Accounting for the deficit: how USS institutions have misstated their accounts

NOTE: this article was written in the context of the 2019/20 strikes before the coronavirus crisis. For an analysis of how institutions are affected financially by the pandemic please see USS Briefs #95.

In his press response on behalf of Higher Education employers prior to the second round of this year’s strike action, Mark E. Smith, chair of UCEA and vice chancellor of the University of Southampton, lamented the unaffordability of UCU demands on  pay, casualisation, workload, and equality. Institutions are “on the edge or beyond”, he says, pointing to the deficits reported in recently released annual accounts: “look at the number of institutions that have reported deficits this year, it’s a very difficult position for them”.

This article addresses the flawed accounting for the USS deficit, based on the widely discredited 2017 valuation, and the generation of artificial losses that conceal the true financial position and performance of USS institutions across the sector. The article concludes that the accounting treatment of the USS provision in 2018/19 in UK Higher Education, and the misleading narrative that often accompanies it, appears to have been a widespread accounting manipulation; one that is indicative of a wider crisis of accountability and governance across the sector.

A questionable accounting treatment

In the recently released 2018/19 accounts, USS institutions posted large deficits due to the ‘one-off’ costs of the 2017 USS recovery plan. King’s College London recorded a deficit of £154m, while other institutions recorded similarly huge losses – the Universities of Birmingham, £115m; Leeds, £98m; Manchester, £75m; and Prof. Smith’s own Southampton, £71m. All of these institutions, and many others, would have posted comfortable surpluses if not for large one-off pensions adjustments. These pensions adjustments are detailed in the accounts for each USS institution, either on the face of the Statement of Income and Expenditure or within the staff costs note, and relate to the total value of employer contributions towards the 2017 deficit recovery plan based on additional employer contributions of 5% of salaries which would, in fact, never be made.

The controversy began with whether or not those losses should have been included as ‘above the line’ costs in the accounts in the first place, rather than adjustments to reserves, and, if so, why they were not based on the correct (or more recent) amounts following the updated recovery plan of 2% contributions under the 2018 valuation.

Bringing pension adjustments into the body of the Income and Expenditure statement is unusual in itself, and relies on a rarely used clause in the UK financial reporting standard FRS102. The first step is to declare that the actuarial gains and losses of the USS scheme cannot be reliably measured for individual institutions as they were not able to assess their share of the overall assets and liabilities of the scheme (which would normally be done in consultation with the scheme actuaries based on local HR data). Under FRS102 this means that the employer can instead post the in-year costs only to the accounts, above the line (i.e. in-year employer contributions). However, FRS102 also allows for this in-year cost to include the present value of any deficit recovery plans, assuming such plans would be infrequent. The details of the 2017 valuation deficit is presented in the pensions note to the accounts of each USS institution, and each employer then estimates their share of the scheme deficit based on local HR data.

This is not technically wrong, but it is somewhat conspicuous that employers are arguing that, on the one hand, they are unable to estimate their share of the overall scheme assets and liabilities (which would lead to one accounting treatment – an actuarial gain/loss posted to reserves), but then are able to estimate their share of the scheme deficit in order to calculate the cost of the provision based on much of the same employee data. This is done following advice from Universities UK in the HE SORP, but it should be noted that the FRC emphsise in their guidance to pension accounting that it is the standard treatment for defined benefit accounting treatment that is preferable, and they provide detailed guidance on how to adopt regular defined benefit accounting so as to avoid regularly posting actuarial adjustments above the line [1].

Where employers have little to no defence, however, is in their refusal to include the details of the updated 2018 valuation in their provisions, insisting instead upon the higher costs associated with widely flawed and discredited 2017 valuation. Their refusal to include the latest contribution rates means the cost recognised in the 2018/19 accounts is based on deficit recovery payments that employers knew would never be made. This fact was known well before the accounts were released, and in many cases would have been known before they were even drafted, as they were shared with employers on the 23 August 2019 [2] and confirmed on the 13 September 2019 [3].

According to FRS102 the accounts should be updated to reflect any events for which the conditions existed at year end, while the calculation of the pension adjustment itself is an example of an ‘accounting estimate’ which should be based on all available information prior to the publication of the accounts. But instead employers have argued that the notification in September was a ‘non-adjusting event’. Given that this ‘event’ related to the estimate of the supposed deficit as at 31 July 2019 this is clearly not correct, and appears at best to reflect a basic error of understanding of an important accounting principle:


[FRS 102, para 32.2 & 32.3]

But assuming this was done simply in error is not credible. Regulators have previously cited concerns over failures to correctly adjust for post balance sheet events and emphasise the importance of including the latest available information in the accounts. In the case of UK Higher Education, this appears to have fallen on deaf ears despite the adjustment being debated across the sector and in consultation with all of the major audit firms. The result is that the large majority of the one-off pension costs ought never to have been recognised in the 2018/19 accounts, so that the deficits reported across USS institutions are grossly and materially overstated. Given the subsequent references to these artificial deficits in negotiations and in publicity material from employers during ongoing strike action it is hard to conclude that this was anything other than intentionally misleading.

Where were the auditors?

Disappointingly, all of the above appears to have been signed off by auditors, often without reference or emphasis in audit reports of USS institutions. This means that not only are the accounts likely to be materially misstated, but the audit opinions are wrong as well. On closer inspection, this lack of oversight from the audit profession is not especially surprising – with wide ranging audit failures in recent years, from Lehman Brothers during the financial crisis, to fraudulent reporting at Tesco, to the collapse of BHS and Carillion to name but a few. With reference to the recent collapse of Carillion and the role of the major audit firms, one MP declared during the 2018 parliamentary inquiry: “I wouldn’t trust you to audit the contents of my fridge”. This was followed up by the Kingman review that recommended the complete overhaul of audit regulation in the UK amid persistent calls to break up the UK audit market monopoly.

In the case of the record deficits reported by King’s College and the Universities of Birmingham, Leeds, Manchester, and Southampton; these five sets of accounts cost a combined £870,000 in audit fees and other services. Yet a review of these audit reports leaves a lot to be desired. Of the five reports, only the auditors of Leeds (Deloitte), Manchester (Ernst & Young) and Southampton (Deloitte) produced ‘long form’ audit reports with any detail of the audit work done, and of these only Leeds and Southampton identified the pensions provision as a significant risk, while the auditors at Manchester argued that it was not a significant risk because it had been accounted for as a defined contribution rather than as a defined benefit scheme (apparently missing altogether the subjective £165m adjustment on the face of the University of Manchester Income and Expenditure account). The auditors of King’s (KPMG) and Birmingham (Deloitte) meanwhile produced only ‘short form’ reports with no detail on the audit approach whatsoever, and no mention of the pension adjustment as a key risk. To make matters worse when the accounts of the University of Birmingham were released the local UCU branch immediately noticed that the staff numbers were wrong, omitting more than 200 staff working at University subsidiaries, while another key uncertainty relating to a £101m Dubai campus contract had also been omitted from the auditors’ report.

With most of the 2018/19 accounts now released, few if any auditors across the sector appear to discuss the significant affects of not using regular defined benefit accounting for the USS scheme, or make any mention the exclusion of the revised contribution rates under the 2018 valuation, both of which have a highly material affect on the bottom line.

A wider crisis of governance in Higher Education

The broader lesson here is surely that accounting and reporting practices in UK Higher Education represent a ‘closed loop’ of accounting, reporting, and regulation. The audit reports are made ‘solely for the University Council’, which is a small group of largely nominated individuals including very senior University managers and typically vice chancellors, the minutes of which are often heavily redacted. The University Council runs the University and the audit committee appoints the auditor, usually at the recommendation of the Finance Director. The auditors consist of a small monopoly of firms with very similar practices and a track record of audit failure who take their lead from Universities UK (UUK) and the British Universities Finance Directors Group (BUFDG). UUK write the accounting guidance and their board is made up of the same vice chancellors who sit on their University Councils, while it is the members of the BUFDG who prepare the accounts in the first place. And all of this is regulated by a regulator described by parliamentary committee as not being fit for purpose. With strike action ongoing, is it any wonder that the accounts represent and reflect the interests of employers – generating conveniently contrived deficits that emphasise the volatility of the defined benefit element of the USS and the unaffordability of a fair pay settlement?

References & notes:

[1] FRC (2019) Amendments to FRS 102 The Financial Reporting Standard applicable in the UK and Republic of Ireland, paragraph B28.8E: “The change to defined benefit accounting can then be seen as a change to an improved measurement basis, using more complete information, to measure the same underlying obligation”.



[4] Total audit fees with page references to 2018/19 annual reports: King’s College London £105k (pg.34), University of Birmingham £172k (pg.58), University of Leeds £182k (pg.56), University of Manchester £169k (pg.57), University of Southampton £242k (pg.53).


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