Reforming the Big Four

WHEN a company goes bankrupt, recriminations tend to follow. Even so, the fury caused by the recent collapse of Carillion, a British contracting firm, is unusual. A report on the debacle by British MPs, which was released this month, savaged everyone from the firm’s executives to its regulators. But the MPs reserved special bile for the Big Four accounting firms—not just KPMG, which audited Carillion’s accounts for 19 years, but also its peers, Deloitte, EY and PwC, each of which extracted fees from the company, before and after its fall. The MPs have called for a review into the audit market and asked it to say whether the Big Four’s British arms should be broken up. The row is local, but concerns about the industry are global.

Critics of the auditors are right in two respects: that the industry matters, and that it needs reform (see article). It is in everyone’s interest that auditing works. If investors cannot trust financial statements, then companies’ cost of capital will rise, crimping growth and employment. It is also true that the industry has flaws. It is highly concentrated. The Big Four audit 98% of the companies listed on the S&P 500 and the FTSE 350 indexes. And auditors are paid not by investors, whom they serve, but by the company whose accounts they scrutinise. That raises questions about objectivity, especially since the Big Four earn nearly twice as much from consulting and other services as they do from auditing. Past reforms banned them from providing both an audit and certain consulting services to the same client, but conflicts of interest remain. In America non-audit fees charged to the same client amount to a quarter of audit fees; in Britain the figure is around a half.