Audit and consulting split would make Big Four less resilient
The heads of the Big Four firms have warned the Bsiness, Energy and Industrial Strategy (BEIS) committee that the Competition and Markets Authority’s (CMA) recommendation to split non-audit and audit services into separate entities would challenge the firms’ resilience as audit services only make up a small amount of fee income
30 Jan 2019
David Sproul of Deloitte, Steve Varley of EY, Bill Michael of KPMG and Kevin Ellis of PwC were questioned by MPs on the BEIS committee, chaired by Rachel Reeves, on the future of audit and their views on the latest CMA and Kingman review of the market.
When asked whether there could be another Arthur Andersen Enron scandal, with the Big Four becoming a Big Three, Sproul said that ‘the key was to build the resilience of the Big Four so that this situation would not happen’.
He went on to explain that if audit services were split from consulting services and made to be a separate entity that produces its own financial reports, this would test the resilience of the separate audit firm. This is because audit fees only form 20% of firms’ overall fee income, therefore the separate entity would not have the other 80% from non-audit services to make it robust and able to stand alone without the multidisciplinary practice behind it.
The CMA suggests that auditors should be solely focused on audit and not also on selling consulting services. One way to address this issue is for audit and non-audit businesses to be split into separate auditing entities with separate management, accounts and remuneration. This way auditors will only be paid for scrutinising a company’s accounts but will still be able to get expertise from other parts of the firm.
All of the Big Four are against this suggestion, a view which resonates across the industry with mid-tier firms.
BDO, Grant Thornton and Mazars were questioned by the BEIS committee in a separate session to the Big Four. David Dunckley, who was up against a committee for the first time as CEO of Grant Thornton, is wary of audit and non-audit split and expressed his concerns that this rule would later be extended to challenger firms which would then leave them with insufficient profits to invest in technology and resources to compete with the Big Four in this market.
Scott Knight, head of audit at BDO said: ‘Legal separation undermines the viability of audit and non-audit practice.’ However, one positive that could come from this recommendation was that the audit entity could be run solely by auditors as currently only 25% of people at the audit practice are from an audit background, said Knight.
Another recommendation the Big Four were unanimously against was the prospect of joint audits, where one firm is Big Four and the other is mid-tier or smaller.
Michael said that although he could see the benefit of a joint audit as it provides another pair of eyes, in reality it is difficult to implement.
‘For a joint audit to work you need parties of equal weight and strength. It will not work if there is a lopsided approach where one firm does 90% of the audit and the other does 10%,’ said Michael. ‘Joint audits are not practicable from a Big Four perspective.’
The other Big four firms agreed instead preferring the option of a market share cap to ensure that some major audit contracts are only available to non-Big Four firms.
In their session, Grant Thornton and BDO both agreed that they were not in a position to do joint audits for FTSE 350 companies.
Dunckley told the committee that he needed to develop technology and resources before Grant Thornton would be prepared. Knight believes that the top 30 companies in the FTSE 100 would be a challenge for BDO in a significant role but believes that from there down the firm has the capability and capacity depending on how soon changes are implemented.
Report by Amy Austin