UK watchdog orders ringfencing of Britain's Big Four audit business

Britain's business minister Greg Clark has said he would legislate to implement the Competition and Markets Authority's recommendations

Britain’s Big Four accounting firms must ringfence auditing from their consultancy work, the country’s competition watchdog said on Thursday in a response to book-keeping failures such as at construction company Carillion and retailer BHS.

“Auditors should focus exclusively on producing the most challenging and objective audits, rather than being influenced by their much larger consultancy businesses,” the Competition and Markets Authority (CMA) said.

Exemplifying the issue, regulators found PwC’s lead auditor of BHS spent two hours on its 2014 audit and 31 hours on more lucrative non-audit work, leaving the bulk of auditing work to juniors. PwC was fined a record 6.5 million pounds ($9 million) for its shortcomings.

Britain’s business minister Greg Clark has said he would legislate to implement the CMA’s recommendations, which are the most radical reform of auditing yet after the failure of previous attempts to loosen the grip held by the Big Four, who audit nearly all of Britain’s blue chip companies. Yet operational separation of audit and consultancy at PwC, EY, Deloitte and KPMG would fall short of the full break-up that British lawmakers called for this month. The CMA noted “difficulties with an immediate global structural split”, given the Big Four are international and Britain can only intervene in the UK.

Rachel Reeves, chair of parliament’s business committee which called for a full break-up, backed the CMA’s measures saying it was now up to the government to legislate. The operational split should be reviewed after five years to see if tougher measures were needed, the CMA said. Yet TheCityUK, which promotes Britain as a financial centre, said an operational split make a good headline, but saw no evidence it would lead to genuinely enhanced audit.

Deloitte said the CMA’s main recommendations would not increase choice and competition, and could lower audit quality and damage UK competitiveness, while KPMG said: “We believe that in order to rebuild public trust in our sector we must not wait to be forced into action.

“As such, we will be moving ahead with further measures ourselves in the coming months.”

The CMA’s recommendations call for the audit practices of the Big Four having their own management, accounts, pay policies, chief executive and board. Profit-sharing between audit and consultancy should be banned, and promotions and bonuses should be based on the quality of audits. The CMA confirmed its initial recommendation that the top 350 listed companies must hire two auditors, with one from outside the Big Four — a step some companies are leery about because of the extra cost. Both would be liable for the audit.

“We question the CMA’s confidence that mandatory joint audit with joint liability will make the market more resilient,” said Michael Izza, chief executive of the ICAEW, a professional accounting body, arguing a market share cap would be a better way of extending competition. 

Regulators could allow initial limited exceptions to the joint audit rule for the biggest, most complex listed companies, the CMA said in a nod to a suggestion from lawmakers.

Grant Thornton and BDO, the nearest rivals to the Big Four in Britain, are far smaller and would find it hard to audit a major international company.

The CMA said a company which hired only a non-Big Four auditor would be exempt from the joint audit rule, but all exempt audits should face closer regulatory scrutiny.

Joint audits would remain until regulators decide choice and competition have improved enough to address the sector’s vulnerability to a Big Four firm going bust, the CMA said.