Carillion disclosures used as 'good practice' 12 months before bankruptcy

Failed engineering firm Carillion’s dividend disclosures were used as an example of good practice in a report published by the UK’s audit watchdog less than 18 months before the company collapsed.

A December 2016 report from the Financial Reporting Council’s (FRC) Financial Reporting Lab singled out Carillion’s 2015 annual report as an example of good practice in dividend disclosure.

The Lab noted that Carillion’s disclosure addressed “the factors and risks the board considers in setting the policy”.

It highlighted the firm’s discussion of “distributable reserves and cash resources available to support the dividend”. UK politicians have since accused Carillion’s bosses of putting dividends ahead of its pension scheme.

Carillion’s annual report for 2016 detailed that it had paid £393.7m (€450.7m) to shareholders since 2012, while making deficit contributions to its defined benefit (DB) schemes of £209.4m in total. Since last year, the UK’s Pensions Regulator has increased its emphasis on companies striking a balance between dividend payments and pension scheme deficit reduction payments.

Tim Bush from Pensions & Investment Research Consultants told IPE: “The FRC’s Lab made the fatal error of trying to patch up with disclosure, rather than deal with the core of the problem, which is the numbers being unreliable and wrong.

“It has managed to pick losers in a way that would make short sellers envious, but which makes the FRC as regulator an endorser – something it is unwise to do.”

The FRC told IPE the Lab Report contained the views of investors, not those of the FRC.

FRC criticised by MPs’ committees

Meanwhile, a report into Carillion’s collapse accused the FRC of a “timid” approach to the case. The joint report by the UK parliament’s Work and Pensions and Business select committees found that FRC’s “limited intervention” had failed to deter Carillion from an overly optimistic view of its financial health.

It also claimed that the FRC was “happy to walk away after securing box-ticking disclosures of information.”

The committees’ report said: “It was timid in challenging Carillion on the inadequate and questionable nature of the financial information it provided and wholly ineffective in taking to task the auditors who had responsibility for ensuring their veracity.”

The FRC argued in response that it was “a strong, transparent regulator which makes use of its statutory powers and innovates, for example, by first introducing audit retendering and most recently an extended audit firm monitoring and supervisory approach”.

A review of the FRC’s operations – and potentially its future – is currently underway. The business secretary Greg Clark has appointed former top civil servant Sir John Kingman to head the probe. He is currently taking evidence from stakeholders.

At its peak, Carillion employed 43,000 people around the world, with roughly half of them in the UK. Last year it issued three profits warnings before going bust in January – dumping a pension liability estimated at £800m on the Pension Protection Fund, the UK’s defined benefit lifeboat scheme.

Watchdog’s culture review

Ahead of the committees report, the FRC released its own Audit Culture Thematic Review last week.

It described the study as a “snapshot” of the steps being taken by audit firms “to establish, promote and embed a culture that is committed to delivering consistently high quality audits.”

“The FRC’s reports continue to highlight shortcomings of audits and then scandals highlight even more problems”

Prem Sikka, University of Sheffield

Prem Sikka, a professor of accounting at the University of Sheffield and long-standing critic of international accounting standards, queried why the FRC had published the thematic review ahead of the select committee report.

The review said “nothing about the FRC’s own role” in failing to open up audits to public scrutiny, he added.

“Which bit of their culture is changing and how?” Sikka said. “The FRC’s annual audit inspection reports continue to highlight shortcomings of audits and then scandals highlight even more problems.”

Separately, the report also hit out at the UK government for failing to take decisive action to tackle corporate complacency and wrongdoing.

The politicians said: “The government has recognised the regulatory weaknesses exposed by this and other corporate failures, but its responses have been cautious, largely technical, and characterised by seemingly endless consultation.

“It has lacked the decisiveness or bravery to pursue bold measures recommended by our select committees that could make a significant difference. That must change.”

In response to feedback on a 2016 green paper on corporate governance, the government pledged to bring in legislation requiring companies to explain how their directors comply with section 172 of the Companies Act 2006. This requires directors to have regard to the interests of wider stakeholders such as pension scheme members, employees, and the environment when running their business.