[A-List] Financial regulatory crisis
Michael.Keaney at mbs.fi
Fri Mar 8 02:41:09 MST 2002
Big Five uncomfortable in the spotlight:
ACCOUNTANCY REGULATORS AND INVESTORS ARE UNSURE WHETHER THE PROFESSION
HAS COMPLETE INDEPENDENCE:
* ELAN SEES NOTHING UNUSUAL IN ITS CONNECTIONS WITH KPMG:
The amount of non-audit work companies give to auditors is coming under
scrutiny again, write Michael Peel and Joshua Chaffin
Financial Times; Mar 5, 2002
By JOSHUA CHAFFIN and MICHAEL PEEL
The spectacular collapse of Enron, the US energy trader, has put the
work of the "Big Five" auditors under intense public scrutiny.
For every Dollars 1 they earn from audit services, accountants earn an
estimated Dollars 2.69 from non-audit work, according to a survey by the
US Securities and Exchange Commission. Regulators and investors alike
are wondering whether that means the number-crunchers have lost their
focus and independence.
"The thing that concerns me is that you go down a line of mutual
interests between the auditor and client," says Larry Rittenberg, a
professor of accounting at the University of Wisconsin at Madison. "The
auditor starts to see things not much differently than management does:
they start to realise that their growth is dependent on the company's
Such comments are testimony to the increase in recent decades in the
scope of accountants' involvement with the companies they audit. The
"Big Five" have expanded into advisory services such as corporate
finance and computer system installation that were previously the
preserve of consultants or investment banks.
But the profession and its supporters argue that the debate is over a
conflict of interest that has never been proved to exist.
"The general assertion is that because money was made and something then
went wrong, there must be a problem," says Rick Antle, a senior
professor at the Yale School of Management. "But nothing in the data
demonstrates that audit quality is compromised by consulting
The intermittent debate over alleged conflicts of interest flared up
again when it emerged that Andersen earned Dollars 27m in consulting
work for Enron last year, against Dollars 25m for its audit.
The ubiquity of the leading auditors is apparent from their US annual
revenue figures, the only financial details the firms release.
Public Accounting Report, a monthly US newsletter, says the "Big Five" -
Andersen, Ernst & Young, PwC, KPMG and Deloitte Touche Tohmatsu - earned
Dollars 10.3bn from audits in 2000 and Dollars 16.4bn from other
services. It says the differential is even greater on analysis of
services provided to audit clients - it says the "Big Five" earned more
than Dollars 3.50 in advisory work for every Dollars 1 of audit fee.
The message is that it is an unusual company that uses its accountants
for audit alone - a PAR survey in 2000 of 385 Fortune 500 companies
found that all hired their auditor for some consulting work.
One of the difficulties in trying to estimate the extent of the links
between auditors and their clients is that disclosure rules around the
world are poor.
In the US the problems date back to 1978, when the SEC, the main
financial regulator, forced companies to reveal the amount of non-audit
fees they were paying to their accountants - only to drop the
requirement three years later.
Companies have only begun disclosing the amount of advisory work carried
out by their auditors since the SEC tightened the rules once more late
in 2000. In Europe, publication of auditor-related information is
patchy, if improving, though there are wide variations from country to
A survey last year by Deminor Rating, a corporate governance
consultancy, found that no French companies and less than 10 per cent of
German businesses disclosed the non-audit fees they paid their auditor.
The research, which covered the FTSE Eurotop 300 index of leading
companies, said the overall level of non-audit fees disclosure rose from
25 per cent in 2000 to 43 per cent last year, with Sweden scoring 100
per cent and the UK 90 per cent. The survey found that 46 per cent of
companies disclosed the audit fees they paid, up from 35 per cent in
"As a positive development, it can be observed that European companies
increasingly disclose audit fees and non-audit fees," Deminor said.
"This is helpful to assess true independence or a possible conflict of
interest an auditing firm might have."
Research in the UK suggests the state of affairs exemplified by Enron -
where the accountant earns more from non-audit services than from audit
work - is commonplace in Europe.
A survey by Pirc, a UK corporate governance consultancy, found that 196
leading companies out of a sample of 308 paid their auditors at least as
much for non-audit work as for the audit.
The research said British Sky Broadcasting, the satellite broadcaster,
paid its auditor 23 times as much for non-audit work last year as for
the audit, adding that 39 other companies had an audit to non-audit
ratio of 5:1 or higher.
However, accountants say the term "non-audit" work is an
over-simplification that is inadequate to describe the range and
importance of services that accountants provide these days.
Research conducted for the Financial Times by Financial Director,a
monthly UK magazine, shows that the variety of work offered by auditors
stretches well beyond management consulting or information technology.
It suggests that more than 10 per cent of FTSE 100 company non-audit
fees comes from regulatory and compliance work and other audit-related
activities, some of which auditors are required to do by law.
A further 11 per cent came from tax work and about 22 per cent from
corporate transaction and restructuring services, compared with a total
of 35 per cent from work on computer systems and other types of
Andrew Sawers, editor of Financial Director, notes that about 40 per
cent of FTSE 100 annual reports refer to the role of audit committees
made up of company directors in assessing the potential effects of
advisory services on the auditor's independence.
"We think that this is an important statistic, because it clearly shows
that many companies have the question of auditor independence at the
front of their minds," Mr Sawers says. "We suspect that many of the
other 60 per cent have also given consideration to this question, but
just didn't happen to make specific mention of it."
Perhaps the most important lesson from the Financial Director research
is the questions about advisory work that it cannot answer.
The magazine says 51 per cent of FTSE 100 companies gave no information
on the nature of non-audit spending, adding that it had to make some
estimates even in the cases where companies disclosed details.
Many in the accounting profession argue greater disclosure would show
non-audit work rarely consists of hugely lucrative computer consulting
projects that could jeopardise the independence of audits.
The question is whether regulators, investors and the public will accept
the profession's assurances of objectivity or whether they will demand
an end to the envelopment of leading companies by their auditors.
Full article at:
Mercuria Business School
michael.keaney at mbs.fi
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