Break up the Big Four: The radical proposal that's going mainstream
The Big Four is an oligopoly. Don’t take AccountingWEB’s word for it: Bill Michael, chairman of KPMG’s UK arm, admitted as much, too.
“We are an oligopoly — that is undeniable,” Michael said. “I can’t believe the industry will be the same [in the future]. We have to reduce the level of conflicts and . . . demonstrate why they are manageable and why the public and all stakeholders should trust us.”
The term oligopoly is a portmanteau of oligo (small number) and monopoly. It’s a market form where a small number of competitors share and dominate a market. Looking at audit, it doesn’t require a Sherlock Holmes-like acuity to see the market for what it is.
The question, now, is what to do about it. Impetus has been added by a slew of financial reporting failures including Tesco, HBOS and, of course, Carillion. The quality of Big Four’s audit work has been repeatedly questioned by MPs, campaigners and the FRC.
One solution with increasing cachet is breaking up the Big Four audit oligopoly. Previously the sole province of the fringe left, the necessity of a market-busting breakup has seeped into the mainstream. Stephen Haddrill, the head of the FRC, has publicly backed the idea.
The Big Four’s top brass have drawn up contingency plans for when the break-up happens. The break up will cleave the Big Four’s audit arms from its ever-growing consultancy business, ergo ending a pesky conflict of interest.
John McDonnell, Labour’s shadow chancellor, has been a vocal advocate of busting the audit oligopoly. Indeed, McDonnell has long been an interested observer of the accounting profession. Earlier this year at Davos, he suggested that accountants take a Hippocratic Oath.
Now, in a recent interview with the FT, the shadow chancellor described the Big Four as a “cartel”. “They have demonstrated that they have a range of conflicts of interest,” said McDonnell. “I don’t think they have addressed the public anger about their role.”
He added, however, that he’ll delay any final policy decisions until he has received a report on the accounting profession. McDonnell has commissioned AccountingWEB regular Prem Sikka to write the report.
Speaking to AccountingWEB, Sikka outlined the audit problem as a “state-secured monopoly”. The law requires entities of a certain size to be audited; a requirement currently dominated by the Big Four.
The problem, said Sikka, is that the Big Four aren’t neutral. “In society, there are numerous auditors. The National Audit Office audits public bodies, HMRC does audit, immigration officers do audits when they check your passport, the train guard audits your tickets.
“In all of these cases, the auditee doesn’t appoint the auditor, neither do they remunerate the auditor. The auditor is entirely concerned with audit. You don’t go to the airport and say to the immigration officer ‘Here look at my passport, but can you also sell me some consultancy services?’ In that sense, financial auditing is completely out of line.”
Audit forms one part of a range of services offered by the Big Four. And, as many critics have suggested, the integrity of the audit is impugned by the profit motive. KPMG or PwC don’t want to rock the boat as it may endanger their lucrative consulting work.
As Sikka noted, none of the four firms exclusively view themselves as audit or accounting firms. “They don’t advertise themselves as accounting firms or auditing firms. The majority of their income doesn’t come from these services.”
So a breakup is looking more and more likely. But what they might look like is up for debate. It certainly would entail a lot more than simply creating four new audit only firms. “Those businesses would still be massive,” said Sikka. “We need to grow the mid-tier firms, too.”