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'Nothing has changed’: Two years on from Carillion collapse

Two years on from the collapse of Carillion, the wait goes on for answers. 

15th Jan 2020
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Carillion in trouble - Paradise Birmingham at Chamberlain Square
Wikicommons_Elliott Brown_aw

Despite promising to have the first stage of its investigation into KPMG’s auditing of the outsourcing giant finished, the Financial Reporting Council this week said it needs another six months.

The investigation, the initial part of which is now due in the summer, spans a four-year period, has proven so complex the regulator has brought in outside counsel as it continues to sift through “a huge volume of documents and information”.

“The scale of the task of analysing the collapse of a massive complex enterprise is more complicated than was anticipated and then there is the difficulty and some would say unwillingness to assert auditing failure,” said Patrick Elliot a corporate recovery and insolvency specialist at Keystone Law.

Stuttering programme

Further delays have done little to quell feeling within the accounting sector that appetite for reform is waning, despite a busy 2019 in which multiple reviews and investigations ran concurrently.

In July, Andrea Leadsom replaced Greg Clark as business secretary and two months later closed the department’s consultation on the CMA’s proposals without outlining any future plans. Last month Sir John Kingman, who has overseen a separate bid to replace the Financial Reporting Council also criticised the UK government for making only a passing reference in the Queen’s Speech to his proposals.

Andrew Tyrie, chairman of the Competition and Markets Authority (CMA) and one of the most vocal proponents of splitting up the Big Four and separating the functions of audit and accounting, has reportedly held private dinners with the chairman of KPMG, EY, and other industry leaders, on these matters.

“There have been calls for reform to the auditing industry for numerous years, particularly for the split of auditing and non-auditing services provided by the accounting firms,” said Elliot. “Any suggestion of auditing failure at a business the size of Carillion would turn out to have significant political consequences and would need to be uncontestable.”

In April, the CMA said immediate legislation was needed to end the dominance of the Big Four, KPMG, EY, Deloitte and PwC, in order to avoid a repeat of such scandals as the demise of Carillion.

‘Exceptional scale and complexity’

The company, which employed 43,000 people to provide services in defence, education, health and transport, became the largest construction bankruptcy in British history when it went under in January 2018.

It left creditors and the firm’s pensioners facing steep losses and put thousands of jobs at risk. An initial report published by lawmakers in June 2018 said the government’s overriding priority for outsourcing had been spending as little money as possible while forcing contractors to take unacceptable levels of financial risks.

Investigators are reviewing “a substantial volume of material”, the FRC said, including the audit work papers, documents produced by Carillion and third parties such as internal auditors and external advisors, and emails and other correspondence.

This covers the years ending 31 December 2014, 2015 and 2016, and additional audit work carried out during 2017.

The regulator has also conducted a series of detailed interviews, and an independent expert is considering that analysis in order to provide an expert opinion on whether there were breaches of auditing standards.

“We are also taking advice from external counsel and we continue to cooperate to the fullest extent permissible with other regulators pursuing parallel investigations,” the FRC said. “The scale and complexity of this case is exceptional, with a huge volume of documents and information that has had to be reviewed and analysed.”

On the anniversary of the collapse, former chair of the Business, Energy and Industrial Strategy Committee Rachel Reeves MP, pulled no punches, stating, “nothing has changed” as she laid into the auditor, the company and the government.

“The government has failed to reform auditors, failed to give regulators powers and make them use them, and failed to end its obsession with outsourcing public services,” said Reeves, who oversaw the initial government response to the liquidation.

She said the “recklessness and greed” of the directors was “enabled by an audit industry complicit in a systematic manipulation of Carillion’s accounts” that allowed it to paint an imaginary picture of its finances when alarm bells should have been ringing.

“KPMG was paid £29m to be Carillion’s auditor for 19 years, and signed off Carillion’s accounts year after year,” Reeves said. “As debts and deficits ballooned, it complacently signed off Carillion’s figures without qualification. “

Carillion’s board deliberately chose not to make adequate contributions to its pension schemes, Reeves said, adding that the firm’s finance director of 10 years, Richard Adam, considered them a “waste of money”.

The FRC is investigating the conduct of Adam, along with Zafar Khan, another group finance director, in connection with the preparation of financial statements during the relevant period, alongside its probe into KPMG.

“Disaster happened with Carillion and it will happen again if changes aren’t made now,” Reeves said.

Ring-fencing operations

One of the suggestions floated by Tyrie is to “ring-fence” the operations of audit and accountancy within large firms. Reforms promoted by Tyrie following the 2008 financial crisis forced British banks to split their investment and retail arms in such a manner, as to cut risk and remove the possibility that the public would have to pick up the bill should the investment side go under.

“Big accounting firms have a history of using financial/political resources to dilute reforms,” said Prem Sikka, Professor of Accounting at the University of Sheffield, and Emeritus Professor of Accounting at the University of Essex.

“They have been delivering dud audits, engaged in tax avoidance and insolvency abuses for decades and govts have done nothing. Ordinary people pay the price of this corrupt indulgence.”

Replies (6)

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By flightdeck
16th Jan 2020 10:20

Remind me, what does Government do? As in, actually accomplish?

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By Ben Alligin
16th Jan 2020 10:35

Why doesn't the our beloved ICAEW get involved? They seem to have plenty of time on their hands other than going after sole ACA/FCA accountants and bringing them to book for heinous crimes such as failing to tick a box somewhere, or not complying fully with the latest GDPR regulations. Both these things have a massive impact on the UK economy and perception of the accountancy profession by the general public.
Heck another audit failure on such a small scale, wouldn't raise any concerns by the ICAEW. It's hardly as if KPMG or their audit partners are bringing the profession into disrepute!

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By bobsto12
16th Jan 2020 11:45

I suspect that you don't get to be a partner in an audit firm by antagonising the directors of the firms you are auditing. All those found wanting in most scandals have probably made enough money to not be affected by any fallout by the time it comes to light.

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By rememberscarborough
16th Jan 2020 11:47

Awarding an "independent" audit to an organisation that also receives large amounts of monies for other services is the biggest conflict of interest we've ever seen yet the authorities and accounting organisations wave it away because they have a financial interest.

For the audit to mean anything the organisations carrying these out must be completely independent of any other companies providing financial services. However, given all the back scratching going on within the Big 4/5/6/7 I'm not holding my breath...

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By [email protected]
19th Jan 2020 16:22

Now that external counselk are being hired, what is this investigation costing, and who is footing the bill?

How is it possible that the FRC who are supposed to be experts in this matter wildly underestimate the time to be taken in even getting the first stage of the investigation completed. How could they underestimate the complexity. What experience do they have of audits of this size.

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By PPaccweb
19th Jan 2020 19:25

Doing audit and consulting for the same client is no doubt a major conflict of interest - and stopping that is a solution, but only a partial solution. Auditor rotation is also a partial solution. The main thing is, how can I freely and independently, critique the accounts maintained by a management who effectively decides upon, or at least heavily influences, my appointment, remuneration and termination. In this day and age, how can we be so naive to think that auditor independence will not be compromised severely by this arrangement (even if the compromise is not overtly visible, and happens at the subconscious level inside the auditor's head) ?!

One of the few effective solutions I have been advocating since 2014, when I wrote to the IFAC and IAESBA as part of community discussion, is to convert the audit profession into a government-run public utility service, because, even if you look at privately held entities - both large and small - so many different stakeholders' lives are interwoven, and inevitably affected by the quality and independence of the audit - bankers who place reliance on the audit for granting finance; bankers who convince bank management to provide the finance to the audited entity and those who veto the lending; the employees of the audited entity who are involved in cover-ups, and the whistleblowers; customers and suppliers of the audited entity; partners of the audit firm who are influenced to look the other way, or actively push problems under the carpet, and those who don't; audit firm executives who choose to "follow the leader" and those who choose to stand firm on their principles.

Unless you completely break the nexus between appointment, remuneration and termination of the inspector/auditor, from the subject matter of the audit (the management which has prepared the data being audited), try as you might, Carillions will continue to happen and become even bigger in the years to come. The required response to this, now, has to be at the other extreme of polite, gentle prods to the body of this beast. That will never move the needle enough to make a real difference. The international accounting and auditing bodies can continue all they want to "poke" this beast by coming up with another 100 of the latest standards that "align" audit work with the latest changes in technology, or by requiring the production of more and more granular or more aggregated data in the notes to accounts, or by making audit work more rules-based or more principles-based, etc etc etc etc. Government authorities who oversee audit firms, can hold all the conferences they want, at the swankiest hotels and resorts, for audit professionals to meet and share "best practices" and "latest practices" in the audit profession, speakers at these conferences can make any number of eloquent speeches on these topics, government authorities may haul up audit firms for poor audit quality year in and year out, penalize them in the millions (which actually is pocket change for some of the behemoths). All these are good and well within their limited spheres of influence. But we mistakenly wear rose-tinted glasses and think that we are raising the quality and independence of our audits globally. Instead all that this is achieving is merely scratching the [***] of this beast, and moving us faster and faster towards more and more Carillions.

The way the audit profession is structured and regulated may have served well when the profession started, in maybe the mid 1750's and for probably two hundred years after that, when the values prevalent among the majority of the global population were different. But in this, the coming third decade of the 21st century, with its social-media driven world of instant global comparisons of lifestyle, where the struggle for existence is getting as intensely hot as the greenhouse gases that surround us, that structure and manner of regulation has become useless! It will take some doing to (1) convert the audit profession into a government-run public utility service with a view to totally disconnecting the appointment, remuneration and termination of auditors from the management of the audited entity, and (2) to create a supportive "ecosystem" upstream and downstream of this structure, that will ensure the new structure minimizes human frailties (eg. giving and taking of bribes even within this new ecosystem) and survives for good - but the building blocks for this new structure should be put in place now. Nothing is impossible where there is the will to do it.

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