Top 75 UK firms survey 2014: year of cuts and mergers

A spate of mergers between the top 10 sees a shake-up at the top, with more changes set to come, reports Philip Smith

It has been a year of contrasting fortune for the UK's top accountancy firms. Mergers, acquisitions, administrations and rescues have all featured. Some firms have seen falling profits, others the opposite, with a similar picture emerging for fee income. Although many firms have cut staff numbers, others have been making bold expansion claims.

But amid this complex picture, the sector as a whole has kept its head above water – overall fee income has increased by more than 4% over the course of the year, with staff numbers edging up in a similar fashion. In total, the firms in Accountancy's 2014 Top 75 survey earned nearly £11.5bn, up from £11bn in the previous 12 months. Average profits have also increased, but only marginally, by around 1%.
 
The big story of the year was the demise of RSM Tenon, bringing to a close a decade long story of the listed consolidator. Baker Tilly stepped in to acquire the firm in a pre-pack administration last September – the combined reported income of the two firms topped £330m in 2013, which would have made them the sixth largest firm in the UK. It will be interesting to see whether this revenue is achieved in the next 12 months, but each of the firms saw a fall in income over their latest financial year.
 
A growing BDO, which reported a 10% increase in fees bolstered by its merger with PKF, could force Baker Tilly down a peg in the pecking order when the merger beds down.
 
Meanwhile, BDO itself was consolidating its own merger, which came into force during the final three months of BDO's financial year. 'A large amount of our growth has come from the merger,' says Simon Michaels, BDO's managing partner.
 
Talking to our partners around the firm, the indications are that our clients are now beginning to see the benefits of the economic recovery
 
'However, there has been some organic growth in a few areas, predominantly in financial services, advisory, specialist tax and international projects.' Encouragingly, Michaels says he has seen the market for the firm's services pick up over the last six months of 2013. 'This is definitely coming through in the number of opportunities we are seeing,' he says, 'both with existing clients and new clients. There is definitely more liquidity in the market.'
 
He does not believe that the Competition Commission's investigation into the large firm audit market has significantly altered the landscape so far. 'It is a start,' he says, 'but buyer behaviour is ingrained and it will take time to change.' Instead, Michaels sees more opportunities for the firm in non-audit services in this area of the market.
 
It is a similar story at Grant Thornton, the UK's fifth largest firm by fee income. Scott Barnes, the firm's managing partner, saw fee income increase 13%, buoyed by significant wins in the financial services sector and public sector work – the impact of taking on contracts from the old Audit Commission was felt during the second half of the firm's financial year.
 
'Talking to our partners around the firm, the indications are that our clients are now beginning to see the benefits of the economic recovery,' Barnes says. 'Our corporate finance practice is beginning to see its pipeline grow and our clients are beginning to increase their discretionary spending.' In particular, Barnes is seeing growth in work outside the south east of the country.
 
However, he does not expect the firm to consider any mergers in the near future and rejects the idea of 'bulking up for the sake of it'. Instead, he will focus on targeted deals, such as last July's acquisition of the financial services arm of Navigant Consulting.
 

Big Four dominance

Of course, three quarters of the sector's fee income is tied up in just four firms – PwC, Deloitte, EY and KPMG. Combined, they accounted for more than £8.7bn in fee income, an increase of £352m on the previous year and accounting for 76% of total income.
 
All four firms managed to increase their fee income, but with varying degrees of success. While Deloitte pushed up its fees by 8% and EY by 5.5%, PwC only recorded 2.6% growth while KPMG struggled to achieve a mere 0.4% increase.
 
But the profitability story is different, with KPMG outstripping its competitors by producing a 30% hike, driven by a series of job cuts and restructuring across the firm.
 
It was a different scenario at the three other Big Four firms.
 
Deloitte's profitability fell by 22%, with both PwC and EY recording more modest increases of 2% and 3% respectively. Clearly, the firms are taking different approaches to managing their businesses.
 
EY, in particular, has made a big deal out of its desire to take on more professional staff in the coming year and was the only Big Four firm to show an increase in staffing levels last year.
 
'It is a statement of confidence and intent,' says Steve Varley, EY's senior partner. 'In the first half of this [financial] year, we have maintained momentum in line with last year's results, which is the culmination of several years of strategic planning through the downturn. I don't think we are heading into a period of exuberant growth but we have definitely made a bet that the UK and global economies are getting stronger.'
 
The revenue challenge reflects the ongoing challenges in the market 
 
KPMG's approach has been different, attacking its cost base so that it was able to boost profits by 30% while seeing its fee income growing marginally to £1.81bn. 'The revenue challenge reflects the ongoing challenges in the market,' says Marianne Fallon, KPMG's director of corporate affairs. 'Inevitably, one of the biggest costs we have is our employee base. During the 2013 financial year we looked at our staff model across the business. There were some parts of the business where we didn't have the right mix, and so made some redundancies, but we have also recruited heavily into other parts of the business.'
 
Fallon also adds that the firm looked to improve the efficiency of its cost base. 'We have really focused on how we manage our resources, their mobility and flexibility,' she says. She also says the firm is expecting to see real growth in the coming year, but like Varley, she says there is unlikely to be 'an explosion' of client activity.
 

Mid-tier expansion

But while the big firms have been slugging it out, there has been some interesting movement further down the league table. Mazars, which saw a 4.7% growth in fee income to £120.4m, took on a number of former RSM Tenon partners in the East Midlands and Edinburgh. And then in December it announced that it would be acquiring Deloitte's public sector internal audit business, which provides services to local government and health organisations in London and the south east.
 
Mazars says the move would complement its existing strengths in its public sector external audit work. The firm also acquired Sarah Butler Associates, a specialist immigration services consultancy, during its financial year.
 
Other firms in the mid-tier were also on the acquisition trail during 2103: the Haines Watts Group took on new practices in Bromley and Godalming, while MHA Macintyre Hudson acquired HMT Assurance, which became its Reading office. Johnston Carmichael took on Ritson Smith, while Wilkins Kennedy acquired Matthews Mist during the financial year and then CW Fellowes in November 2013.
 
Further down the table, Barber Harrison & Platt merged with Barron & Barron in York and Carter Backer Winter (CBW) got together with Backstone Franks. In Scotland, French Duncan merged with Macfarlane Gray.
 

Top 10 aspirations

Johnston Carmichael was also part of another intriguing move, as it joined PKF International (PKFI). The international network had of course been left high and dry by the departure of its UK firm when PKF (UK) merged with BDO last year. This left PKFI with a large hole to fill with no obvious single firm available to fill it. So instead, the network took a more regional approach, signing up Johnston Carmichael to cover Scotland and the north, Cooper Parry for the Midlands and Littlejohn for London and the south east.
 
The move is interesting as it points to the prospect of a new top 10 firm if the three members, plus any subsequent joiners, bring their operations closer together.
 
PKF Littlejohn, as the firm quickly rebranded itself, had fees of £15.8m, Johnston Carmichael had some £33.4m while Cooper Parry brought a further £15.6m to the party.
 
Carmine Papa, PKF Littlejohn's senior partner, says they are looking for more firms to join to fill the regional gaps, particularly in the south west and Manchester. 'It's a game changer for us,' he says, 'and it has already produced a number of referrals and reciprocated work. We are now working together with the agreement of PKFI to select the firms that we want.'
 
If the firms were to formally merge, in terms of fee income around the £65m mark, this would put them on a par with Haines Watts, Crowe Clark Whitehill and Saffery Champness, all currently ranked just outside the top 10. But Papa is aiming higher, saying he could see the firms breaking into the top 10. 'That is the plan,' he says. Such aspiration will no doubt be helped by an increase in corporate activity as business confidence turns into substantive action.
 

Economic upturn

Papa has already seen a significant uptick in his corporate finance business over the past six months, with overseas companies looking to access the UK capital markets, particularly AIM. 'The model is that we take companies to market and then retain the audit,' Papa explains.
 
So it would appear that firms across the board have been following different paths to weather the economic storms of the past few years. Some have held their nerve and retained their staff in order to take advantage of the economic upturn, while others have sought to improve efficiency and flexibility. Several have found strength in numbers by coming together to offer a greater breadth of services. But all will be looking forward to the coming year as one of opportunity.
 
 
The view from the top: PwC 2013 (2012)
  • Fee income: £2,689m (£2621m)
  • Profit: £740m (£727m)
  • Profit per partner: £880,950 (£833,715)
  • Partners: 840 (872)
  • Staff: 16,580 (16,700)
Ian Powell, senior partner at PwC, says: 'We have set ourselves a challenging growth target for the coming financial year and so far we are completely on budget, with growth significantly above last year's 4%. In fact, November 2013 was our fastest growing month for five years.
 
'The growth is coming from across the business. There is good growth in our assurance business, tax has had a really good five months and consulting continues to grow. There has been more deal and IPO activity, which are both good indicators for the economy.
 
'We are working with the outcome of the Competition Commission's investigation – it is there and has been factored into our finances. But we have real concerns with the EU proposals. The first is the cost for businesses for mandatory audit firm rotation, and the second is that if you say that the incumbent auditor can't pitch then you have immediately eliminated one of the competitors from the market. It puts regulation ahead of good governance.'
 
 
The view from the middle: Smith & Williamson 2013 (2012)
  • Fee income: £185.8m (£179.1m)
  • Profit: £29.4m (£27.9m)
  • Profit per partner: £112,643 (£109,842)
  • Partners: 261 (254)
  • Staff: 1,193 (1,227)
Kevin Stopps, co-CEO of Smith & Williamson, says: 'In the first six months of the new financial year we saw a 10% increase in revenue compared with the same time in the prior year. Will this be sustained in the next six months? It could be too early to call but my colleagues are optimistic. The economic recovery is fragile, and although economic data could put pressure on interest rates, any increase could be disastrous. 
 
'There has been a material improvement in transactional-based activity, and our corporate finance team have worked on 13 deals so far [in 2013], compared with only three deals for the whole of last year.
'Competition will remain over all clients; when we are pitching for new business, the Big Four are being very aggressive on pricing, even though our focus is on owner-managed businesses and private clients.
'We are not looking for any mergers, we don't need the scale and it is easier to integrate smaller teams.'
 
 
The view from Scotland: French Duncan 2013 (2012)
  • Fee income: £8m (2012: £8m)
  • Profit: £2m (2012: £2m)
  • Profit per partner: £90,900 (£100,000)
  • Partners: 22 (20)
  • Staff: 165 (140)
Robert Kerr, chairman at French Duncan, says: 'We are still in the throes of the recession up here and are quite pleased we have maintained our income. We are seeing signs of growth in outsourcing, where we are now doing more management accounts work and book-keeping services. People are realising it is better than employing someone for 52 weeks a year when they only work 36 weeks.
 
The increase in the audit threshold has not helped, but audit is really a thing of the past. Banks are looking at management accounts that have been examined by a firm of accountants. But we do audit one listed company, and are in fact one of the few independent firms [in Scotland] that can still audit PLCs.
 
With the vote on Scottish independence, uncertainty is the biggest problem. People are not going ahead with inward or outward investment, everyone is holding fire. Even if we don't get independence, we already have devolved tax, and if nothing else happens, we could get a different rate of income tax anyway.'
 
 
 
 
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