May 24, 2012 / 2:20 PM / 6 years ago

Fate of European auditors to hinge on UK probe

LONDON, May 24 (Reuters) - A UK competition probe could define the future of the “Big Four” accounting firms after the European Union delayed its reform of the multi-billion euro sector until after it reports.

KPMG, PwC, Deloitte and Ernst & Young check the books of nearly all blue-chip companies in the world and many policymakers want this “oligopoly” cut down to size so that the EU’s 8,300 listed companies have more choice of auditor.

The Big Four are also under the gun for giving clean bills of health to banks just before they had to be rescued by taxpayers in the 2007-09 financial crisis.

But the delay by EU lawmakers is leaving smaller auditors worried that a rare chance for real change may slip away.

The EU parliament and member states are approving the law to make it easier for those smaller firms such as BDO, Grant Thornton and Mazars to build up market share.

The lawmakers will delay approval until the autumn so they can examine the initial outcome of a UK Competition Commission probe into Britain’s audit market, due around October.

“The initial views presented by the Competition Commission will be one of a number of factors considered when designing the future of the audit market in the EU,” said Sajjad Karim, the British Conservative lawmaker responsible for the law in the European Parliament.

The longer wait has generated even more uncertainty for the industry, ratcheting up lobbying by the Big Four and their rivals to levels lawmakers say they have not seen before.

“The UK Competition Commission will be landmark and without precedent in the audit market. I think it will show deficiencies in the market,” said Antonio Masip Hidalgo, a Spanish centre-left lawmaker in the EU assembly.

The UK watchdog will also publish “working papers” over coming weeks which should also give a flavour of its thinking.

NO STATUS QUO

The Big Four hope the Competition Commission will require only modest “remedies” in the UK, such as pressure on the country’s top 350 companies to change auditors every 10 years or explain why not, something Britain’s Financial Reporting Council regulator is already working on.

Barclays bank has used the same auditor, PwC, since 1896.

“A potential result is to come out and say there is no issue at all but I am not sure that is likely. Even so it’s hard to see they would do anything dramatic like cutting up firms,” a senior official at one of the Big Four firms said.

Smaller auditors hope the UK watchdog will require tough measures so that efforts by the Big Four to water down the EU law will be harder to justify.

“If the Competition Commission came out with a view that it can’t see an issue with market concentration then that would be extremely unhelpful for the European dynamic for change,” said David Herbinet, a partner at Mazars.

There is already too much momentum for EU change to be stopped completely by any “negative” UK outcome, Herbinet added.

Industry officials hope the Competition Commission, seen as independent and respected, will come up with effective ways to boost competition as EU lawmakers are heavily lobbied and struggle to find a consensus.

The industry is deeply polarised and some of the proposals in the EU reform are seen as unworkable. Lawmakers want more time to depoliticise the debate.

“As such the UK Competition Commission is feeding the content and pace of the Brussels process,” a senior official at one of the smaller auditors said on condition of anonymity.

“The European Commission’s own competition officials are also keeping a close eye on the UK and on the EU draft law to see if either of these truly addresses the market structure concerns,” the official added.

VERY BIG FOUR

Andrew Brown, chairman of the European Group of International Accounting Networks and Associations, said the auditing market has been stagnant for a decade with the gap between the Big Four and the rest remaining “huge” though officials from the top firms say competition between them is fierce.

The Big Four, in revenue terms, have become bigger than many of their clients.

KPMG had a European turnover of 4.6 billion euros in the year to Sept. 2011 and employed 32,800 staff - without counting its operations in Italy and France. Fee income last year in all of Europe for BDO, the fifth-largest auditor, was under 2 billion euros.

In Germany, just two of the Big Four dominate auditing of the larger companies and Brown said even a merger of BDO and Grant Thornton, the sixth-largest firm, would create a group that was still only a third of the size of the smallest of the Big Four.

In a bid to create more competition the EU draft law proposes “pure audit firms” or splitting up an firm’s auditing and advisory services if they have more than a certain market share.

There is a proposed ban on many advisory services that can be offered to a client who is being audited.

Users of auditors would also have to “rotate” or switch to another firm after six to nine years, a step the United States is also considering

Smaller auditors say it is difficult to justify expanding their operations unless there is some regulatory intervention to attract bigger clients.

JOINT AUDITS

Few expect the Big Four to be split up and many of their smaller rivals don’t see this as a silver bullet in any case.

Instead smaller auditors want to make joint audits mandatory or at least create strong incentives for companies to have them.

This refers to two auditors checking the books of a company, with at least one of them from among the smaller auditors. France has mandatory joint audits, allowing auditors like Mazars and Nexia to gain more experience and market share.

“When you look at audit fees in France, they do not seem to be much higher. There is also much more rotation of audit mandates than in some other countries,” said Stephane Marie, a partner at Nexia.

Big Four officials scoff at what they see as “self interested” attempts by smaller rivals to promote joint audits to win more business, but some EU lawmakers are trying to insert mandatory joint audit provisions into the draft law.

This is raising hopes among smaller firms who see it as the best way for investors and big companies to become more comfortable with lesser-known auditors.

Many of the smaller auditors simply would not have the resources to check the books of a large multinational client on their own in any case.

“My beef is that shareholders don’t understand they are being short-changed,” said Geoff Goodyear, chairman of Russell Bedford International, a chain of smaller auditors.

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