Britain’s biggest accounting firms have been criticised by the industry regulator for the “unacceptable” quality of their audits after a review found one in three was substandard.

The Financial Reporting Council’s annual inspection of the seven biggest firms — KPMG, EY, PWC, Deloitte, Grant Thornton, BDO and Mazars — reviewed 88 audits, including those for 45 FTSE 350 companies. It found that 29 of the 88 audits reviewed required more than limited improvements, while seven of these required significant improvements. Of the FTSE 350 audits, 13 were found wanting, with two requiring significant improvements.

High quality audits are required to ensure that investors have confidence in a company’s annual report and can make informed decisions.

Areas where the regulator identified the need for improvement this year included the audit of inventory, group oversight, going concern and investment property valuations.

David Rule, executive director of supervision at the FRC, said that while firms have made improvements, it is clear that more progress is needed.

The findings have piled additional pressure on the British government to bring forward reforms to the sector to help prevent major corporate failures such as those at BHS, Carillion and Thomas Cook.

No date has been set to bring forward primary legislation that would give the watchdog power to impose tougher sanctions and enforce an operational split of the audit and non-audit divisions at the “Big Four” firms to improve oversight and avoid conflicts.

The FCA, which does not name the company reports it has inspected, said it prioritised audits of sectors including financial services, general retailers, business support services, construction and materials, and retail property.

It added that it recognised its increased focus on higher-risk audits meant that the results “may be less representative of audit quality across the whole portfolio of an audit firm”.

Darren Jones, chairman of the House of Commons business select committee, said: “These findings should act as a further spur to government to accelerate the pace of reform by bringing forward the legislation needed to help improve audit quality and ensure there is a tough and proactive regulator.”

PWC

The overall audit quality found in PWC audits was branded “unsatisfactory” for the second year running. Only 11 of the 17 audits reviewed required no more than limited improvements. Eight of the 12 audits of FTSE 350 accounts met that standard.

PWC launched a three-year programme last summer to improve its audit quality. Hemione Hudson, head of audit, said the firm was “disappointed with these results, which we are committed to improving”.

 

KPMG

KPMG’s audit quality was described as “unsatisfactory”, a year after it was placed under “increased scrutiny” due to concerns about the quality of its audits.

Only 11 of 18 audits reviewed were found to require no more than limited improvements. Seven of the 12 audits of FTSE 350 companies conducted by the accounting giant met that standard.

Recurring issues related to the quality of audit work on banks and building societies and the levels of challenge and professional scepticism. The regulator also said that the firm needed to enhance its audit work on certain areas of revenue and plans to examine a higher proportion of KPMG’s audits next year as a result.

Jon Holt, head of audit at KPMG, said the firm had “invested heavily” in audit over the past three years and would “not be happy” until the review scores reflect that process.

EY

Of the 14 audits conducted by EY that were assessed, ten required no more than limited improvements. Seven of the nine FTSE 350 audits assessed achieved that standard.

The regulator repeatedly found issues with its consideration and challenge of management’s impairment assessments in relation to goodwill. It said that EY needed to reinforce consistent quality control procedures on audits.

Andrew Walton, EY’s UK head of audit, said: “We are disappointed our overall results are not higher and we have plans in place to address the FRC’s feedback.”

Deloitte

Of the ten FTSE 350 audit reviews, nine were found to require no more than limited improvement. Of the 17 individual audits reviewed in total, 13 required no more than limited improvements — the highest score of the “Big Four” firms.

Overall, the biggest problem identified was with the extent of challenge over cashflow forecasts for the impairment of goodwill and other assets.

Stephen Griggs, managing partner for audit and assurance at Deloitte UK, said that the firm acknowledged that it “must continue to improve to ensure we consistently deliver the highest quality audits”.

Grant Thornton, BDO and Mazars

The review results were mixed for Britain’s three biggest mid-tier accounting firms.

Grant Thornton, which was placed under scrutiny last year in response to the “very poor audit quality” found by the regulator, was again found to have “unacceptable” audit quality. The FRC took issue with its audit of revenue and appropriate levels of challenge and scepticism in areas of judgment.

 

At BDO only 62 per cent of the eight audits reviewed required no more than limited improvements. The regulator uncovered issues surrounding the firm’s audit of revenue and told BDO to “take robust action”.

At Mazars, which audits Goldman Sachs’ European businesses, four of the five audits assessed required no more than limited improvements.