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MPs call for 'full' break up of 'big four' auditor 'cash-cows' after failures like Carillion

Oscar Williams-Grut
Senior City Correspondent, Yahoo Finance UK
PwC is one of the UK’s ‘big four’ auditors. Photo: Jack Taylor/Getty Images

Members of parliament (MPs) have called for a “full structural break up” of the “big four” accountants after a recent string of high-profile failures — such as Carillion and BHS — that raised questions over auditing quality.

The Business, Energy, and Industrial Strategy (BEIS) select committee published its final report into the UK audit market on Tuesday. Auditors check company accounts to ensure that investors are getting accurate and full pictures of a business’s financial health.

The final report proposes sweeping changes to the “big four” accountants — PwC, KPMG, EY, and Deloitte — that check the accounts of almost all of Britain’s biggest businesses. It calls for the businesses to be broken up into separate auditing and non-auditing companies to prevent conflicts of interest.

“Change in the audit market is long overdue,” Rachel Reeves MP, chair of the BEIS select committee, said in a statement. “‘The ‘big four’s’ dominance has fostered a precarious market which shuts out challengers and delivers audits which investors and the public cannot rely on.”

The report’s main criticism is that audit quality suffers because the “big four” also want to sell consultancy services to the clients they review, meaning they are more pliant than challenging.

“For the big firms, audits seem too often to be the route to milking the cash-cow of consultancy business,” Reeves said.

The BEIS committee’s recommendations go beyond earlier recommendations from the UK’s Competition and Markets Authority, which called for auditing and consultancy to be split operationally, but not into separate companies.

It also come despite efforts at self-regulation. PwC, EY, and KPMG have all pledged to stop providing consultancy services to FTSE 350 companies that they audit.

“The client relationship, and the conflicts of interest which abound, undermine the professional scepticism needed to deliver reliable, high-quality audits,” Reeves said.

‘A wider crisis of trust’

A picture shows the branding of British construction company Carillion defaced with the words ‘bust’ on the hoarding at the collapsed company’s construction site at the Royal Liverpool University Hospital in Liverpool. Photo: Paul Ellis/AFP/Getty Images

The BEIS select committee probe was launched six months ago after a string of high-profile corporate failures linked to audit quality.

Department store BHS collapsed in 2016 after being sold for £1 a year earlier. A partner at PwC was subsequently banned from the industry for signing off on the accounts of BHS prior to the sale.

Last year the BEIS select committee heavily criticised KPMG’s role as auditor of Carillion, the outsourcing giant that collapsed at the start of 2018.

Grant Thornton, the UK’s fifth-largest auditor, is meanwhile facing a probe for its auditing of Patisserie Valerie, which discovered a £94m blackhole in its accounts last year.

These auditing failures have contributed to millions of pounds in losses for investors and taxpayers. The government-backed pensions lifeboat had to takeover the running of the BHS pension scheme and the collapse of Carillion cost taxpayers an estimated £148m due to government contracts with the company.

“The audit failures at BHS, Carillion, and Patisserie Valerie are indicative of a wider crisis of trust in the audit industry,” Tuesday’s BEIS report said. “The Chief Executive of the Institute of Chartered Accountants in England and Wales noted that a ‘continual cycle of high-profile corporate failures’ had produced a ‘palpable crisis in public trust’ in the audit profession.”

“Splitting audit from non-audit business would be a big step to boosting the culture of challenge needed to deliver high-quality audits,” Reeves said.

Labour MP Rachel Reeves led the BEIS Select Committee inquiry. Photo: Tolga Akmen/AFP/Getty Images

As well as calling for a break up, the BEIS select committee on Tuesday called for changes to address the lack of competition in the market. It recommends joint audits to improve competition and mandating changing auditors every seven years, with a three year cooling-off period.

The proposals are aimed at boosting competition in a market dominated by just four multi-billion-dollar companies. PwC, KPMG, Deloitte, and EY audited 97% of FTSE 350 companies and 99% of FTSE 100 companies between them in 2016-17.

The BEIS report also proposes a tightening of dividend rules to prevent executives and investors from unfairly extracting cash from a struggling business. Dividends paid by both Carillion and BHS prior to their collapse faced heavy criticism.

The ‘big four’ respond

The KPMG offices stand in 15 Canada Square, Canary Wharf in London. Photo: Jack Taylor/Getty Images

Three of the ‘big four’ explicitly objected to the proposed splits to their business, arguing it would increase costs, reduce audit quality, and make the UK less competitive.

Stephen Griggs, Deloitte’s UK managing partner for audit, said in a statement that the company “welcome[s] many of the recommendations,” but has “concerns about a potential structural split.”

“This will be detrimental to audit quality and could materially damage the UK’s competitive position as a leading capital market,” Griggs said.

EY said it was “reviewing” the report but “disagree[s] with the proposals that call for an operational or structural split in the UK as this would undermine the multidisciplinary model and risk unintended consequences to audit quality.”

Hemione Hudson, head of Assurance at PwC UK, said: “The report’s recommendation to break up the largest firms risks hampering, rather than enhancing it.

“Arguing for ‘break-up’ sounds like action, but actually it will reduce quality, weaken resilience and distract attention from more practical steps to ensure auditing keeps pace with society’s expectations.”

Hudson added that the proposals would increase costs and make the UK a less competitive place to do businesses.

A KPMG spokesperson told Yahoo Finance UK said the report showed “trust in audit is in urgent need of repair.”

We have been open about the need for change and we want to play a leading role in building a strong, sustainable, and trusted audit sector for the future,” the spokesperson said.

KPMG is currently being investigated by the UK’s Financial Reporting Council (FRC) over its audit of Carillion. Separately on Tuesday, the FRC said it had called in an outside consultancy to help with a wider probe of “governance, controls, and culture within KPMG’s audit practice.”

In recent years, KPMG has been fined millions for failures related to audits of Ted Baker and insurance company Quindell. The FRC also has cases open against KPMG related to audits of Rolls-Royce and Conviviality.

“We are co-operating fully with the various inquiries currently under way, engaging actively with the reviews of the audit sector, and, where we can, we are moving ahead and taking action ourselves,” the KPMG spokesperson said.

“We are now 18 months into our Audit Quality Transformation Programme, and we are confident that we are making good progress.”

The Ernst & Young (EY) offices stand in 1 More London Riverside in London. Photo: Jack Taylor/Getty Images

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Oscar Williams-Grut covers banking, fintech, and finance for Yahoo Finance UK. Follow him on Twitter at @OscarWGrut.

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