Big Four accused over the financial meltdown

The Office of Fair Trading should carry out a review of the Big Four auditing firms amid concerns that their “complacency” contributed to the financial crisis, a parliamentary committee said yesterday.

The House of Lords Economic Affairs Committee said the failure of auditors to maintain sufficient dialogue with regulators ahead of the banking crash of 2008-09 amounted to a “dereliction of duty”.

The Big Four – Deloitte, Ernst & Young, KPMG and PricewaterhouseCoopers (PwC) – who between them audit 99 of the FTSE 100 companies, appeared not to have noticed the mounting dangers in the banks or to have warned regulators of the impending crisis, said the committee.

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The report raised concerns over the companies’ domination of the audit market, pointing out in banking there is effectively a Big Three, as Ernst & Young is not active.

And it highlighted the risk of a “wholly unacceptable” further concentration of the market in a few hands if one of the Four leaves the audit market, as some observers expect. The report said that the OFT should carry out a thorough review of the issues with a view to a possible investigation by the Competition Commission. It said “prudence should be reasserted as the guiding principle of auditing”, rather than the “rules-based box-ticking approach” encouraged by the International Financial Reporting Standards which became mandatory for EU listed companies in 2005 and have “lowered audit standards” in the UK.

The committee’s chairman, Lord MacGregor of Pulham Market, said: “Our inquiry has revealed widespread concerns about the Big Four’s dominance and the risk that they could become the Big Three. Our report makes several recommendations to reduce this dominance, but we feel that this market concentration is of such significance that a thorough review of the issues by the Office of Fair Trading and possibly the Competition Commission is now overdue. Equally important is our support for regular meetings between auditors of financial institutions and regulators to avoid the serious failures of communications between the two which were so starkly revealed by the evidence to us and which contributed to the financial crisis.”

Steve Denison, northern chairman of PwC, which has 790 staff in Yorkshire, said: “There is much in the committee’s report that we welcome including the recommendation that bank auditors and banking regulators and supervisors should have an enhanced dialogue. PwC is already working with the FSA to implement this recommendation with our banking audit clients in advance of the finalisation of the formal code of practice...However, I am disappointed that the committee has recommended that the Office of Fair Trading should hold an investigation into the audit market for large listed companies. This is a fiercely competitive market at all levels and the buyers of our services are highly sophisticated in selecting independent auditors on the basis of quality and value.”

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A spokesman for KPMG, which employs 750 people at its Leeds office, said: “We support a level playing field for all parties. We support market-based – not regulatory – intervention.

“KPMG rejects the committee’s allegations of any dereliction of duty or complacency with regard to its bank audits nor did we make assumptions about Government support for specific institutions when concluding on ‘going concern’ questions.”

A spokesman for Deloitte, which has 400 staff in Leeds, said: “We are generally supportive of the recommendations in the report. However, we reject the suggestion of complacency or dereliction of duty. Deloitte continues to work with regulators to find the right solution to the various audit related issues that are under review.”

Scott Halliday, the managing partner, UK & Ireland, at Ernst & Young, which has 265 staff in Leeds and 31 in Hull, said: “In the wake of the financial crisis it is right that policymakers, and the profession itself, look at how auditors could do more to contribute to investor confidence and enhance financial stability.

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“The committee’s report makes an important contribution to those considerations.”

Limited competition and high fees

The committee’s recommendations were welcomed by James Roberts, a senior audit partner at accountants BDO.

He said: “BDO has been arguing the case for significant change in the oligopolistic audit market for many years. We will work alongside the competition authorities to encourage the creation of a better audit market.”

An Office of Fair Trading spokesman said: “We will carefully consider the committee’s recommendations in deciding our next steps in the audit market.

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“In evidence to the committee, we said that competition in the market for audit services appears limited, and that there are low levels of switching, high market concentration and potentially high fees.

“We are already considering a targeted market study into the existence and effect of UK bank covenants which could potentially limit companies’ auditor appointment choices.”

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