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Audit shame: Three out of four is bad

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In the past week, three of the Big Four – PwC, EY and KPMG – have all received multimillion-pound sanctions from FRC for failed audits. The fines don’t seem to be working, so is there a solution?

15th May 2024
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The first few months of 2024 have been characterised by relative silence from the Financial Reporting Council (FRC) in respect of substandard audits. The last week has made up for that with a vengeance. Of the Big Four, only Deloitte has escaped opprobrium and big fines.

Their fellows have each come a cropper on audits so inept that they were already the stuff of anti-legend.

Carillion plc

KPMG’s audits of Carillion over a number of years were disastrous, leading to a severe reprimand for misconduct in relation to the provision of false and misleading information and documents to the FRC’s audit quality reviews.

Since there were two audit partners involved, separate reports respectively comprising 450 and 59 pages have been issued. While readers might think that these are the ideal solution to insomnia, that may be incorrect since they are also likely to feed nightmares.

In respect of 2013, the firm got away relatively lightly facing a financial sanction reduced by 30% to £2.45m for good behaviour (admissions and early disposal) of which more later.

For subsequent years, the financial sanction was a whopping £18.55m, again reduced by 30%. In addition, the firm agreed to pay costs totalling a quite staggering £5,324,365.68.

To put all of this into perspective, in 2022 KPMG had 781 partners and UK fee income of £2.73bn, of which £695m was generated from audits.

Therefore, looked at from one angle, the financial sanctions are pretty hefty. However, when one considers the losses suffered by Carillion stakeholders, they pale into insignificance.

Indeed, even as august a firm as KPMG might have struggled to find the funds had the liquidators successfully sued to recover all of the losses that resulted directly or indirectly from these failures.

The partners might also be relieved that the days of partnerships with joint and several unlimited liability are long gone.

London Capital & Finance plc

This company played musical chairs with auditors, appointing Oliver Clive & Co Limited in 2015, PwC in 2016 and EY in 2017. Each of these firms must now deeply regret their appointments.

Oliver Clive escaped with a sanction of a relatively modest £42,000 after discount.

PwC is facing a liability of £4.9m after discount, while EY will be paying £4.41m. They somehow managed to achieve a double discount, 10% for an exceptional level of cooperation and a further 30% for admissions and early disposal.

In each of the cases, the audit partners in charge also face serious financial sanctions ranging from £14,000 for the partner at Oliver Clive to £350,000 for the KPMG partner in charge for later years. Yet again, these figures were discounted by 30%.

Penalty discounts

Readers might note that in every case, the penalty initially levied was reduced by 30% and the EY a further 10%.

Using a sporting analogy, where someone receives a yellow card and soon afterwards a second, rather than a pat on the back and sympathy, they would expect a red card with no further mitigation.

According to the 450-page report, KPMG has been sanctioned no fewer than 12 times in a four-year period for its failure to carry out audits adequately.

How the FRC continues to give 30% discounts to repeat offenders is beyond comprehension. Indeed, there must be a strong argument for proposing that after a certain number of failed audits, the sanctions should automatically be increased by, shall we say, 50% the next time and then 100% for further offences.

Few effective solutions

The Big Four appear to price in dodgy auditing, although it is possible that the financial sanctions in these three cases might have pushed them over budget.

Presumably, those in power have made conscious decisions to the quality of audits and thereby cup costs as a good investment even if the odd few million pounds get paid to the FRC every now and then.

If that is the case, then there are very few effective solutions available. Ever-larger penalties might lead to a change in behaviour, as would exclusion from professional bodies.

Imprisonment for bad auditors and possibly those controlling firms that repeatedly fail to carry out their duties could be the final answer in the most extreme cases of fraud and deception and would almost certainly have the desired result.

Bearing in mind that we are in a profession that claims to uphold the highest ethical standards, while one can accept that occasionally people will make mistakes, “the provision of false and misleading information and documents to the FRC’s audit quality reviews” sounds like the kind of behaviour that should lead to a lifetime ban and possibly an opportunity to provide services at His Majesty’s Pleasure, were prisons not all full to capacity at the moment.

Replies (12)

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By Paul Crowley
15th May 2024 17:40

Is auditing just too difficult to get done correctly now even by the biggest firms?

When we gave up on auditing, 10 years ago, because we helped our final client to get out of that noose, it was with great joy. The company was a medium sized company, but owned by the directors. Zero outsiders, no loans and cash rich. The audit was just a waste of money serving no public purpose. With hindsight, we were not charging enough, giving the costs of keeping the audit registration live.

The waste of money that auditing costs, given that no audit firm seems capable of delivering an audit does seem like a cash burning exercise.

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Replying to Paul Crowley:
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By Roland195
16th May 2024 08:50

The audit of Owner Managed SMEs always seemed a futile exercise to me with no identifiable point, let alone value. Risk of management override is probably close to 100% for one thing.

At the other end of the scale, we have these companies which are now too big & complex to be audited.

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By FactChecker
15th May 2024 22:22

"Indeed, there must be a strong argument for proposing that after a certain number of failed audits, the sanctions should automatically be increased by, shall we say, 50% the next time and then 100% for further offences."
I proposed something just like that a couple of years ago ... spiced up by tackling my bête noire (the use of the same old catchphrases about 'lessons learned', 'all in the past', 'committed to being the best', etc) being fined at £100k per time any are said and levied on the speaker personally.

FWIW there's always room for a bit of 'creativity' in fitting the punishment to the crime.
How about solving "were prisons not all full to capacity at the moment" as follows:
- the relevant partner can serve their sentence as an ankle-tagged 'prisoner' in their own residence;
- but they can be forced to house, and care for, an illegal immigrant or two within their household.
[No more Bibby boats, flights to Rwanda or overcrowded detention centres ... just some very rich people living in their large houses, which they have to share with people they otherwise never meet - and have to 'socialise' with them because the ankle-tag curtails *their* freedom to roam!]

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Replying to FactChecker:
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By evildrome
16th May 2024 11:18

"(the use of the same old catchphrases about 'lessons learned', 'all in the past', 'committed to being the best', etc) being fined at £100k per time any are said and levied on the speaker personally."

Superb!

Imagine we implemented that in Westminster!

What would they have left to talk about I wonder...

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By sherodwilliams
16th May 2024 10:50

Extending the sporting analogy, the element of Self Regulation becomes one of "you pat me on the back this time & I will pat you on the back later on down the line"
There is really no great benefit to the family Director Shareholders in auditing SME family companies. In a world where those types of company are being bought out by larger , sometimes global organisations, no reliance whatsoever is placed on the fact that the accounts were audited, the reliance is based upon the buyers own Due Diligence. Frankly the family members neither benefit from nor want to pay for a statutory audit . Paul Crowley hits the nail on the head saying that audit in small firms is a cash burning exercise. What is more it seems is the ever increasing burden of issues like ISQM risk assessment .Simply more regulation for no great increase in value to the SME family company.

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Replying to sherodwilliams:
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By SuperAccountingSteve
16th May 2024 11:55

An audit does benefit in regard to fraud and error, i.e. many a family SME has been taken down by thieves and errors, i know of a small ish family business, where they havent been acruing their electricity for years, since a co tenant moved out who handled the recharge, and its several hundred thousands that their accounts are overstated, and they issued dividends they shouldnt have. Perhaps an auditor would have picked it up.

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Replying to SuperAccountingSteve:
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By sherodwilliams
16th May 2024 14:36

I would agree save for the fact that if the family members are unaware that they are not paying sufficient electricity , should they be in business. Alternatively they may well have known and simply kept quiet. I think any reasonably competent accountant would question the fact with Directors. Also as auditing is a sample based process it would be unlikely to be picked up. A very low cost is unlikely to be caught as a material item. Application of common sense is more likely to pick up areas of error and perhaps controversially this is where the profession tends to fall over. I review many files & this is an all too often issue. I have at times planned a file, briefed a staff member as fully as possible only to see a blank expression looking back at me ! It is at times like that I can see the appeal of early retirement !

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By SuperAccountingSteve
16th May 2024 11:49

We have 4 million new souls from immigration since 2005, so we need at least another 20,000 prison spaces to cope with that , in my estimation. The same reason we are waiting to see a doctor, means that criminals stand a good chance of staying free (and increasingly they know it), i.e. our infastructure is bursting at the seams.

Nationalise the audit industry and give a bonus to auditors if they find problems.

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Replying to SuperAccountingSteve:
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By Roland195
16th May 2024 12:33

Can't be any worse than the give them the sack if they find problems model that has got us here I supppose

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By GDavidson
17th May 2024 10:19

Wirecard and Greensill far bigger than these minnows and still to come. You often wonder why directors appoint auditors who are shown to be incompetent over and over again. But that is exactly what they want. Nationalise auditing and let's get back to having accounts we can rely on.

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By grantth
17th May 2024 12:55

Comparing the frequency of audit failures with the frequency of failures in other professions makes one wonder if, perhaps, part of the reason may be the overly complex legislation or unrealistic expectations. Should the regulators shoulder some of the blame? It's difficult to accept that audit partners with many years of experience can so easily be labelled by regulatory bodies as incompetent.

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Jennifer Adams
By Jennifer Adams
21st May 2024 08:10

Whenever I read another audit-type tale gone wrong/ large penalties etc I wonder about the staff on these audits:

1. does anyone actually apply to work in an audit dept any more? and if so.. why? It cant be a life's ambition to be an auditor not with all these failed audits flying around
2. if you are a junior auditor at one of these firms that have been penalised why stay - if and when you leave surely a future employer will wonder why you stayed? Wont your experience be 'tainted'?
3. or do the staff stay for the' experience' and quickly move on - in which case where is the experience to enable such errors to be picked up?

>> or is that the point - is inexperience/lack of staff the reason for this bad work?

Philip says 'Imprisonment for bad auditors'... who will be the ones going to prison? The managers who should have picked up the problems or just the audit partners?

And why havent we heard of any 'whistleblowers' amongst the audit staff.. surely they must see that errors are being made and feel uncomfortable? Or do they quickly leave and keep quiet (poss it's in their employment contract not to tell tales? Dont know)

The fines are for the 'provision of false and misleading information and documents'- who created these documents? You are not telling me the audit partners created them all by themselves with no input from other staff?

No.. I just dont get why anyone would work in the audit profession nowadays.

Perhaps an auditor could enlighten me.

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