A new parliamentary report is right to propose tough action
What do Carillion, BHS, the Cooperative Bank, Patisserie Valerie and London Capital & Finance all have in common?
They are all examples of auditor silence and failures which have caused losses of jobs, savings, pensions and investments. In each case, auditors collected huge fees and delivered little.
The auditing industry showed no remorse for its failures or inclination to improve the quality of audits.
That task had to be undertake by parliamentary committees, the Competition and Markets Authority, Sir John Kingman’s review and an inquiry by the Labour Party.
This week’s report by the House of Commons Business, Energy and Industrial Strategy (BEIS) Committee is the latest instalment of reforms.
A key proposal by the BEIS Committee is that the power and dominance of the big four auditing firms – PricewaterhouseCoopers (PwC), Deloitte, KPMG and Ernst & Young is damaging society and needs to reduced.
This is best done through a structural break-up of the big four firms i.e. by splitting audit and non-audit parts of the business into two separate and independent legal entities.
This should help to prevent auditors from using audits as loss-leaders in the hope of securing lucrative consultancy work.
The BEIS Committee recommends that the power of the big four firms be further reduced through mandatory joint audits for the UK’s 350 biggest companies.
This means the big firms would be required to relinquish some of their fee income and market control to mid-tier firms.
This would encourage new entrants and hence competition and choice. With new entrants, the turbulence cause by the demise of a big four firm would be reduced.
Many of the former staff and partners of the big four firms have colonised company boards and audit committees and favour the appointment of their former buddies. This was evident at Carillion.
The BEIS report keeps the possibility of “independent appointment of auditors by the regulator” in reserve as a way of breaking the stranglehold of the audit market.
The Labour report went further and called for the creation of an independent statutory body to audit the financial sector.
If this body had been in existence, it may have prevented the London Capital and Finance debacle. Such institutional arrangements would result in the loss of audit clients to the big four firms and reduce their size. No firm would be too big to regulate, punish or even shut down for persistent failures.
The big four accounting firms are not just about accounting and auditing. They are also key players in the global tax avoidance industry and the resources available to them need to be choked.
The firms have been intoxicated with their own power and have held elected government to ransom by demanding liability concessions with the threat that if the government did not capitulate they will migrate and cause economic turbulence.
The most blatant example of that came in the mid-1990s when they demanded limited liability partnerships and liability concessions.
When the government was not willing, Ernst & Young and Price Waterhouse (now part of PwC) spend £1 million of their own money to draft a bill and asked the government of Jersey to enact it.
Jersey agreed and knew that it was being used as a lever to extract concessions from the UK government.
The big firms’ campaign was supported by the Institute of Chartered Accountants in England and Wales (ICAEW).
The UK government eventually capitulated and introduced the Limited Liability Partnerships Act 2000 which gave the firms many liability concessions, and have since diluted pressures on auditors to deliver robust audits.
Upon the capitulation of the UK government, Ernst & Young senior partner boasted:
“It was the work that Ernst & Young and Price Waterhouse undertook with the Jersey government …… that concentrated the mind of UK ministers on the structure of professional partnerships. ……The idea that two of the biggest accountancy firms plus, conceivably, legal, architectural and engineering and other partnerships, might take flight and register offshore looked like a real threat …… I have no doubt whatsoever that ourselves and Price Waterhouse drove it onto the government’s agenda because of the Jersey idea”
The ICAEW is a statutory regulator for auditing, insolvency and money laundering. It has long been the lobbying fodder for the big four accounting firms.
It has done little to deal with the failures of the auditing industry but quickly denounced the BEIS proposal for structural break-up of the big four firms. This is hardly surprising as it has a long history of opposing reforms.
Examples include opposition to audit tendering, rotation of audit firms, corporate disclosure of non-audit fees, turnover, profits, replacement costs of assets; publication of group accounts, a duty on auditors to report fraud to the regulators and much more. Not much evidence of thought leadership there.
A structural break-up of the big four accounting firms is a necessary condition for checking the power of the firms.
This would help to increase competition and choice in the audit market and improve audit quality.
It would also help to check organised tax avoidance and prevent the firms from holding governments to ransom.
Read more: Six ways auditing is not working, according to a new parliamentary report
Prem Sikka is a Professor of Accounting at University of Sheffield, and Emeritus Professor of Accounting at University of Essex. He is a Contributing Editor for Left Foot Forward and tweets here.
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3 Responses to “Prem Sikka: The ‘Big Four’ accounting firms should be broken up”
Hugh Shields
My main question would be: how do the really big companies get audited? I would worry that there is no audit firm big enough to audit the large banks or large energy companies (or large companies of any description).
Elizabeth Chell
As with any industry there should be strong competition for the market to work effectively. Once again we find an industry dominated by a few players. I’m sure there are ways in which they can be broken up, but it would probably require a heavier hand than this Government with its self-serving, wealthy MPs, would be prepared to deliver. Another reason for a much needed change in government.
Manolis Kalaitzake - Tackling the Big Four Accountancy Firms: The New Acolytes of Finance | Brave New Europe
[…] Big Four and the financial sector is to radically restructure the accountancy industry: namely, by forcibly separating the auditing side of the business from its consultancy services. Such a measure would require bold political action on the part of political leaders, but it is an […]