Orkney Islands Council Pension Fund

Audit Report for the year ended 31 March 2025

Prepared on 29 September 2025

For presentation at the Orkney Islands Council Pension Fund Sub-Committee Meeting on 28 October 2025

IMAGE: Cover page for the Orkney Islands Council Pension Fund Audit Report for the year ended 31 March 2025, prepared on 29 September 2025 for presentation to the Pension Fund Sub-Committee on 28 October 2025. The cover includes the KPMG logo and a blue and purple abstract graphic.

Introduction

To the Pension Fund Sub-Committee of Orkney Islands Council Pension Fund

We are pleased to have the opportunity to meet with you on 28 October 2025 to discuss the results of our audit of the annual accounts of Orkney Islands Council Pension Fund, as at and for the year ended 31 March 2025.

We are providing this report in advance of our meeting to enable you to consider our findings and hence enhance the quality of our discussions.

This report should be read in conjunction with our audit plan and strategy report, presented on 21 May 2025. We will be pleased to elaborate on the matters covered in this report when we meet.

How we deliver audit quality

Audit quality is at the core of everything we do at KPMG, and we believe that it is not just about reaching the right opinion, but how we reach that opinion.

We consider risks to the quality of our audit in our engagement risk assessment and planning discussions.

We define ‘audit quality’ as being the outcome when:

• Audits are executed consistently, in line with the requirements and intent of applicable professional standards within a strong system of quality management; and
• All our related activities are undertaken in an environment of the utmost level of objectivity, independence, ethics and integrity.

The engagement team

We issued an unmodified audit opinion.

There have been no significant changes to our audit plan and strategy except the materiality numbers. Materiality in the audit plan was based on total assets as per the 31 March 2024 audited accounts; however, it was updated using revised balances as per the 31 March 2025 draft accounts for audit.

We expect to issue an unmodified Auditor’s Report, subject to receipt of the information outlined on page 4 upon signing.

We draw your attention to the important notice on page 3 of this report, which explains:

• The purpose of this report
• Limitations on work performed
• Restrictions on distribution of this report

Yours sincerely,

Julie Radcliffe

Contents

• Introduction — 2
• Important notice — 3
• Our audit findings — 4
• Significant risks and Other audit risks — 5
• Audit risks and our audit approach — 6
• Wider Scope — 11
• Appendix — 26

Important notice

Audit Scotland (AS) has issued a document entitled Code of Audit Practice (the Code). This summarises where the responsibilities of auditors begin and end and what is expected from the Board.

External auditors do not act as a substitute for the Board’s own responsibility for putting in place proper arrangements to ensure that public business is conducted in accordance with the law and proper standards, and that public money is safeguarded and properly accounted for, and used economically, efficiently and effectively.

Purpose of this report

This Report has been prepared in connection with our audit of the annual accounts of Orkney Islands Council Pension Fund, prepared in accordance with International Financial Reporting Standards (‘IFRSs’) as adapted by the Code of Practice on Local Authority Accounting in the United Kingdom 2024/25, as at and for the year ended 31 March 2025.

This Report has been prepared for the Pension Fund Sub-Committee of Orkney Islands Council Pension Fund, a sub-group of those charged with governance, in order to communicate matters that are significant to the responsibility of those charged with oversight of the financial reporting process as required by ISAs (UK), and other matters coming to our attention during our audit work that we consider might be of interest, and for no other purpose.

To the fullest extent permitted by law, we do not accept or assume responsibility to anyone, beyond that which we may have as auditors, for this Report, or for the opinions we have formed in respect of this Report.

This report summarises the key issues identified during our audit but does not repeat matters we have previously communicated to you by written communication.

Limitations on work performed

This Report is separate from our audit report and does not provide an additional opinion on the Pension Fund’s annual accounts, nor does it add to or extend or alter our duties and responsibilities as auditors.

We have not designed or performed procedures outside those required of us as auditors for the purpose of identifying or communicating any of the matters covered by this Report.

The matters reported are based on the knowledge gained as a result of being your auditors. We have not verified the accuracy or completeness of any such information other than in connection with and to the extent required for the purposes of our audit.

Status of our audit

Our audit is complete. However, we await receipt of the information outlined on page 4, prior to signing the audit opinion.

Restrictions on distribution

The report is provided on the basis that it is only for the information of the Pension Fund Sub-Committee of the Pension Fund; that it will not be quoted or referred to, in whole or in part, without our prior written consent; and that we accept no responsibility to any third party in relation to it.

Our audit findings

Significant audit risks

Key accounting estimate

Uncorrected audit misstatements

Misstatements in respect of disclosures

Outstanding matters

Required at the time of receiving the signed financial statements:

• Signed financial statements
• Signed letter of representation
• Subsequent events confirmation

Significant risks and other audit risks

We discussed the significant risks which had the greatest impact on our audit with you when we were planning our audit.

Our risk assessment draws upon our historic knowledge of the business, the industry and the wider economic environment in which Orkney Islands Council Pension Fund operates.

We also use our regular meetings with senior management to update our understanding and internal audit reports.

During our audit we identified risks of material misstatement as highlighted on the graph below.

See the following pages for the cross-referenced risks identified on this slide.

Other audit risks

• Level 1, 2 and 3 investments are not complete, do not exist or are not accurately recorded.
• Valuation of Level 1, 2 and Level 3 investments is misstated.

Significant risks

• Management override of controls.

Key

• Presumed significant risk
• Other audit risks

Potential impact on financial statements

High

Likelihood of material misstatement

Low — High

IMAGE: Risk matrix showing three numbered risks plotted by likelihood of material misstatement and potential impact on financial statements. Risk 1, management override of controls, is the presumed significant risk and is plotted toward the higher-likelihood, medium-impact area. Risks 2 and 3 relate to investment completeness, existence, accuracy and valuation and are plotted around the medium-likelihood and medium-impact area.

We have split the risk related to valuation of investments between level 3 and level 2, mainly due to the different nature of these assets.

Fair values for level 3 assets would require at least one input whose valuation is based on unobservable market data whereas, level 2 assets are those instruments which are traded in a market that is not considered to be active or where valuation techniques are used to determine fair value and where these techniques use inputs that are based significantly on observable market data.

Audit risks and our audit approach

1. Management override of controls (a)

Fraud risk related to unpredictable way management override of controls may occur

• Professional standards require us to communicate the fraud risk from management override of controls as significant.
• Management is in a unique position to perpetrate fraud because of their ability to manipulate accounting records and prepare fraudulent accounts by overriding controls that otherwise appear to be operating effectively.
• We have not identified any specific additional risks of management override relating to this audit.

Note: (a) Significant risk that professional standards require us to assess in all cases.

Our audit methodology incorporates the risk of management override as a default significant risk.

• Assessed accounting estimates for biases by evaluating whether judgements and decisions in making accounting estimates, even if individually reasonable, indicate a possible bias.
• Evaluated the selection and application of accounting policies.
• In line with our methodology, evaluated the design and implementation of controls over journal entries and post closing adjustments.
• Assessed the appropriateness of changes compared to the prior year to the methods and underlying assumptions used to prepare accounting estimates.
• We evaluated the design and implementation of automated controls used in the financial reporting process, where automated controls are in place.
• Assessed the business rationale and the appropriateness of the accounting for significant transactions that are outside the component’s normal course of business or are otherwise unusual.
• We performed the following over journal entries and other adjustments:
  • Evaluated the completeness of the population of journal entries.
  • We determined high risk criteria and select journals based on this criteria for testing.

1. Management override of controls (cont.)

Fraud risk related to unpredictable way management override of controls may occur

As part of our audit work, we may seek to identify controls over significant account balances and transactions within the financial statements, evaluate their design and implementation and in some but not necessarily all circumstances test the operating effectiveness of these controls.

Alternatively, if we can obtain sufficient appropriate audit evidence through substantive procedures we may choose not to identify, evaluate and test controls as part of our audit.

• We did not identify any high-risk journal entries as part of our screening – our examination did not identify unauthorised, unsupported or inappropriate entries. We considered all post closing journal entries and no matters to note.
• We evaluated the segregated and pooled investment vehicles as estimates and did not identify any indicators of management bias.
• Our procedures did not identify any significant unusual transactions.

2. Level 1, 2 and 3 investments are not complete, do not exist or are not accurately recorded

• Level 1, 2 and 3 investments are not complete, do not exist or are not accurately recorded.
• Investments are held to pay benefits of the Fund. They are held with 4 investment managers across the number of asset classes. The investments are material to the accounts (99% of the Statement of Net Assets) and therefore there is a risk of material misstatement.
• We gained an understanding of the processes over the completeness, existence and accuracy of Level 1, 2 and 3 investments. This included gaining an understanding of the control environment at all the investment managers and custodian (BNYM) by reviewing their internal controls reports to identify any control deficiencies that would impact our audit approach (where available).
• We obtained direct confirmations from your custodian and all your investment managers to vouch the holdings and valuation of assets at the year end.
• We vouched purchases and sales to investment manager and custodian reports (where available).
• We recalculated change in market value and compared this to the overall investment return stated in the Pension Sub-committee’s report for consistency with the amounts reported in the annual accounts. We investigated any material deviations.
• We obtained direct confirmations from custodian and noted minor holdings differences between BNYM and Baille Gifford holdings. The differences were due to timing of transactions and not material. However, we have raised a control observation in relation to this point. See Appendix 4.
• In relation to the LGIM portfolio, there were differences in relation to the valuation per investment manager versus the accounting records; mid price is used instead of bid price. This variance of £(113)k was noted with respect to Level 2 pooled investment vehicles, which is not considered material for the purpose of our audit.
• No other matters to note in relation to the audit procedures performed.

3. Valuation of Level 1, 2 and other Level 3 investments is misstated

• Investments are held to pay benefits of the Fund. They are largely held as pooled investment vehicles with around 4 investment managers across a number of asset classes. The investments are material to the accounts (99% of the Statement of Net Assets) and therefore there is a risk of material misstatement.
• There is a risk of material misstatement relating to fair values of level 1 and 2 pooled investments, due to the estimation uncertainty resulting from the pricing of these investments.
• There is an elevated risk of material misstatement relating to fair values of level 3 pooled investments, due to the estimation uncertainty resulting from unobservable inputs to these investments.
• Segregated financial instruments: Our in-house investment team, iRADAR, were engaged to independently re-value the segregated securities and identify stale price issues of directly held financial instruments within the investment portfolio as well as any exposures to hard to value assets.
• Pooled Investment Vehicles (Level 1 and 2): We re-calculated the value of level 1 and 2 pooled investment vehicles using published pricing at the year end, where available. We also reconciled the closing unit holdings based on audited prior period position and purchases and sales transactions reported by the investment managers.
• Pooled Investment Vehicles (Level 3): For each Level 3 investment manager, we obtained the unaudited Net Asset Value (‘NAV’) Statement at, or closest to, the measurement date and vouched the valuation to this. For all of level 3 pooled investments vehicles, we further assessed the reliability of the NAV statement by:
  • Obtaining and inspecting the latest audited accounts for the underlying funds where available.
  • Inspecting the audit report to confirm that it is unqualified and that the audit has been carried out by a reputable audit firm.
  • Comparing the unaudited pricing information at the year end to the audited accounts valuation. Where the audited accounts are not as at the Fund year end date, we agreed them to unaudited pricing information at that date and reconciled significant movements to the Fund year end date, agreeing movements to quarterly NAV/transaction statements.

Investment portfolio valuation summary

Detailed below is an analysis of investments by investment manager and by type of securities and details the pricing risks associated with each type of investment:

We note the following as part of our work:

• The overall difference between the iRADAR valuation and reported valuation is £5k, which is not considered material for the purpose of our audit. Two positions—SBERBANK SPON ADR and Abiomed CVR Line—were not tested by iRADAR due to unavailable pricing for the former and delisting of the latter. Both investments are held at nil value.
• No valuation issues to note in relation to the Level 3 pooled funds.
• The pooled funds held with LGIM are unit linked insurance policies and are not externally quoted. We therefore completed additional testing by reviewing news reports for any issues regarding the internal controls, agreed that the fund managers are FCA registered and confirmed with both the fund managers that they would be willing to transact at the price quoted at the year end. We noted a difference between the LGIM bid valuation confirmation and the amounts included in the financial statements of £(113k). This difference is not material.
• No other matters to note.

Wider Scope

Orkney Islands Council Pension Fund Wider Scope

The Code of Audit Practice (2021) has refreshed the areas used to define the wider audit scope. The previous 2016 edition set out four areas, described as audit dimensions: financial management, financial sustainability, governance and transparency, and value for money.

The Code no longer uses the term audit dimensions, but it retains the areas of financial management and financial sustainability, though redefines each area, and replaces the other two as follows:

• Governance and transparency dimension has been replaced with vision, leadership and governance area.
• Value for money dimension has been replaced with use of resources to improve outcomes.

The Code of Audit Practice has set out four areas that constitute the wider scope of public audit in Scotland as below:

• Financial Management
• Financial Sustainability
• Vision, Leadership and Governance
• Use of Resources to Improve Outcomes

We have set out on the following pages the results of our assessment on the above areas.

Financial Management

Scope

Financial management is concerned with financial capacity, sound budgetary processes and whether the control environment and internal controls are operating effectively.

Areas of Focus

• The arrangements to ensure effective systems of internal control, to ensure public money is applied within the relevant financial rules.
• The accuracy and embeddedness of financial forecasting within financial management and financial reporting arrangements, including achievement of financial targets.
• The effectiveness of the budget control system to communicate accurate and timely financial performance to meet the needs of the user.
• The arrangements taken to link budget setting and savings plans to the priorities and risks of the Board.
• The capacity and skills of the Board’s finance team.

Our findings

Effectiveness of the system of internal controls

There is no separate internal audit department at the pension fund. Instead, it uses the Orkney Islands Council internal audit department, which will perform audits and release reports.

It was noted that the Council Internal Audit team conducted a review of the processes and controls for pensions administration during the previous year. The overall conclusion was that the framework of governance, risk management and control was found to be comprehensive and effective.

Internal audit for the pension fund administration and investments is performed on a cyclical basis and the report is shared with the Monitoring and Audit Sub-Committee. The scope for the audit is discussed with Finance before the audit plan is put before the members.

Our review did not extend to considering if public money was applied within the relevant financial rules, other than consideration of the contribution arrangements.

Fund has appropriate and effective financial management arrangements in place

Investment and administration performance reports are submitted to the Pension Fund Sub-Committee on a quarterly basis. Reports are comprehensive, covering analysis of fund managers, review of asset allocation and a review of the markets.

Also, through our attendance at the Pension Fund Sub-Committee, we have observed a good level of review and scrutiny by members.

Effectiveness of the budgetary control process

Establishment of an annual service budget in advance of the financial year, with monthly budget monitoring reports prepared by officers and quarterly budget reports to the Pension Fund Sub-Committee, forms part of the governance arrangements for the Pension Fund.

The budget covers four key areas:

• OIC member benefits and contributions
• Admitted and Scheduled Bodies member benefits and contributions
• Pensions administration costs
• Investment activities

The draft budget for the Pension Fund for 2025/26 has been prepared using the baseline budget for 2024/25 as a starting point and factors in the following key inflationary assumptions:

• 1.7% increase in pensions payable.
• 3.0% increase in salaries.
• 3.0% increase in apportioned costs.

Monthly budget monitoring reports prepared by officers and quarterly budget reports to the Pension Fund Sub-Committee form part of the governance arrangements for the Pension Fund.

The Pensions Sub-Committee also receives an Outturn report which includes a reconciliation between the budgetary position and the numbers in the financial statements.

There are no savings targets applied for the last couple of years due to the economic environment.

Arrangements for prevention and detection of fraud and error

Effective counter-fraud and anti-corruption arrangements are developed and maintained in accordance with the Code of Practice on Managing the Risk of Fraud and Corruption.

This includes, but is not limited to, ensuring established systems of internal controls and security are in place, segregation of duties and supervisory checking of all calculations, and internal audit and monitoring arrangements.

The monitoring of checks prior to any increased risk of fraud and scams is also being managed on an ongoing basis, focusing on staff support, communication of potential scams and close transfers out being completed.

These steps are further enhanced by the development of a new online training course which is mandatory for all Finance staff.

The Fund’s Risk Register was last reviewed and updated at the concurrent meetings of the Pension Fund Sub-Committee together with the Pensions Board on 26 February 2025.

The risk register incorporates a risk matrix to clearly demonstrate the Pension Fund’s current threats relative to the individual risks anticipated, and a summary and prioritisation of risks to indicate the descriptive risks ranking. Risk awareness is embedded into the investment performance management process.

Skills and capacity of the Board’s Finance Team

Administration of the Pension Fund is carried out in-house and undertaken by the Payroll and Pensions section within Orkney Islands Council.

The Pensions team within the Payroll and Pensions section has 3.7 full-time equivalents, consisting of a Service Manager, one full-time Team Manager, two part-time Senior Assistants and an Administrative Assistant.

In addition to maintaining Fund members’ records using data supplied by all Fund employers, the Pensions team also provides frontline services to scheme members.

The Human Resources and Organisational Development section, within Orkney Islands Council’s Infrastructure & Organisational Development Service, also supports the work of the Pension section by arranging pre-retirement workshops for scheme members who are within two years of retirement.

The Director of Enterprise and Resources Service is responsible for:

• The financial accounting of the Fund.
• The preparation of the Pension Fund Annual Report and Accounts.
• Being the principal advisor on management of investments to the Council in its capacity as Trustee to the Fund and as the Fund’s Administering Authority.

The day-to-day management of the investment activities of the Fund is administered by the Corporate Finance Team within the Enterprise and Resources Service.

The pension benefits policy oversight and day-to-day administration for the Fund is administered by the Pensions Team within the Enterprise and Resources Service.

Overall, we have not identified any significant risks in this area.

Financial Sustainability

Scope

Financial sustainability looks forward to the medium and longer term to consider whether the body is planning effectively to continue to deliver its services or the way in which they should be delivered.

Areas of Focus

• Are arrangements in place to balance any short-term financial challenges and cashflow requirements and longer-term financial sustainability?
• Are investment decisions informed by clear business cases?
• Is it clear how investments will be funded and how success will be measured?
• Are the benefits of investment clearly articulated at the outset and how is success measured?

Our findings

Financial planning arrangements

Funding policy

The funding policy is set out in the Administering Authority’s Funding Strategy, setting out the key funding principles.

The Pension Fund is governed by the Local Government Pension Scheme (Scotland) Regulations. These include requirements for the preparation and production of several key policy documents including a Valuation Report, a Funding Strategy Statement and Statement of Investment Principles.

Triennial valuation and annual update

The Pension Fund prepares a triennial valuation looking forward and, following each triennial valuation, the Pension Fund reviews and revises its funding strategy.

The funding strategy is a summary of the Fund’s approach to funding liabilities. The investment strategy outlines the types of investment to be held and the balances between the different types of investment.

The Actuary provides an annual update to monitor the financial position of the Fund against its liabilities and reports accordingly to the Pensions Sub-Committee.

Investment decision making

The Pension Fund does not possess a separate document for decision making, financial regulations, standing orders, etc. Instead, it uses the same documents as its administrator, Orkney Islands Council.

These documents include multiple items covering roles and responsibilities starting from the Section 95 officer, breach of regulations, financial planning and administration, budgetary controls and financial monitoring.

In FY2022-23, it was agreed to increase the Fund’s infrastructure allocation through a commitment to a net zero infrastructure fund.

The review in 2024 agreed a full disinvestment from the multi-asset mandates and subsequent investment of those proceeds into protection assets. These changes are intended to reduce the risk profile of the Fund and will be matched by a proportionate reduction in growth assets.

As a result of its exposure to equities, the relative performance of the Fund against its benchmark can be volatile over the short term. However, the Fund continues to have a strong funding position together with a net contribution from its dealings with members, which allows it to take a long-term view across successive investment cycles.

Investment funding and performance monitoring

Funding update

The results of the 2023 full triennial valuation of the Orkney Islands Council Pension Fund showed a funding level of 164%, an improvement over the 2020 level of 118%.

This meant that, overall, the Fund had a surplus of assets over liabilities and that the Fund assets were sufficient to meet 164% of its liabilities.

The Fund obtains an interim valuation from the actuary which uses the same base as the triennial funding valuation, rolled forward to take account of changes in membership and updated assumptions.

The Fund receives an annual funding update and at 31 March 2025 this shows a funding level of 188% with a surplus of £246m.

Membership update

Membership of the Fund increased by 132 to 4,793 members at 31 March 2025, an increase in membership of 2.83%.

The impact of auto-enrolment continues to contribute to the increase in employee members.

During 2024-25, the number of pensioners receiving a pension from Orkney Islands Council Pension Fund increased by 80 members and the number of pensioner members continues to increase steadily each year.

The number of active members continues to outweigh the number of pensioners but the ratio of active members to pensioners has reduced over the past five years.

Updated cashflow details

Cash flows received from dealings with members were negative during 2024-25, as the contributions, including transfer-in payments, received in the year were less than the amount paid out in benefits, including transfer-out payments.

The continued growth in pensioner numbers within the Fund’s membership makes funding pension payments increasingly challenging.

The Fund has considered this as part of its investment strategy and is further diversifying its investment structure to increase investment in income-generating assets.

The approximate split of all contributions received in year is as below:

Source: Orkney Islands Council Pension Fund 2024/25 unaudited financial statements

Investment – benefits and performance

The investment strategy, as mentioned in the statement of investment principles, of the Fund is to invest monies in a prudent and diversified manner, in accordance with the Fund regulations and in recognition of the inherent risks that accompany any investment in the respective asset classes.

A revised investment strategy was approved in February 2019, with the process of diversification commencing in financial year 2019/20 and still ongoing during financial year 2024/2025.

We understand significant steps have been taken towards the Fund’s interim-target allocation during the year. The revised asset allocation and range guidelines have been regularly reviewed, with the most recent review in February 2024.

The agreed interim and long-term target allocations are shown in the Asset Allocation table below together with the actual asset allocation at 31 March 2025:

Source: Orkney Islands Council Pension Fund 2024/25 unaudited financial statements

Overall, we have not identified any significant risks in this area.

Vision, Leadership and Governance

Scope

Vision, Leadership and Governance is concerned with the effectiveness of scrutiny and governance arrangements, leadership and decision making, and transparent reporting of financial and performance information.

Areas of Focus

• The vision and strategy of the Pensions Committee, to ensure it includes a clear set of priorities which reflects the pace and depth of improvement that is needed to realise the Pension Fund’s priorities and long-term sustainability of services to meet the needs of the members.
• The governance arrangements are appropriate and operating.
• Assess the evidence that demonstrates leaders are adaptive to the changing environment.
• The culture of the Board and how it operates with partners to understand their roles and responsibilities to help deliver the priorities of all partners.

Our findings

Vision and strategy

Orkney Islands Council, the administering authority, has delegated its responsibility for governance of the Fund to the Pension Fund Sub-Committee.

The Pension Fund Sub-Committee is supported by a Pension Board in compliance with regulations and the requirements of the Pensions Regulator.

We note that the Council has a Local Code of Corporate Governance as well as a Scheme of Administration document setting out the terms of reference of the various committees, including those of the Pension Fund Sub-Committee as well as the Pensions Board.

Following the local government elections in May 2022, a new Sub-Committee was appointed. A formal induction programme was delivered in June 2022 for all new members of the Council and included a presentation from the Actuary covering the investment strategy and fund managers.

The Fund prepares an annual training plan to enable Councillors charged with the governance of the Fund to execute their role as quasi-trustees effectively.

This was last updated in February 2024, setting out a clear plan for 2024-25. There is a training log maintained to monitor attendance at meetings and a competency matrix for members.

Governance arrangements

The Orkney Islands Council acts as Administering Authority for the Orkney Islands Council Pension Fund.

The Council is responsible for ensuring that its business is conducted in accordance with the law and proper standards, and that public money is safeguarded, properly accounted for, and used economically, efficiently, and effectively.

The Council has a statutory duty to make arrangements to secure best value under the Local Government in Scotland Act 2003.

The Council has put in place appropriate management and reporting arrangements to enable it to satisfy itself that its approach to corporate governance is adequate and effective in practice.

This includes ensuring appropriate advice is available to the Pension Fund on all governance matters, providing training to all members of the Pension Fund Sub-Committee and Pension Board, keeping proper administrative and financial records and accounts, and maintaining effective procedures and arrangements for the control of governance.

The Council has approved and adopted a Local Code of Corporate Governance, which is consistent with the principles of the Chartered Institute of Public Finance & Accountancy (CIPFA)/Society of Local Authority Chief Executives and Senior Managers (SOLACE) framework ‘Delivering Good Governance in Local Government’.

The authority’s financial and management arrangements conform to the governance requirements of the CIPFA Statement on the role of the Chief Financial Officer in local government.

The Council has delegated the management of the investments of the Pension Fund to the Pension Fund Sub-Committee, which fulfils the role of Scheme Manager, and has established a Pension Board which is the body responsible for assisting the Scheme Manager in relation to compliance with scheme regulations and the requirements of the Pension Regulator.

Financial affairs are conducted in compliance with the Council’s Financial Regulations, which are reviewed and updated on a regular basis.

Funds are invested in compliance with the Fund’s Statement of Investment Principles.

The internal review of effectiveness of the governance framework has not identified any significant governance issues or control weaknesses in the Pension Fund’s governance arrangements, as noted in the draft accounts.

Change management

In line with scheme regulations, the Pension Fund Sub-Committee and Pensions Board met concurrently on four occasions during 2024/2025.

Training activity for the members of the Pension Fund Sub-Committee and Pension Board was undertaken during the financial year 2024/2025, in accordance with the agreed training plan, to enable them to execute their role effectively.

In recognition of the complex and ever-changing environment of Local Government Pension Scheme finance, and specifically to address the governance requirements, the Chartered Institute of Public Finance and Accountancy Code of Practice on Public Sector Pensions Finance Knowledge and Skills has been adopted and accordingly training is provided to members and officers involved in Pension Fund financial matters.

The training policy was approved in 2015/16 and is aligned to CIPFA’s Knowledge and Skills Framework.

A log has been established of all training provided to members and this is monitored and reported as appropriate.

The annual training plan for 2024/2025 was approved by the PSC at its meeting of 28 February 2024.

Board culture and interaction with partners

Cultures and values

These are set out in the Orkney Islands Council Local Code of Corporate Governance.

The key areas of responsibility for the Fund are set out in the above document in the Scheme Administration section, which sets the roles and responsibilities of the members of the Pensions Board and the Pensions Sub-Committee.

The basis of communications arrangements with other stakeholders is set out in the terms of engagement with advisers such as the investment managers, custodian, actuary and investment advisors.

External performance reporting

As noted, the Fund uses its external advisors to monitor investment performance against benchmarks and the investment strategy for the Fund.

Communications with partners

The partners refer to members of the Pension Fund.

The Fund has an external website for members which helps explain the governance of the Fund and how it is run, including multiple standard tools such as a lump sum calculator, contribution calculator and annual allowance details.

In addition, annual benefit statements are shared with members, and the Annual Report and Accounts along with the pension fund newsletter are available on the website.

Overall, we have not identified any significant risks in this area.

Use of Resources to Improve Outcomes

Scope

Audited bodies need to make best use of their resources to meet stated outcomes and improvement objectives, through effective planning and working with strategic partners and communities.

This includes demonstrating economy, efficiency and effectiveness through the use of financial and other resources and reporting performance against outcomes.

Areas of Focus

• The arrangements in place to demonstrate that there is a clear link between money spent and outputs and the outcomes delivered.
• The arrangements to evaluate service delivery and quality and whether the user needs and views are included in any such evaluation.

Our findings

Arrangements to monitor money spent and outputs

The Pension Fund Sub-Committee is provided with reports on financial performance from the Actuary in relation to consideration of the actuarial position of the Fund.

Hymans Robertson LLP also provides independent performance measurement services for the Fund and has responsibility for measuring and reporting on the performance of the Fund during the year.

Management Commentaries are included in the annual accounts to provide information on a body, its main objectives and the principal risks faced.

They should provide a fair, balanced and understandable analysis of the Fund’s performance as well as helping stakeholders understand the accounts.

The Fund’s 2024-25 management commentary is of good quality and is written with the stakeholder in mind.

It presents some complex areas in an understandable style which increases transparency in reporting the financial performance and financial position.

The accounts include information in relation to performance both of the administration team and the investment managers.

The Annual Report and Accounts also provides an Annual Governance Statement.

Arrangements in place to evaluate service delivery

General administration arrangements

There is a Pensions Administration Strategy document which outlines key objectives as well as the roles and responsibilities of the Council as the administering body for the Fund, as well as setting performance standards for both the Council and its Employer as administering authority and the Employer.

The Pension Fund Sub-Committee meets on a quarterly basis and receives regular reports on both fund administration and investment performance.

The focus of measuring the performance of pensions administration includes both member experience and statutory compliance.

In addition, the Employers are provided with an annual performance report.

During 2024-25, service levels improved in most categories except new entrant information, refunds and leavers information, which experienced a slight decline compared to the previous year.

Variations of less than 1% are regarded as standard operational fluctuations.

It should be noted that the relatively small size of the Fund and transactions involved mean that even small numbers of records not being processed within targets can make significant percentage differences.

Monitoring administration performance against targets

Source: Orkney Islands Council Pension Fund 2024/25 unaudited financial statements

Monitoring financial performance against targets and other benchmarks

The Fund appoints four external investment managers. Individual investment manager performance is reviewed regularly by the Pension Fund Sub-Committee.

Overall, the Fund has decreased by 0.7% against a benchmark of 3.1% on a 12-month rolling period.

The following graph summarises investment performance on an annualised basis over 1, 3 and 5-year periods.

IMAGE: Bar chart titled “Annualised Performance 2020-2021 to 2024-2025”. It compares Actual and Benchmark performance over 1-year, 3-year and 5-year periods. Actual performance is approximately -1.4% for 1 year, 1.0% for 3 years and 6.7% for 5 years. Benchmark performance is approximately 3.1% for 1 year, 4.6% for 3 years and 8.9% for 5 years.

Source: Orkney Islands Council Pension Fund 2024/25 unaudited financial statements

Financial markets have been exceptionally volatile in recent years due to the soaring interest rates and inflation.

Returns against most asset classes, especially equities, reduced due to decrease in market value of investments. Outflows for benefits payable and management expenses were offset by investment income and contribution receivable.

The Fund has over 80% of funds invested in growth assets and, as the market saw increased volatility towards the end of the year due to uncertainties surrounding import tariffs and global trade policies introduced by the US administration, the Fund returned -0.7%, compared with a benchmark of 3.1%.

Use of advisors in decision making

The Pensions Sub-Committee made a significant investment in a Net Zero fund.

As part of this process, they completed due diligence with the help of Hymans Robertson LLP to consider the options available to meet the long-term strategic allocation of 10% in infrastructure, with the aim of choosing a provider with a growing focus on responsible investment and climate risks.

Hymans Robertson LLP provided a range of options and subsequently provided a shortlist of renewable infrastructure funds and matters to be considered as part of the selection process.

The Fund has a process in place to perform due diligence when appointing a new investment manager and/or investing in a new fund and demonstrates use of advisors in the decision-making process.

Evaluation of investment manager performance

Hymans prepares the investment monitoring report for each quarter, which includes details of investment performance, targets and benchmarks.

These reports are available for management to discuss in Pension Fund Sub-Committee meetings. This report is presented by the Head of Finance at the meeting.

The Pension Fund Sub-Committee actively monitors investment performance and considers investment management expenses as part of the investment managers’ attendance at the meetings.

There are three main categories of management expense, with the largest being investment management costs.

Other expenses are the cost of the administration services provided by the Council and oversight and governance costs.

Investment management expenses have decreased from £2.668 million in 2023/24 to £2.511 million in 2024/25.

Investment manager expenses can vary due to a number of factors, including actual return on investments and the nature of investments held.

Evaluation of investment advisors

It is understood that consideration has not been given in the last 12 months to an alternative investment advisor.

The Pension Sub-Committee evaluates the objectives for Hymans Robertson, as investment consultant to the Fund, following the publication of the Competition and Markets Authority (“CMA”) final order relating to its review of investment consulting and fiduciary management markets.

This review was conducted in conjunction with Hymans Robertson in December 2022.

Overall, we have not identified any significant risks in this area.

Appendix

IMAGE: Appendix contents page listing six appendices: Mandatory communications, Confirmation of Independence, Audit differences, Current year control deficiencies, Detailed status report on prior year control deficiencies, and KPMG’s Audit quality framework, with page numbers 27, 29, 31, 32, 33 and 34.

Appendix 1: Mandatory communications

Appendix 2: Confirmation of Independence

We confirm that, in our professional judgement, KPMG LLP is independent within the meaning of regulatory and professional requirements and that the objectivity of the Partner and audit staff is not impaired.

To the Audit Committee members

Assessment of our objectivity and independence as auditor of the Orkney Islands Council Pension Fund

Professional ethical standards require us to provide to you at the planning stage of the audit a written disclosure of relationships, including the provision of non-audit services, that bear on KPMG LLP’s objectivity and independence, the threats to KPMG LLP’s independence that these create, any safeguards that have been put in place and why they address such threats, together with any other information necessary to enable KPMG LLP’s objectivity and independence to be assessed.

This letter is intended to comply with this requirement and facilitate a subsequent discussion with you on audit independence and addresses:

• General procedures to safeguard independence and objectivity.
• Independence and objectivity considerations relating to the provision of non-audit services.
• Independence and objectivity considerations relating to other matters.

General procedures to safeguard independence and objectivity

KPMG LLP is committed to being and being seen to be independent.

As part of our ethics and independence policies, all KPMG LLP partners/directors and staff annually confirm their compliance with our ethics and independence policies and procedures, including in particular that they have no prohibited shareholdings.

Our ethics and independence policies and procedures are fully consistent with the requirements of the FRC Ethical Standard.

As a result, we have underlying safeguards in place to maintain independence through:

• Instilling professional values
• Communications
• Internal accountability
• Risk management
• Independent reviews

We are satisfied that our general procedures support our independence and objectivity.

Confirmation of Independence (continued)

Summary of Fees

Confirmation of audit independence

We confirm that as of the date of this letter, in our professional judgement, KPMG LLP is independent within the meaning of regulatory and professional requirements and the objectivity of the partner and audit staff is not impaired.

This report is intended solely for the information of the Audit and Compliance Committee and should not be used for any other purposes.

We would be very happy to discuss the matters identified above, or any other matters relating to our objectivity and independence, should you wish to do so.

Yours faithfully,

KPMG LLP

Appendix 3: Audit Differences

Under UK auditing standards (ISA (UK) 260) we are required to provide the Pensions Board with a summary of unadjusted audit differences, including disclosure misstatements, identified during the course of our audit, other than those which are ‘clearly trivial’, which are not reflected in the financial statements.

In line with ISA (UK) 450 we request that you correct uncorrected misstatements. However, they will have no effect on the opinion in our auditor’s report, individually or in aggregate.

As communicated previously with the Pensions Board, details of all adjustments greater than £266K are noted low.

We set out below the summary of corrected misstatements which have been adjusted for in the accounts:

Types of misstatement

• Factual: Misstatements about which there is no doubt.
• Projected: Our best estimate of misstatements in the audited populations.
• Judgemental: Differences arising from judgments of management that we consider unreasonable or inappropriate.

Appendix 4: Current year control deficiencies

We have sought to rely wherever possible on the systems and internal controls operating at the in-house administration department and in doing so we have identified a number of recommendations for control improvements that are set out below.

We have discussed each of the points raised with Fund management and include their responses to our recommendations.

We have graded our control deficiencies as follows:

Grade A

These are particularly significant matters for the Fund, such as those relating to factors critical to the successful running of the Fund and regulatory environment.

We have not identified any grade A deficiencies in the current year.

Grade B

These include observations on non-critical control systems, one-off items subsequently corrected, improvements to the efficiency or effectiveness of controls and matters that could be significant in the future.

We have identified one grade B deficiency in the current year.

Grade C

These are less significant than those graded A and B but we nevertheless consider that they merit attention by Fund Management.

We have identified one grade C deficiency in the current year.

Appendix 5: Detailed status report on prior year control deficiencies

Priority rating for recommendations

• Priority one: Issues that are fundamental and material to your system of internal control. We believe that these issues might mean that you do not meet a system objective or reduce (mitigate) a risk.
• Priority two: Issues that have an important effect on internal controls but do not need immediate action. You may still meet a system objective in full or in part or reduce (mitigate) a risk adequately, but the weakness remains in the system.
• Priority three: Issues that would, if corrected, improve the internal control in general but are not vital to the overall system. These are generally issues of best practice that we feel would benefit you if you introduced them.

Note

• Little or no change.
• Some action taken but not fully implemented.
• Satisfactorily dealt with.

Appendix 6: KPMG’s Audit quality framework

Audit quality is at the core of everything we do at KPMG and we believe that it is not just about reaching the right opinion, but how we reach that opinion.

To ensure that every partner and employee concentrates on the fundamental skills and behaviours required to deliver an appropriate and independent opinion, we have developed our global Audit Quality Framework.

Responsibility for quality starts at the top through our governance structures as the UK Board is supported by the Audit Oversight Committee, and accountability is reinforced through the complete chain of command in all our teams.

Commitment to continuous improvement

• Comprehensive effective monitoring processes
• Significant investment in technology to achieve consistency and enhance audits
• Obtain feedback from key stakeholders
• Evaluate and appropriately respond to feedback and findings

Association with the right entities

• Select clients within risk tolerance
• Manage audit responses to risk
• Robust client and engagement acceptance and continuance processes
• Client portfolio management

Performance of effective and efficient audits

• Professional judgement and scepticism
• Direction, supervision and review
• Ongoing mentoring and on-the-job coaching, including the second line of defence model
• Critical assessment of audit evidence
• Appropriately supported and documented conclusions
• Insightful, open and honest two-way communications

Clear standards and robust audit tools

• KPMG Audit and Risk Management Manuals
• Audit technology tools, templates and guidance
• KPMG Clara incorporating monitoring capabilities at engagement level
• Independence policies

Recruitment, development and assignment of appropriately qualified personnel

• Recruitment, promotion, retention
• Development of core competencies, skills and personal qualities
• Recognition and reward for quality work
• Capacity and resource management
• Assignment of team members, employed KPMG specialists and specific team members

Commitment to technical excellence and quality service delivery

• Technical training and support
• Accreditation and licensing
• Access to specialist networks
• Consultation processes
• Business understanding and industry knowledge
• Capacity to deliver valued insights

IMAGE: Audit quality framework diagram arranged around a central “Audit quality framework” label. The surrounding elements are Commitment to continuous improvement, Association with the right entities, Clear standards and robust audit tools, Recruitment, development and assignment of appropriately qualified personnel, Commitment to technical excellence and quality service delivery, and Performance of effective and efficient audits. Arrows indicate the continuous relationship between these elements.

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