Company Accounts and Audit — SQE1 FLK1 Business Law and Practice

A board of directors hires a long established firm of chartered accountants to keep the company's books and prepare its annual accounts. The whole of that work is left to the firm, and none of the directors has any accounting qualification. The accounts come back with material misstatements in them. The board approves and signs at a meeting lasting a few minutes, without asking a single question about the figures. The firm made the mistake, so the firm answers for it. Right? No.

The Companies Act 2006 gives that answer. Approving accounts is a judgment each director makes personally, and hiring professionals does not move it. This is Company Accounts and Audit. What must a company produce, when must it reach Companies House, and does anyone independent have to check it first? Keep this board in mind. They come back.

Here is the route. Accounting records first, the raw material, and the criminal offence of not keeping them. Then the accounts themselves, and the true and fair view. Then size, because size decides most of what follows. What you file. Whether you need an audit at all. Then the exemptions, then deadlines and penalties. And last, who carries the can.

Start with the raw material. Under s.386 of the Companies Act 2006 every company must keep adequate accounting records. Adequate has a meaning. They must show and explain the company's transactions. They must disclose the financial position with reasonable accuracy at any time. And they must let the directors check that the accounts comply. Notice that phrase. At any time. Not once a year.

What goes in them? Day to day entries of money received and spent. Assets and liabilities. Statements of stock held at the year end, and the stocktaking statements behind them. And records of goods bought and sold, showing buyers and sellers, except goods sold by way of ordinary retail trade. Sell over a counter and you are not naming every customer.

How long do you keep them? Three years for a private company. Six years for a public one, from the date the records are made. Now the other end of the scale. A sole director keeps the books on loose scraps of paper in a shoebox, mixed with personal bank statements. Several months' cash takings are not recorded at all. Turnover, about £600,000 a year.

The company goes into insolvent liquidation owing £400,000, and the liquidator cannot reconstruct what came in or where it went. That is an offence under s.387, committed by every officer in default. On indictment, up to two years' imprisonment, or a fine, or both. There is a defence of acting honestly where the default was excusable. A shoebox is not excusable.

Records feed accounts. The annual accounts are the formal financial statements for each financial year. A balance sheet, the snapshot of assets, liabilities and equity at the year end. A profit and loss account, the revenue, costs and profit for the year. Notes to the accounts. A directors' report. And for medium and large companies, a strategic report.

The directors' report carries the context. Who the directors were during the year. The principal activities. Any dividend recommended. And the statement about disclosure to the auditors, which we come back to, because that one carries a prison sentence.

Now the fundamental requirement, and our board's problem. The accounts must give a true and fair view of the company's assets, liabilities, financial position and profit or loss. That is s.393, and it is written as a prohibition. Directors must not approve accounts unless they are satisfied. Satisfied. Each of them, personally. A few minutes and no questions is the opposite of satisfied.

Now the offence. Approve accounts that do not comply with the Act, knowing they do not or reckless as to whether they do, and fail to take reasonable steps to stop it. That is an offence under s.414. Take a director who thinks the work in progress is valued far too high. Outvoted, she minutes her reservation and signs anyway. Minuting a doubt does not make an unsatisfied director satisfied. Her course was to refuse.

The mechanics are short. The board approves. A director signs the balance sheet on behalf of the board and is named on it. A copy of the accounts goes to every member and every debenture holder.

Size next, because size drives the exemptions. Three conditions for a small company. Turnover of not more than £15 million. Balance sheet total of not more than £7.5 million. Not more than 50 employees. You need any two of the three. Try it. Turnover £9 million. Balance sheet total £8 million. Forty employees. Small, or not? Small. Turnover passes. Employees pass. The balance sheet fails. Two of three is enough.

One more rule. Meeting or ceasing to meet those conditions changes your status only if it happens in two consecutive financial years. So a company that was comfortably small last year, and this year has turnover of £16 million and 60 employees, is still small. Fail again next year and small goes, and audit exemption with it.

Some companies can never be small. Public companies. Banking, insurance and financial services. And members of an ineligible group, meaning a group containing a traded company, whose securities are admitted to trading on a UK regulated market, or a regulated financial firm. Try this one. A public company on a growth market. Turnover £5 million, balance sheet total £2 million, 30 employees. Audit exempt? No.

The exclusion is s.478. A company that was a public company at any time in the financial year cannot use the small companies audit exemption, whatever its size. The growth market is the distraction. It is not a UK regulated market, so this is not a traded company. Public status alone is enough.

So what does small buy you? Filing. A company in the small companies regime must deliver a copy of its balance sheet to the registrar. It may deliver the profit and loss account and the directors' report. May. So it can leave both off the public register, which is called filleting. Abbreviated accounts were abolished for financial years beginning on or after 1 January 2016.

Filleting changes what the public sees and nothing else. The company must still prepare full accounts and send them to every member under s.423. A member holding 8% who competes with the company still gets the profit and loss account. A trade creditor asking for it gets nothing. And below small sits the micro-entity. Turnover up to £1 million, balance sheet up to £500,000, up to 10 employees.

Audit now. An audit is an independent examination of the accounts by a qualified auditor, who says whether they give a true and fair view and comply with the Act. The default is s.475. Accounts must be audited unless the company is exempt. Read it the right way round. Audit is the rule. Exemption is the escape, and most small private companies take it.

Two exemptions matter. Under s.477 a company that qualifies as small is exempt. Under s.480 a dormant company is exempt whatever its size. Dormant means no significant accounting transaction in the year, and the shares taken by the subscribers to the memorandum are disregarded. Take a company formed to hold a property, which never traded, with nothing in its books but the £100,000 subscribed on incorporation. Dormant.

Qualifying is not enough. The exemption is not available unless the balance sheet carries a statement by the directors. That the company is entitled to it for the year. That the members have not required an audit. And that the directors acknowledge their responsibilities for the records and the accounts. Small figures, signed balance sheet, no statement. Those accounts do not comply.

Groups need care. A company that was a group company at any time in the year is out, unless the group both qualifies as small and is not ineligible. So a small packaging subsidiary owned by a public company whose shares trade on a UK regulated market gets nothing. A separate route in s.479A works by a United Kingdom parent guaranteeing the subsidiary's liabilities.

And there is an override the directors cannot argue with. Members holding at least 10% in nominal value of the issued share capital, or of any class of it, can require an audit. Written notice, at the registered office, at least one month before the end of the financial year. That is s.476. Ten per cent beats the whole exemption.

One case is worth the name here. An investor holding 15% of a listed company read its audited accounts, saw healthy profits, and bought a further 40%. Profits had been overstated by £1.9 million. He sued the auditors and lost. In Caparo Industries plc v Dickman the House of Lords held that the auditors' duty runs to the company, and to the shareholders as a body. Its purpose is informed control, not investment decisions.

Who may do the work? Only a statutory auditor, registered with a Recognised Supervisory Body and independent of the company. Officers and employees cannot audit their own company. In a private company the members appoint by ordinary resolution.

Filing deadlines. A private company has nine months from the end of its accounting reference period. A public company has six months. Size makes no difference. Grow out of small and you gain an audit. You do not lose a day of the nine months. First accounts are the exception. Where that first period runs beyond 12 months, the deadline is 21 months from incorporation, or three months from the end of the period, whichever is later.

Miss it and the penalty is automatic. No fault, no excuses. For a private company, £150 up to one month late. £375 for more than one and up to three months. £750 for more than three and up to six months. £1,500 beyond that. For a public company, double. So a plc more than six months late pays £3,000.

Work one through. Year end 31 March 2024, board approval in November, accounts delivered on 15 February 2025. Which band? Nine months from the year end put the deadline at 31 December 2024, so delivery was about six weeks late. £375. And the clock runs from the year end, never from the date the board approved them.

Which brings us back to our board. Directors are personally responsible for making sure adequate records are kept and the accounts are properly prepared. Employing accountants transfers none of it. A board may certainly engage others to keep the books and draft the accounts. What it cannot delegate is the decision to approve them.

There is one more promise directors make. The directors' report must confirm that they have given the auditors all relevant audit information, and have taken steps to make themselves aware of it. That is a significant personal commitment, and a false statement is criminal.

Knowingly or recklessly giving an auditor information that is misleading in a material particular carries up to two years' imprisonment under s.501. Picture a director signing that confirmation while knowing of a £2 million claim against a reported profit of £1.6 million. That the claim might fail is not the point. The auditors were entitled to be told it existed.

If accounts turn out not to comply, directors may prepare revised accounts under s.454, and the Secretary of State can require revision of defective ones.

A word on how SQE1 tests this. You will not be asked to recite section numbers or case names. You get a scenario, five answers, and one instruction. Pick the best. So learn the rules and the thresholds. The figures in this episode are what carry marks, and the one case name is a memory peg.

If you keep only three pegs, keep these. Section 393, the true and fair view, which each director has to be personally satisfied about before approving anything. Section 477 with section 476, the small company audit exemption and the 10% override that defeats it. And Caparo Industries plc v Dickman, which tells you who the audit is actually for. Not investors. The members as a body.

Four traps. One. Filleting is about the register, not the members. Deliver only the balance sheet to Companies House if you like, but you must still prepare full accounts and send them to every member. The public sees less. The members see everything.

Two. Small company status does not turn on one year's figures. The change has to happen in two consecutive financial years before it bites, in either direction. Three. Persistent late filing costs double. File late in two successive years and the second penalty is doubled, and persistent default can see the company struck off the register.

Four. The oldest excuse in the book. Saying you left it to the accountant is not a defence. Every director carries the duty personally, and a director who cannot verify the figures should refuse to approve them, rather than sign and hope.

Quick check. A private company qualifies as small and has not been audited for years. Its financial year ends on 31 December. On 14 October, two members deposit a notice at the registered office. Between them they hold 12% in nominal value of the issued share capital, and they require an audit for the current year. The directors say the notice is a nuisance, that the members will not pay for it, and that the company is exempt anyway.

Three candidate answers. One. The company can ignore it, because the notice was given more than one month before the year end. Two. The company must have the accounts audited, because members holding at least 10% gave notice in time. Three. The company must have the accounts audited, but only if those members meet the cost. Pause here if you want a moment.

The answer is two. Section 476 lets members holding not less than 10% in nominal value of the issued share capital require an audit. The notice must reach the registered office not later than one month before the end of the financial year, and it cannot be given before that year begins. Both requirements are met here.

Why the others fail. Option one reads the timing backwards. One month before the year end is the latest date for the notice, not the earliest, so an earlier notice is a good notice. Option three reaches the right result on the wrong basis. Section 476 says nothing about who pays. The cost falls on the company.

Five things to take away. One. Adequate accounting records, three years for a private company and six for a public one, and failing to keep them is a criminal offence carrying up to two years. Two. Small means any two of three. Turnover £15 million, balance sheet total £7.5 million, 50 employees.

Three. Audit is the default. Small and dormant companies are exempt, but never a public company, and never where members with 10% require one. Four. Filing is nine months private, six months public, and the penalties are automatic and double for a public company.

Five. Back to our board and the accountants they trusted. The firm's mistake was the firm's, but the approval was theirs, and s.393 asked each of them personally whether they were satisfied. Nobody asked a question, so nobody was. Next time, Company Administration and Compliance.

Practise this topic with exam-style questions at sqe1prep.co.uk. This episode is for education and exam revision only, not legal advice, and we are not affiliated with or endorsed by the SRA or Kaplan.