Following several corporate collapses, including the collapse of Carillion and BHS, the UK competition watchdog has made proposals that could split up the big four accounting firms.
The proposals also include compelling the big accountancy firms to work with their smaller rivals. While the CMA (Competition and Markets Authority) resisted calls for a split of the big four, PricewaterhouseCoopers, EY, Deloitte and KPMG, it has said it might be an option five years down the line if there are no significant improvements in the profession.
Following its fundamental review of what it termed “serious competition problems in the sector,” CMA’s final report recommended that the UK government pass new laws that will compel big accounting firms to put some distance between their auditing operations and their more lucrative consulting divisions. Such laws, it says, would prevent conflict of interest.
To stoke competition, the CMA also called for corporations across the UK to be forced to hire smaller “challenger” auditing firms to analyse their books along with the big four. However, it proposed that the largest and most complex organizations be excluded from this requirement.
But accounting firms have raised concerns and even severely criticized some elements of these proposals. Business lobby group, Confederation of British Industry, indicated that this move could undermine the confidence in corporate Britain.
Marcus Scott, the chief operating officer of TheCityUK, which represents financial services and professional firms, also criticized the proposals. He said that such recommendations may make for good headlines but are poorly focused. He further stated that “there was no evidence that they would lead to genuinely enhanced audits.”
The CMA still insists that its blueprint will improve the profession. Andrew Tyrie, CMA chair and former Tory MP supported the blueprint and said that “people’s livelihoods, savings, and pensions all depend on the auditors’ job being done to a high standard.” He pointed out that “too many fall short – more than a quarter of big company audits are considered sub-standard by the regulator. “This,” he said, “cannot be allowed to continue.”
Lord Torie also indicated that the government had also received similar recommendations from three separate reports. This was a reference to the recent Kingman review of audit regulation and the Brydon review of audit quality and effectiveness, which, he said, “In large part, they come to similar conclusions.” He further pointed out that “conflicts of interest cannot be allowed to persist; nor can the UK afford to rely on only four firms to audit Britain’s biggest companies any longer.”
According to the CMA, the fact that large accountancy corporations are engaged to scrutinize companies’ book while at the same time, earning huge fees for advising on corporate matters such as takeovers and tax issues, has fueled several conflict of interest allegations.
To avoid conflict of interest, the CMA has proposed that the auditing and consulting functions should be “operationally” separated, with different leadership, management teams, accounts and even pay policies. That means the two functions would no longer share profits or staff promotions. Even bonuses would now have to be on audit quality.
The current accounting regulator, the Financial Reporting Council, will perform a five-year progress review, even though the Kingman review had recommended its replacement with a tougher successor.
According to the CMA, the option of a full, structural split, which will compel accounting firms to split into two, entirely independent outfits, should remain under discussions during this review period. The CMA also said that any corporation that engages any of the big four accountancy firms should also hire a “challenger” audit firm to spur competition in the sector and help the smaller accounting firms grow.
The huge and most sophisticated corporations in the UK, which would likely include banks such as Barclays and HSBC, would be exempt from this requirement. However, EY, one of the big four firms has severely criticized the proposals and said that they were a missed opportunity and “risked the UK’s attractiveness for business.”
As far as EY is concerned, splitting up auditing and accounting functions would undermine the quality of auditing since the firms would then not be able to draw from critical skills, capabilities, and investments in the company. It would effectively diminish the resilience of the audit business.
Commenting on the proposals by CMA, EY said that, “at a time when the FRC [Financial Reporting Council] is reviewing corporate reporting, and the Brydon review may change the scope of audit, it appears ill-timed for the CMA to restrict the skills needed to deliver high-quality audit now and in the future.”
KPMG also criticized the proposals for joint audits and said that “shareholders, audit committees and the regulator must have total confidence in the ability of these firms to complete this work before the market can move ahead with this recommendation.”