Public Audit Committee

Meeting date: Thursday, September 21, 2023

Official Report 695KB pdf

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Section 22 Report: “The 2021/22 audit of Scottish Canals”

Welcome back to the second session of this morning’s evidence taking by the Public Audit Committee, which will consider the section 22 report by the Auditor General for Scotland on the audit of Scottish Canals.

I welcome our witnesses, who include representatives from Transport Scotland—that is, the Government—and Scottish Canals. From Scottish Canals, we have John Paterson, chief executive; Maureen Campbell, chair of the board; Sarah Jane Hannah, director of finance and business services; and Richard Millar, chief operating officer. From Transport Scotland, we have Alison Irvine, interim chief executive—good morning, Alison; Kerry Twyman, director of finance and corporate services; and Gary Cox, interim director, aviation, maritime, freight and canals.

We have some questions to put to you about the report but, before we do that, I invite Mr Paterson to make a short opening statement.

On behalf of the leadership team, thank you for the opportunity to attend today. I joined Scottish Canals as accountable officer at the end of May this year. My clear priority was to continue the momentum in the project plan to address the issues raised last year at the Public Audit Committee. Significant progress has been made, which I report to you now.

First, I highlight that Grant Thornton’s external audit report for both years provides an assurance that no matters of significance have been identified outwith the audit testing of property, plant and equipment. As a result, although we accept Audit Scotland’s section 22 observations, we were wholly disappointed to receive a full disclaimer opinion to our accounts. The issue was and remains confined to the valuation of the canal infrastructure. We were not made aware until very late that such an extreme sanction was likely. Right up until March this year, we had expected a modified ring-fenced opinion.

I will give a reminder of how we got here. Scottish Canals has been on a 250-year journey and has existed in various forms. A series of unconnected private enterprises built and funded the canals at various times since the late 1700s. In the 1940s, the canals were nationalised and reformed as one entity, under the name British Waterways. In 2012, English and Welsh canal management organisations separated from British Waterways, leaving Scottish Canals to operate as a public corporation.

Since 1960, canal infrastructure value has, as was correct at the time, been written down to a nil value; only new additions, such as the Kelpies, Bowling harbour and the Claypits in Glasgow, were valued at depreciated historical cost, in line with international accounting reporting standards. Between 2012 and 2020, there remained no requirement to place a financial value on our 2,700 canal assets; the new additions are predominantly from 2012 and total £51 million, and they were already held on our existing financial fixed asset register. That position had been accepted by our auditors, including Grant Thornton, in the years prior to 2020.

When Scottish Canals became a non-departmental public body, there was a change in the rules on how we, as a public corporation, had to value our canal assets. From that point on, we had to comply with the “Government Financial Reporting Manual”—or FReM—which required a full valuation of the canal infrastructure. That covered more than 200 years’ and 141 miles’ worth of assets, not just the additions since 2012, so it was a huge and complex project. We had to take various steps, including analysing our canal infrastructure engineering records; benchmarking the historical costs of key components and structures against modern equivalent assets; and, for the first time, developing a methodology for our varied assets with an external team of specialists. As we reported to the committee last year, it was a substantial and multilayered project, with ambitious timescales for such a small organisation.

Having followed the approved project plan with our best endeavours, I fully agree with the Auditor General’s and external auditors’ statements, made in June of this year, that we have made significant progress. We have done so. Since June last year, our team has worked hard to provide valuations for more than 2,700 assets of canal infrastructure.

I will give the committee a flavour of the range and complexity of those assets. They include 52 aqueducts, including some of the longest in the UK; 19 large reservoirs, many of which are in remote locations; 186 bridges of all varieties, including span, swing and fixed bridges; 164 lock gates of varying sizes and materials, including those at the Falkirk wheel and the Kelpies; and an array of other items along our canals and embankments. All those assets are at varying stages in their life cycles, which makes each valuation unique and specific.

The extensive audit finished in May, since when we have continued to focus on our action plan for addressing the recommendations. Because some cost records relate to periods more than 30 years ago, and so predate our digital records, some limitations have been placed on our audit of evidence, for obvious reasons, but we have worked to address those issues.

We have also reassessed additions and capitalisation dates for all assets completed over the past three years; reviewed and verified the classifications of all structures and waterways; and reconsidered our methodology and residual values and their useful economic lives. We have reviewed key assets and their components to ensure that there is sufficient detail in the fixed asset register, and we have also ensured that judgments and records on historical costs are clear and transparent.

In addition, we have introduced an extensive new project management procedure and associated policies for moving forward, to support the accurate recording of any future investment in our assets. We will now be able to provide the auditors with all asset information in one concise report, in time for the audit for the past financial year, which Audit Scotland has scheduled for commencement in November.

We wholly agree with the Auditor General that this is a serious issue, and we are entirely focused on resolving it. Having noted the Auditor General’s observation that we should consider alternative options for addressing the matter, we have revisited it both internally and at a recent workshop held in partnership with our sponsor, Transport Scotland. Our collective conclusion is that forming a fixed asset register with the valuation of assets remains the best and only viable option at this time.

We have full engagement with and support from our board and Transport Scotland to continue with that complex programme of work. I continue to chair our multidisciplinary project board to ensure that we achieve all stage milestones that it will be necessary to attain if we are to reach our goals.

The valuation is well under way in advance of the external audit commencing in November. However, until we understand the extent of the evidence that will be required to meet the new auditors’ bar of satisfaction, it remains possible that an additional level of evidence might be required to meet external audit approval. To date, it has been our experience that one of our main challenges is finding where that bar of audit satisfaction lies.

In summary, valuing our historic canal network is difficult, but we have made huge improvements. We remain fully focused on continuing that journey. We are committed to working positively with our new auditors, sponsors and colleagues to meet requirements and to provide a true and fair valuation in our annual reports and accounts.

I welcome any questions from the committee.

For clarification, you talk about new auditors, but that is because there is a rotation process, is there not? It is no longer Grant Thornton but a different firm that is auditing your accounts on behalf of Audit Scotland.

I invite our deputy convener, Sharon Dowey, to put a question or two to you.

The committee has noted the steps that Scottish Canals is taking to address the disclaimer opinion on its annual report and accounts for 2021-22. We have also noted its commitment to delivering a set of accounts free from a disclaimer opinion and to laying its annual report and accounts in the new year. However, it appears that Scottish Canals faces a significant challenge in meeting its public accountability responsibilities and complying with financial reporting manual requirements. Indeed, we heard as much in your opening statement. What contingencies do you have in place should you fail to do so?

10:45  

Our plan A is to comply with FReM and continue with the work that we have at this point in time. We feel that it is within reach and viable, and we have aligned all our resources and priorities to achieving that goal of forming a fixed asset register, which we believe will resolve the issue.

As I said in my opening statement, it is difficult to find where the bar of satisfaction of the external auditors rests. It is a very difficult project, but we believe that it is attainable and we are fully committed to resolving the issues. That is our plan A.

Plan B will be to revisit the options assessment that we looked at for alternatives, but the conclusion of the exercise is that plan A is still the way to go, because we believe that it is achievable.

You have talked about the new auditors and the bar that they expect you to reach. Have you managed to have any engagement with the auditors to find out where that bar will be?

It is still early in the process. We have touched base with Audit Scotland, which is doing the audit directly on this occasion—it is our new external auditor—and have had preliminary discussions with it. However, it has scheduled the audit process for November.

Sarah Jane Hannah might want to expand on that.

We found out early in the year that Audit Scotland was going to be doing our audit, and we look forward to working closely with it. It has already gathered a huge amount of preparatory information on the organisation and, a couple of weeks ago, presented its plan at our audit and risk committee meeting. It has assessed Grant Thornton’s external audit recommendations and, on a risk basis, what it thinks is important for this year. It will therefore be concentrating on the valuation, as that is a high-risk area. In order to address the disclaimer for the years 2020-21 and 2021-22, Audit Scotland will look at all the balances for all three of those years.

The audit will not be easy; indeed, it will be quite complex. Moreover, as Audit Scotland is auditing us during November and December, our annual report and accounts will be a bit later—the usual statutory reporting deadline is 31 December. However, we hope to have the annual report and accounts signed and sealed by the board by February.

We are working closely with Audit Scotland. It has made some preliminary inquiries over the past few weeks, but the massive part of the audit will not start until 1 November.

Are you getting enough support from Transport Scotland—I know that its representatives are sitting in the room with us—and is there anything else that it could do to help?

I am sure that Transport Scotland would say that these are our annual report and accounts, and that John Paterson is the accountable officer with regard to that.

Transport Scotland has been helpful to us; it has observer status on our board and we are in regular contact with it. It funded the initial exercise and supported us financially in undertaking the massive valuation of the canal infrastructure, and it continues to play a very supportive role.

Sarah Jane Hannah, I want to go back to something that you said about timing. One of the comments that was made to the committee when the Auditor General gave evidence on 29 June was that

“Timeliness is relevant to scrutiny”.—[Official Report, Public Audit Committee, 29 June 2023; c 9.]

There was, I think, some concern about the late approval of your accounts. Are you going to be on course and on schedule for this year’s accounts?

As I have already said, we will not meet the statutory deadline. A late approval of accounts does not automatically warrant a section 22 report, and a late lodging of accounts does not have any additional negative consequences. During Covid, many United Kingdom Government NDPBs registered their accounts late, so that is not our main issue. Our main issue is getting the work done and getting it done right.

Sarah Jane is entirely correct. Given the timetable that Audit Scotland has given us, and its commencement in November, the work that is under way is not related to section 22.

I go back to the substantive point that a disclaimer has been issued. Again on 29 June, when the Auditor General appeared before the committee, he emphasised that the issuing of a disclaimer is “a serious matter”.

Mr Paterson, you issued a note to accompany the papers today in which you spoke of a “demanding timeframe”—that was your expression. When I look back at the evidence that we took last year, I see that Sarah Jane Hannah confirmed that, even back in the 2012-13 audit—although she was not working in the organisation at that point—Audit Scotland had flagged up the possibility that there might be a requirement to have a fixed asset register. When I look back to November 2019, I see that Scottish Canals looked for a year’s delay at that point, but we are now nearly four years on and the work is still not completed.

Will you comment on that? Why are you still seeking an understanding of the “demanding timeframe” that you face, when it appears to me that you have faced it for quite some time?

Clearly, in 2012, none of us on the panel today was in the position that we are in today. My understanding, from researching the organisation’s historical records on the discussions with Transport Scotland at the time, is that the organisation was clear that it wanted to remain a public corporation and therefore did not have to comply with the FReM. That was not the sole reason: the aspirations of the organisation’s leadership at the time were to have a financial strategy that would encourage further revenue generation through the canals and associated infrastructure activities.

That remained the organisation’s firm intent. There was a lot of discussion back and forth with the Office for National Statistics about qualifying as a public corporation, and I think that, at that time, the organisation was confident that the financial strategy would still result in revenue growth that would keep us as a public corporation. I understand that, closer to 2019, the discussion became more intense, and a form of protest was put in by the organisation to ask for a delay. At that point, it became obvious that, if we had to comply with the FReM, the whole process that we are going through just now could not be done within the appropriate timeframe.

Unfortunately, that is the only explanation that I can offer the committee, as we were not in the organisation to hear that at first hand.

With regard to what happened from November 2019 onwards, the director of finance left the organisation in December 2019, and there was no director of finance until I joined the organisation in March 2021.

I think that it was in May 2021 that we first received our accounts direction from Transport Scotland. In December 2020, we had received some preliminary advice from Grant Thornton on the necessity of valuing our assets. At that time, it was about valuing the assets that were on our books and records. Exactly as John Paterson said earlier, that related to the £51 million-worth of additions of assets in the infrastructure. That is what we targeted to do as soon as I arrived—well, it was in June 2021.

It was only then that it transpired that we did not really have a choice but to value the entire infrastructure. Grant Thornton found the situation uncomfortable. For example, we had spent capital on reservoirs, but there was no underlying valuation of the existing reservoirs. How could we determine that that capital was enhancing the asset and adding value to it without the underlying infrastructure valuation?

The position that we were in from 2021, and when we spoke to the Public Audit Committee in March 2022, was very different from the position now. As we moved towards 2021-22, we had to evaluate the entire infrastructure. You are right that Audit Scotland mentioned that in its 2012-13 report, and I think that the impetus was to ensure that we would not be categorised as an NDPB and to build the portfolio of income so that we were not so reliant on grant in aid.

In the past year since March 2022, we have been on a very different journey involving the valuation of 250-year-old assets, 141 miles of canals and the complex set of assets that John Paterson articulated. That is a very different journey from just valuing £51 million-worth of additions.

But do you accept the findings and recommendations of the Audit Scotland report?

Yes, we accept them. We accept that not complying with the FReM is a serious matter. On the magnitude of the implications that it could have for the public purse, I do not share the Auditor General’s view, for the simple reason that we have always had a fixed asset register—although we perhaps did not have a pound sign in front of each asset’s name at that point, with the exception of the assets that were added from 2012.

The important thing is that there are a number of tiers of controls over how Scottish Canals invests in public infrastructure. We have an asset register and an asset management strategy that looks at the condition, the age and the serviceable life of the asset, and the cost of returning that asset to a good and serviceable standard.

Our investments have always been focused on the right places, they have always been risk assessed and they have always been targeted appropriately. On that side of things, I do not share the concerns that have been expressed about the gravity of the potential consequences of not complying with the FReM. As an organisation, we did not have to comply with the FReM until 2020. The canals have survived for 200 years. We have successfully repurposed the canals and reinvented them so that they can be used for health and wellbeing, economic regeneration and tourism, rather than being used for moving coal, which is predominantly what they used to be used for. Not complying with the FReM is a serious matter, but I think that the potential for misdirection of public funds is absolutely negligible.

It is important to reflect not only on the Auditor General’s section 22 report but on the detail of Grant Thornton’s external audit report. I will quote a couple of things that it said. It said that there was no evidence of management override of controls; there was no indication of fraud or inappropriate management bias in accounting estimates; there were no exceptions in relation to the occurrence or accuracy or completeness of revenue; there were no exceptions with regard to the cut-off of either income or expenditure; and investment properties were properly valued, as they always have been.

The audit options for Grant Thornton were to give an unqualified clean opinion, a qualified opinion, a disclaimer opinion or an adverse opinion. An adverse opinion is not what we have here. That is when an auditor says that what it has before it absolutely does not reflect the books and records. That is not what we are talking about.

As John Paterson said, up until March this year, we thought that we would have a qualified opinion. That usually happens when we do not have the information or we cannot get the information within a realistic timescale. We employed our expert valuation team in July, and it completed the valuation in November. We have been audited from October to May. That is eight months’ worth of auditing.

In May, we spoke to the audit and risk committee about extending the audit for another two or three months. That would have involved doing additional audit testing and trying to get Grant Thornton to get comfortable with some of our judgments and estimates. However, we are a very small team. I have one technical financial accountant, one systems accountant and two management accountants—in other words, four people—and we have not had a head of finance since February. To impose that additional two or three-month burden on a very small team when we needed to work on other aspects of the business, including business as usual, would have been quite a burden.

We believe that a qualified opinion would have been more appropriate than a disclaimer opinion, given that we did not have the necessary information and could not get it in time.

I will quote back to you what the Auditor General’s report says. Paragraph 15 includes expressions such as

“could not be supported by evidence”,

“lack of data”, “potential errors”, “There were errors”, “a lack of documentation”, “several errors” and so on. The report contains quite a catalogue of criticisms of your methodology, all of which has led to a decision not to issue approval of your accounts. As I mentioned earlier, that was described by the Auditor General as “a serious matter”.

From my point of view, I do not want us to be here again in a year’s time, and I am sure that you do not want that, either, but it feels as though we are hearing the same arguments that we heard a year ago. I think that we need persuading that things are moving forward.

Graham Simpson wants to come in.

I want to follow up on that. Sarah Jane Hannah, when will this exercise be completed? Regardless of whether you think that it is worth while doing, you are doing it. When will it be finished?

We are due to receive a revised valuation for the year ended 2022 this week. We will then do additional work, and we will receive the revised valuation for 31 March 2023 in the next three weeks, so that we can meet the auditor’s deadline of giving it an annual report and accounts on 1 November.

11:00  

I thought that you said that it was going to be late.

The lodging of our accounts will be late; they will be lodged after 31 December. However, the audit starts in November, and we are responsible for handing over all of that information.

Will the information that you get this week be a valuation of all your assets?

We have done a significant amount of work to revise that valuation and address some of the external audit recommendations. We have reassessed all our additions and the capitalisation dates, which removes the issue in the audit report in relation to possible duplication of assets. We have reviewed and verified the classifications of all our structures and waterways, which account for 93 per cent of our £1.9 billion historical cost.

We have already reconsidered some of our methodology, in particular with regard to residual lives. The overall potential error that Grant Thornton identified in relation to residual values was somewhere in the region of £20 million. We are talking about £1.8 billion of infrastructure. There is a materiality level that audit has to abide by that does not necessarily reflect the full value of the assets.

We are looking at our judgments and estimates that Grant Thornton could not get comfortable with and trying to embolden our justifications, but it is very difficult. In a letter of representation, any accountable officer will speak to the external auditors about the judgments and estimates of any set of annual report and accounts, and there will always be judgments and estimates. It is up to us to better articulate those and to work closely with Audit Scotland to see whether that helps the process. However, it is a really complex valuation—there is no getting around that.

I completely understand that it is complex and difficult, but you need to do it. Have you discussed with Audit Scotland how you are going about that, and are you asking it at every step what the right way to do it is? You do not want to be in a position in which Audit Scotland has said, “Sorry, you’ve done that the wrong way. Go away and do it again.” and we are back here again in a year’s time.

Yes, we have given it all our planning documentation and said, “This is our approach.” We have never before produced a fixed asset register in which all the assets are in one place. We have a very detailed engineering asset register, but we have never had it on a financial basis in one place. To be fair to Grant Thornton, not having that transparency makes things very difficult to audit.

Richard Millar could probably talk more about that evidence.

The process has been very challenging and, as Sarah Jane Hannah has said, we had four months to do it. We took the process very seriously. After the Public Audit Committee meeting in March last year, we had to go through public procurement to get the right experts on board, which we did. We worked very closely with Ernst & Young during July, August and September, right through to getting the fixed asset register in place.

Some of the challenges related to rights and obligations. That comes through in the report. However, of the 109 things that were sampled by the auditor, 107 were absolutely clear and two related to partnership structures that had been built previously. In the past few months, we have been working extremely hard to refine and learn from what Grant Thornton showed us, to develop and deliver that, and to mature the fixed asset register.

We are now in a good place in that we have got the fixed asset register into a single document. That was always a challenge, because we had our plant on one side and our property on the other, and we had the task of understanding the engineering side of the business. As John Paterson said, we had an asset management strategy, so we had everything in sight, but we needed to change it from having an engineering purpose to having a financial and accountancy purpose. That is the task that we have been doing over the past few months.

We are definitely moving in the right direction. The fixed asset register will require to mature over years but, for 1 November, we are heading in the right direction to be able to put one comprehensive piece of database on the table for Audit Scotland to look at.

I want to be sure that I understand. You will have a list of all your assets. Will there be a value attached to each of those assets?

Yes, every single asset. That is also a challenge because, as we have said—and as the convener said at the start of the meeting—those assets are 250 years old. The majority of them—75 to 80 per cent of them—were built between 1768 and 1822. We could have gone back to Thomas Telford’s accounts and taken a straight line from there, but we developed the register by looking at it from the point of view of a depreciated replacement cost. Scottish Canals has done a lot of work on these assets. In the past 25 years, an investment of £200 million has gone into the canals. The majority of that was third party-funded investment, and a great deal of it was European-funded investment, too, so you can imagine how audited that was.

We have that data, and we have evidence for each of those structures. The challenge is taking those and applying them to the older structures and getting the depreciated value, but we are in place to do that.

I have one more question, if that is okay, convener.

Yes—if it is a short one.

Yes, it is a short one. Mr Paterson, you mentioned a financial strategy, and I think that you said something about the ability to earn money from the canals, which is really important. Are there any restrictions on what you can do in order for Scottish Canals to earn money?

The canals’ potential is still untapped. We could make massive improvements. We have invested heavily to become, in effect, an active transport provider. The towpaths are now well-used cycleways and walkways, and we have attracted third-party funding from Sustrans and others to do that.

We would like to grow our revenue further. Things are very tight. Maintaining the canal network does not just involve capital to replace lock gates and the like; it involves revenue for dredging and to cut trees and weeds, for example. The revenue position is tight, and we are looking to work with other public sector organisations on the shared services agenda to reduce our overheads.

We want to develop the canals’ potential further by investing money in projects that we hope will unlock that potential. I am thinking about accommodation; we could play a role in the housing side of things. Living by water is the theme of our corporate plan. We could also have a role in providing holiday accommodation. We could grow our revenue potential in a number of areas, and there will be yet-to-be-discovered opportunities across the canal network.

One of our frustrations as a public body relates to the fact that we have, quite rightly, to invest wisely, which means that we are not allowed to speculate to the same degree that a private sector organisation might. Our risk appetite needs to be low, and we need to be assured that our business cases are very robust for any investments. However, yes, there is more to come from Scottish Canals.

Thank you very much.

We are pressed for time, but I turn to Colin Beattie to ask a series of questions.

My first question, which is on sponsorship, is for Transport Scotland. Transport Scotland is the sponsor team for Scottish Canals. Can you describe the support that you provide to it?

I was pleased to hear John Paterson confirm that Scottish Canals is content with the level of support that it has been getting from my sponsorship team. I would like to focus on some of the key things that we have done over the past 12 months, since the last time we were at the Public Audit Committee. I will then bring in Gary Cox to say whether there is anything else that it would help the committee to be aware of.

We have supported the team by reviewing its valuation methodology and plans. We sought agreement from the cabinet secretary to bring in Ernst & Young to help with that work. We provided advice on how Transport Scotland values its assets in case there was any learning that the team could take from that. We have been party to some of the meetings between Scottish Canals and the auditors, and we have helped where we can to provide advice to the team on some of the questions that have been asked.

I hope that the committee will take from that that the sponsorship team has had quite an involved role, particularly on this really important issue, because we want to support Scottish Canals to get to a position where we do not have to come in front of your committee and answer such questions.

Would Gary Cox like to add anything?

A clear role for me as AMFC director and for the sponsorship team in my directorate is set out in “Scottish Canals Framework Document”. That is the basis for the relationship, which is close. I have two people who work day to day with Scottish Canals. A lot of that work involves day-to-day problem solving, financial monitoring and sharing of information that is relevant to all public bodies.

We have a good team working with a good team at Scottish Canals, and my job is to ensure that that relationship stays positive and that Scottish Canals continues to work in line with the Government’s broader agenda.

Have you asked for additional support from the Scottish Government’s public bodies unit and made use of any of the various tools that it provides to support you in your role as a sponsor team?

Lessons are shared across all public bodies. The public bodies unit in the Scottish Government identifies common themes and problems across the public bodies, and it has a mechanism for sharing that. Part of our role as a sponsorship team is ensuring that Scottish Canals is aware of those broader initiatives or common problems and the solutions that have been identified.

That is an important point in relation to the work that Scottish Canals is going through just now. At the end of it, when it is all put to bed, there will be lessons from the process that Scottish Canals will want to share with the wider public sector, other public bodies and, indeed, other parts of Transport Scotland. We want to try to pull that together once the heat has been taken out of it and the accounts have been settled. At that point, we will share lessons from the process with other public bodies to see whether that is useful.

To be clear, have you asked for support from the Scottish Government’s public bodies unit?

No, I am not aware that we have.

You have not. Do you have the skills and expertise in Transport Scotland to give that level of sponsorship support in what seems to be a specialised area?

That is the role of the sponsorship team. We bring in expertise from other parts of the Scottish Government to help Scottish Canals, particularly the expertise that exists in Kerry Twyman’s finance team in Transport Scotland. The support that we have given as a sponsorship team has been supplemented by support from other bits of Government, in particular finance colleagues.

The public bodies unit does not have dedicated finance support. We have engaged closely with the relevant finance teams in the Scottish Government. We have engaged closely with the governance and risk team on the accounts direction questions, where we need to implement “The Government Financial Reporting Manual”—FReM—and not being able to ask for exemptions from FReM. We have also engaged closely with our Scottish Government finance business partner support team and looked at other instances of where public bodies have gone through similar classification changes and how they have applied valuation, for example.

That level of expertise does not rest within the public bodies unit, so we have gone straight to the source on the finance support. However, high-level governance questions would be for the public bodies unit. As Gary Cox said, we work closely with it, disseminating information and best practice across all our sponsored bodies via our sponsor units in TS, so that will have all gone to the Scottish Canals team.

However, you have gone outside to get consultant support. At least, Scottish Canals has.

Indeed.

It has spent £500,000 on that, with another £100,000 in the past financial year.

Indeed.

That is quite a lot of money.

Indeed. Sarah Jane Hannah can probably say more on that.

We looked closely at the trunk road network, which was the closest infrastructure asset that we had. However, the valuation model for that is very complicated. I will not go into detail, but it is all about layers of concrete and things. When we did the comparison, we were able to share high-level principles and understanding, but that did not have direct read-across.

When we examined the hours and hours of work that it would take and the technical expertise that was needed, it was felt that that was not on hand within the Scottish Government or Transport Scotland. We did not have that level of dedicated resource and it was felt that, to get the work done quickly and with the level of expertise and dedication needed, in this instance, an outside consultant would offer value for money.

It is not as quick as you might think, is it?

11:15  

For all the reasons that I have mentioned, Mr Beattie, the project is incredibly complex. The asset base is huge, and no one had ever valued a canal network before. There was no methodology in place, and coming up with one challenged even the experts whom we consulted. We tested the methodology with our external auditor, and it was agreed. I think that the level of comfort of evidence that was available to the external auditor proved to be the bar of satisfaction that we were to reach. That bar of satisfaction has been our biggest challenge all along.

Throughout, the process has felt akin to the teacher marking your exam paper and telling you where you got it wrong. However, we heard that it is not the job of the external auditors to teach Scottish Canals how to value a canal network, so we found ourselves unable to pass the exam question and having to teach ourselves, in effect.

With regard to the amount of money, obviously, we would rather not spend £600,000 of taxpayer’s money on anything like this.

Is there going to be more this year?

No. It is just an extra £100,000.

Does that finish it?

In future years, we will have to go out to tender. Our expert valuers will provide a valuation for the year end in 2022 and for the year end in 2023, and we will provide the fixed asset register for going forward. The valuers will provide us with enough information. It says somewhere in the Auditor General’s report that we will not own the model, but we will own enough of the information to allow us to go out to tender so that, in future years, we can do a proper tender process. Because the valuation and the fixed asset register will already exist, the exercise should be much smaller.

That happens at the end of every single year. To provide an annual report and set of accounts, you have to value your investment properties, which we do already, and we will also have to do an actuarial valuation and a corporation tax computation. Those are all provided externally.

It was really only the big four accountancy firms that could provide the Royal Institution of Chartered Surveyors valuers who had enough experience. They had canal experience and experience of waterways, utilities and massive infrastructure projects, but they needed the mix of the valuation experience and the technical accounting experience.

You made an important point about ownership of the model. The current consultants own that model, so I presume that Scottish Canals will have to pay them something.

No, we will have that—

They are going to give you that for free.

—so that we can go out to tender for other organisations.

That is good news.

Colin, I am really sorry to interrupt you but we are up against time and I know that Willie Coffey has some questions that he wants to ask. The truth of the matter is that we have been very busy this morning and maybe, rather than ask the panel lots of questions, we can write to you with some of the questions that we do not get to and you can respond. The committee can consider how best that could be prosecuted, if you will pardon the expression.

John Paterson, you covered a lot of ground in your opening statement. I have been a member of the Public Audit Committee and its predecessor committees for more years than I can remember, and I have dealt with section 22 and section 23 reports and so on from Audit Scotland.

I have to say that the response that you are giving to the committee does not appear to be consistent with your accepting the recommendations in full. You said that you do, but I do not get that impression from some of your responses. You said that you do not “share the gravity” of the situation and that the potential for the misapplication of public funds is “negligible”. Do you accept that you are absolutely required to comply with the Treasury’s guidance on this? If you do not do that, where does public assurance come from?

Just to be clear, we fully accept the Auditor General’s recommendations but the point of disagreement is perhaps on the level of sanction that has been applied, given the fact that the matter was confined to our fixed asset register, and that there was a clear plan and it was a work in progress. It is the sanction that we perhaps disagree with, not the recommendation in the section 22 report. We felt that it could have been a ring-fenced opinion that would not have triggered the section 22 report and the adverse comments that we received. We were on track for fixing the issue. We remain on track and fully focused on fixing the issue, and we take it very seriously. We keep our board and Transport Scotland fully appraised at all times and all parties are aligned to the fact that we are fully resourcing and prioritising the matter and that we will remedy it in due course.

Just to clarify, we fully accept the auditor’s opinion, but we took issue with the level of sanction; we feel that there could have been alternative ways of addressing the issue.

But do you get why I am saying this to you? If you do not comply, there is no public assurance, which, surely, is a grave matter. I know that getting there is a difficult and complex process, but your not being able to give the public assurance on the matters on which we seek that assurance has to be regarded as a grave matter.

It absolutely is a grave matter. Had the Auditor General used the term “potentially serious”, I would have fully aligned with the statement—it is potentially serious. However, as I have mentioned previously, there are tiers of controls around how we target and ensure that we fund our investments in assets carefully. A clear methodology exists for doing so, so the suggestion that we could be misappropriating or misdirecting funds in any way is wholly unsubstantiated. On that basis, we disagree with the level of sanction.

Okay, I will leave that point there.

One of the things that you did not mention was the amount of money that you have spent on consultant fees—I think that it is now £600,000. Is the public getting value for money from that exercise and is it helping you to understand what that bar of audit satisfaction, which was mentioned earlier, is? Is the exercise allowing you to get there? If you come back next year, that absolutely has to be sorted. Surely you accept that.

We accept that. To be clear, we had no choice—we had to do a crash course in a short period of time. Our intention had been to avoid this section 22 disclaimer for a second year. There was no choice—that was the only way of doing it as no methodology was in existence. Even the experts in surveying found it a challenging exercise. There was no alternative.

As mentioned previously, most organisations would do that exercise over a sustained period—they would do a five-year rolling programme of revaluing assets. In all probability, they would cover the same ground over five years, but we had to do it in a short space of time. Therefore, once we reach the point of an agreed fixed asset register and pass the test of external audit and the bar of satisfaction, I foresee a sustained programme—over, say, a five-year cycle—of revaluing our canal assets in the way that many other public bodies do with their assets.

This is my last question. You also mentioned the separation between English and Welsh canals and Scottish canals. Was any opportunity taken to consult with the organisation there about how it went through the process? Is it in the same boat—literally—as you, or has it completed this exercise and complied fully?

My understanding is that the Canal and River Trust is a charity, therefore the FReM does not apply to it in the same way as it does to us. Richard Millar can explain as he has lots of contact with his former colleagues, who were fully involved in the process and are trying to assist.

In 2012, Scottish Canals remained in the shell of British Waterways and we came under the Scottish Government, where in England and Wales the canals became the Canal and River Trust, which is a complete charity. We are in regular contact with it and other global organisations to talk about canals. We know that Waterways Ireland is going through a similar process as ours, but it is behind us. We have spoken to a number of European and other organisations; we cast our net wide to see whether there was a methodology out there for waterways and this sort of work. We are at the very front of the process, but it costs money and takes time.

However, as Kerry Twyman said earlier, we are convinced that the team from EY has the experience of building fixed asset registers from the ground up. They are working in the middle east and in places such as Africa, where they are starting from the ground up. Although the process is unfortunately very expensive, it will be at the core of our business. There is a connection between the fixed asset register, our asset management strategy and the ability for Government to see what is sitting on the books in heritage infrastructures. As Transport Scotland said earlier, there is a lot to be learned for other organisations across the public sector that will probably follow us in this process.

One of the initial things that we did was set up a meeting between the Transport Scotland and Scottish Canals finance teams and our counterparts in the English and Welsh body, during which we had a fascinating discussion on technical accounting—what they were doing and what we were doing. However, it became clear that, as Richard Millar and our colleagues have outlined, because of the way in which decisions about control were taken in 2012, the Canal and River Trust remained a charity in a completely different type of government body—there was no Office for National Statistics reclassification. Therefore, it does not need to abide by the FReM and has stuck with the historical nil valuation. It was interested in what would need to be done up here, but a completely different set of rules applies to it.

That is very helpful. I thank you all for responding to those questions.

I do not know whether Graham Simpson has any further questions to put. I he had not, that concludes this morning’s session.

I thank all the witnesses from Transport Scotland and Scottish Canals for their time and evidence. We might want to follow up on some points, and we, as a committee, will need to consider our next steps; for example, whether we need to bring you back in before next year or whether we are not going to see you again for a long time or whatever. All that is not entirely in our hands, you understand.

I thank you again for your time and patience this morning. As I said, we will consider our next steps. There are certainly some points that we might want to follow up with you in writing.

I draw the public part of this morning’s committee to a close.

11:26 Meeting continued in private until 11:32.