Carillion report ‘watershed’ for auditors

The joint select committee’s claims of auditor failings in its report on the collapse of Carillion marks a ‘watershed’ for the accountancy profession according to the head of the ICAEW, with the Big Four firms also acknowledging that the statutory audit market needs reform

Michael Izza, ICAEW CEO, said: ‘The select committees’ report into Carillion makes uncomfortable reading. It should be seen as a wake-up call for business leaders, for regulators, and for auditors. As a profession, we have to be prepared to think and act differently in future.’

Speaking on BBC radio’s Today programme Izza described the report as a ‘watershed moment’ and warned: ‘If we don't fix this I don't think we'll have a profession in 20 years time.’

On the issue of audit competition, Izza said: ‘We licence 3,000 audit firms in the UK, but we talk as if there are only four. Quality exists outside the Big Four and we need to encourage those firms to step up to the big audits.’

Izza also said audit firms should make more use of technology to ‘do things in a very different way’, and should also acknowledge the impact of changes in the way society, regulators and politicians expect business to behave.

‘Auditors need to stop hiding behind the Companies Act and  simply saying they are doing “X” correctly, and start adjusting what they do to what society expects,’ he said.

All of the Big Four came under fire in the report by the work and pensions and BEIS select committees, with particular criticism of Carillion’s external auditor, KPMG, for failing to exercise professional scepticism towards Carillion’s aggressive accounting judgements.

A KPMG spokesperson said: ‘We believe we conducted our audit appropriately. However it’s only right that following a corporate collapse of such size and significance, the necessary investigations are performed. Auditing large and complex businesses involves many judgements and we will continue to cooperate with the FRC’s ongoing investigation.’

Deloitte, as Carillion’s internal auditor, had oversight of governance and controls but did not provide financial accounting advice as internal auditors.

In a statement the firm said: ‘We are disappointed with the conclusions of the committees in regard to our role as internal auditors. We take the quality of our work and the advice that we give very seriously. Where there are lessons to be learnt from the collapse of Carillion we will take these on board.’

EY raised the ire of MPs over its payment of £10.8m for what the committees called ‘six months of failed turnaround advice’.

In a statement EY said: ‘Between July 2017 and January 2018 a team from EY worked with Carillion to try and find a solution which would allow the company to continue on a sustainable basis. Unfortunately, circumstances resulted in stakeholders ultimately declining to support the plan EY helped Carillion to devise. 

‘This was one of the most complex and challenging engagements the team from EY has worked on and EY is extremely disappointed that despite all efforts the business was not rescued.’

MPs also challenged PwC over what they described as its ‘monopoly’ position when it was the only one of the Big Four to be considered for the role of special manager in Carillion’s eventual insolvency, which they claimed meant ‘effectively writing their own pay cheque, without adequate scrutiny.’

A PwC spokesman said: ‘On the subject of payment, PwC’s fees for assisting the Official Receiver on the liquidation of Carillion will be subject to scrutiny and approval by the Official Receiver and the court.’

Commenting on the report findings Kevin Ellis, chairman and senior partner at PwC, said: ‘As acknowledged in the report, the Official Receiver applied to the court “to appoint PwC to resource a liquidation of exceptional size and complexity as quickly and effectively as possible”.

‘Since then our priority has been to keep public services, such as the maintenance of prisons, hospitals, roads and schools, running safely across the country - minimising the disruption caused by the collapse - while saving thousands of jobs.’

Competition

Ellis went on to acknowledge that action to tackle issues around widening the number of audit firms active at the top end of the market had not been as successful as hoped.

‘In terms of the audit profession, competition in the large company audit market is fierce, however, we would welcome more players to boost choice. Recent audit reforms have had a positive impact on audit quality, driven innovation and strengthened the position of audit committees, but are not increasing choice.  

‘This is a market issue, driven by the complexity of large international businesses which require significant size, scale and expertise in their auditor. Currently, it appears the level of investment required and risk and regulatory scrutiny involved has not made it an attractive enough proposition for other players,’ Ellis said.

In the report the select committees have recommended that the Competition and Markets Authority conducts a fresh review of the audit market.

KPMG said in a statement: ‘We welcome any future review of our profession.  We all want to be part of a better environment, build trust in our profession and learn from experience.  If we consider how the profession has changed in the last decade – and indeed the changes we expect to see over the next five to ten years – it is clear there is a need for us to look closely at our business models.

‘We believe there are clear benefits of being a multi-disciplinary firm, but we also recognise the growing challenges that this structure presents and the importance of managing these to ensure public trust.’

The call to break up the firms would be a challenge as for some they are 'too big to fail'. However, disrupting the status quo should open up opportunities for more firms to tender for business. Ultimately though the largest listed entities, audit committee chairs and company boards need to have the confidence to appoint an auditor outside the established Big Four.

Andrew Oury, partner at law and accounting firm Oury Clark, said: ‘There is some truth that “size matters” but the cosy relationship needs disrupting. Part of the solution could be an independent appointment from a wider pool of auditors for public interest entities – however those are defined.’

The Financial Reporting Council (FRC) which was branded ‘toothless’ and not sufficiently proactive by MPs, has provided an update on its ongoing investigation into KPMG’s audit of Carillion between 2014 and 2017 and of two finance directors Richard Adam and Zafar Khan, which it says is one of the largest it has undertaken.

The regulator reported ‘good progress’ by its team of lawyers and forensic accountants  who are reviewing ‘tens of thousands’ of documents and emails in order to establish how and why audit and accounting decisions were reached with a particular focus on contract accounting; reverse factoring; pensions; goodwill and going concern.

In a statement following publication of the committees’ final report, the FRC said: ‘The FRC is a strong, transparent regulator which makes full use of its statutory powers and innovates, for example, by introducing audit retendering and most recently an extended audit inspection regime.  We welcome the committee’s recognition that our powers should be extended. We look forward to the conclusions reached by Sir John Kingman’s review and the government regarding any new powers that we might be given.’

Select Committee Carillion report issued 16 May 2018

Report by Pat Sweet

 

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