement of accounting standards, the Financial Reporting Review Panel is finalising proposals to introduce a more pro-active element to its work. (This at present mainly involves investigating complaints about company accounts.) On auditing standards, we very much welcome the work of the UK Auditing Practices Board to raise awareness of the issue of aggressive earnings management. Manipulation of results to meet market expectations or for personal gain appears to have been a factor in several of the recent US failures. And the APB is also very active internationally in the development of robust auditing standards. On auditor independence, the Group wanted to see our existing requirement for a seven-year rotation of the lead audit partner extended to cover the key members of the audit team. I am pleased to say this is already happening, so implementing one element in the recent EU Recommendation on auditor independence. But, beyond that, the Group also suggested that we should limit to five years, rather than seven, the period that an individual may serve in the lead partner role. And the Group is doing further work on the provision of non-audit services to audit clients and on the strength of the argument for the rotation of audit firms. On the openness of accountancy and audit firms, the Group concluded – and the Government agrees – that there is a legitimate public interest in having better publicly-available information about our largest audit firms – about their processes and practices, their financial position, and about their structure and international links. Another important recommendation was that the Government should bring forward a review of the structure for independent regulation of the accountancy profession, which has only quite recently been set in place. This new structure already introduces strong independent lay participation – in setting ethical and auditing standards, and in public interest disciplinary cases; and in more general oversight of the regulatory activities of the professional accountancy bodies. Those arrangements already set something of a precedent which a number of other countries have adapted to suit their circumstances. We had planned to review the effectiveness of the new structure after a few years. But, in the face of a rapidly changing world, the Government concluded that there should be an immediate review. This is now in progress and a consultation document identifying the main issues [has just been published/will be published in the next few days]. European Context What I have said so far has dealt mainly with domestic developments. Let me now put these into the European and wider international context. We have already heard today about how the post Enron agenda is being taken forward at the EU level. I welcome that. Even as we strive for a single capital market for Europe, we must also start to think about how to develop and maintain confidence in such a market. In particular, I very much welcome the work of Jaap Winter and his colleagues on company law and corporate governance. We look forward to seeing their final report, and to the development of an Action Plan. We also await a Communication from the Commission on priorities on auditing. We believe that there is plenty of common ground here – we think that the UK has a lot to offer. We are keen to share our experience and to work closely with the Commission and other Member States to develop this. But let me offer a few further thoughts. First, the European response must be considered and measured. This is not a recipe for delay, nor said in the hope that the issues will go away so that "normal service" can be "resumed as soon as possible". It is because the alternative could be poorly thought-out or "one size fits all" solutions which turn out to be disproportionate, expensive and over-burdensome. Everything I hear suggests that this view is widely shared in Europe. Secondly, we should resist jumping to the conclusion that the only way forward is through yet more detailed European legislation. We should thoroughly explore alternative ways of developing and improving standards of corporate governance before we advocate EU-wide legislative solutions. Thirdly, we must not forget the wider international context. It is arguably more important to agree higher level principles at the broadest international level, especially in areas such as corporate governance and auditing, than to develop detailed solutions at the European level. We therefore strongly support the work of the IMF and World Bank in establishing core codes and standards against which to assess countries. As part of our commitment to strong frameworks, the Chancellor of the Exchequer recently announced that the UK will be submitting our corporate governance, accounting and auditing systems for examination against these codes. Other current relevant UK initiatives The post-Enron projects to which I referred are not the only ones the UK government has in hand which are relevant to the subject of this conference. For example, work started in 1998 on a major project to review and modernise our company law. British company law has, of course, been amended many times, not least to take account of EU Directives, but it still shows its mid-nineteenth century origins. It was time for a rethink, to drop parts that had outlived their usefulness and to draw up a framework for business in the twenty-first century. That framework must "think small first" – after all, 99% of the 1.5 million companies in Britain are private companies, almost all of them small or medium-sized businesses. It also has to be simpler and clearer. It must help, not hinder business. It must be easy to understand and apply. It must not impose any unnecessary burdens which make it harder to start or grow companies. At the same time, it must ensure confidence. So we are proposing, for example, faster publication of information and accounts, and more penalties for misleading or failing to provide information to auditors. I am pleased that the Company Law Review has attracted wide interest, both around Europe and further afield. Rewriting the whole of our company law is a huge undertaking, and the 200 draft clauses published with this summer's proposals are only the starting point. We plan to publish the rest in draft next year, and hope to have the law enacted as soon as possible after that. This timetable means that we will be able to take account of the lessons of recent events as part of this fundamental revision, rather than as bolted-on additions to existing legislation. I believe our companies, and our markets, will be stronger as a result. One issue which emerged from the final report of the Company Law Review, but which we wished to explore further before bringing forward proposals, is the role and effectiveness of non-executive directors. Earlier this year, Derek Higgs agreed to undertake a review of this. He is expected to report to Government towards the end of the year and will work closely with Robert Smith's group on Audit Committees where appropriate. International accounting and auditing standards The more alert of you may have noticed that I have not referred as yet to International Accounting Standards. I should not address a Conference on European Capital Markets and global companies without doing so. The UK strongly supports the use of International Accounting Standards Board standards for the consolidated accounts of publicly traded companies across the EU. This is a significant development in financial reporting and the lead which Europe has set through the Regulation is a major achievement. I look forward to Europe's early formal adoption of all existing IASB standards. Today's global markets require high quality, globally agreed accounting standards to work more effectively. For publicly traded companies, adherence to global accounting standards should help to reduce the cost of capital by making their accounts more accessible to potential investors across the EU and worldwide. For potential investors, creditors and other users of financial statements, global standards provide a single means by which to compare performance and prospects on a like-for-like basis. But it is important that these accounting standards are of the highest quality. When new standards are drawn up or existing standards amended, the International Accounting Standards Board should always look to the best available national standard as a model. It should not settle for second-best just because it is the easier option. I am heartened by the Board's willingness to tackle difficult issues, not least on accounting for pensions and stock options In the UK, we are currently consulting on whether the application of the new Regulation should be extended to allow other companies to use International Accounting Standards. I hope those of you who are here today will let us have your views. We are also alert to the need for companies covered by the Regulation and their accountants and auditors to plan ahead for the change. I hope you will spread the word to those who haven't yet begun to make plans. I should also mention the moves within the EU, which we welcome, towards the adoption from 2005 of International Standards on Auditing. Again, the quality of the standards is the key, and I encourage the International Auditing and Assurance Standards Board to re-double its efforts. It would be ironic if in the UK we were forced to adopt standards which were not in all respects as strong as our existing standards. But overall the global adoption of high quality standards – for audit and for accounting – will enhance transparency in capital markets and help to restore and increase confidence in their operation. As Paul Volcker said in a recent interview for the Financial Times: "The inherent logic of international accounting standards is pretty clear in a globalising economy… Having different accounting standards complicates life. It fosters obscurity, creates inconsistencies and bad investments..." I am in full agreement with Mr Volcker's view that "the case for one set of international standards is pretty compelling". Provided, of course, that those standards are of good quality and properly monitored and enforced. There is a clear role for regulators and practitioners in developed economies to help those in less developed states, and in states which have only recently adopted the market economy model, to become familiar with the principles underlying these standards and to put them into practice. In the European context, the UK attaches particular importance to helping countries which are candidates for enlargement to ensure that their regulatory arrangements in respect of accountancy and audit are in good shape and ready to cope with the requirements of full membership of the European Union. I would like to take this opportunity to recognise in particular the work that the various UK accountancy bodies and other members of the European Federation of Accountants are doing to help candidate countries develop their professional formation systems. This is a vital element of preparation to work in the single market. May I also invite candidate states to contact us if we can offer advice or assistance on matters of company law which would help them as they prepare for entry. Living with Sarbanes-Oxley Act I am conscious that this has been a particularly serious speech to follow such a good lunch. Those of you who are still awake may have realised that there is one aspect of the fall-out from Enron that I have not yet mentioned: the Sarbanes-Oxley Act. We have of course already heard much of interest from Harvey Pitt on the US response to recent events. As a politician myself, I recognise both the pressures and the need in the US to respond rapidly to the weaknesses in its regulatory systems which Enron, WorldCom and the rest exposed. We were all, I think, taken slightly aback by the pace at which events moved in Congress this July, out of which emerged the Sarbanes-Oxley Act. We were concerned at the time about the potential cross-border impacts, and we made our views very clear at the time to the US legislators. Overseas companies and audit firms involved in US markets must, of course, now live with the Act. But we are continuing to explore with our American counterparts what can be done to minimise the unwelcome extra-territorial reach of elements of this legislation. If I have one message, it is for common sense to prevail, so that no additional, far-reaching regulatory requirements are imposed where comparable robust arrangements are already in place. We all have the same objective – to ensure that companies, and their auditors and advisers, act responsibly and ethically. We might not all approach this in exactly the same way. But 'different' isn't necessarily 'worse', or 'better'. What matters is that whatever the approach, it delivers the goods. And what we are all trying to deliver are effective, practical solutions which recognise the real concerns on all sides and strive to ensure that national and global capital markets operate efficiently and fairly. Because that must be what we are all aiming for. None of us, least of all the developing world, would be helped by an outcome which made it more difficult for enterprises to attract investment. The UK believes that high quality accounting and auditing standards, appropriately implemented and properly enforced, are a key building block as we work together to create a true single capital market in the EU and efficient global capital markets. This is a hugely important goal – at the heart of building prosperity for all our people. I hope that this conference will help to build a consensus towards achieving these objectives, and wish you success in your endeavours. |
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Other speeches by Melanie Johnson MP
(the following are available from the archive) |
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