How Did the Big Four Auditors Get $17 Billion in Revenue Growth? Not From Auditing | WSJ
Audit firms have a tough job. Some critics think they shouldn’t have a second one.
For years, the Big Four accounting firms have pushed into consulting, seeking growth their core auditing businesses weren’t providing. Since 2012, the firms’ combined global revenue from consulting and other advisory work has risen 44%, compared with just 3% growth from auditing.
The result is that the bulk of the firms’ revenue now comes from consulting and advisory, $56 billion last year, compared to only $47 billion from auditing. Five years earlier, auditing pulled in roughly the same amount—$46 billion—while consulting and advisory’s haul was only $39 billion.
But that $17 billion growth in consulting and advisory revenue has come with concerns about the potential for conflicts of interest and loss of focus on auditing at the four firms, Deloitte Touche Tohmatsu, PricewaterhouseCoopers, Ernst & Young and KPMG.
Last month, comments from a U.K. regulator revived an old debate: Should the Big Four be broken up, with corporate auditing separated from consulting? That would leave audits handled by separate firms that do nothing but that type of work.
Some observers think “audit-only” firms are an idea whose time has finally come. They think it will make audits better and spur competition.
“I would love to see that,” said Michael Shaub, a Texas A&M University accounting professor.
But the industry says it helps to have auditing and consulting under the same roof. That setup gives the auditors easier access to technology and expertise about their clients’ businesses. It “provides the structure, breadth and depth of technical skills and industry expertise necessary to deliver high-quality audits,” said Mark Weinberger, Ernst & Young’s global chairman.
Creating audit-only firms, by contrast, “would undermine significant progress made to strengthen audit quality,” Deloitte said in a statement.
Consulting has become crucial to the Big Four financially: As a group, they got 42% of their global fiscal 2017 revenue from consulting and advisory work, compared with 35% from auditing. The remainder came from tax and legal work.
While consulting can be lucrative—it tends to be more customized, creative and driven by corporate clients than auditing is—the presence of the business at audit firms has been a concern for years. Investors fear it could cause the firms to take their eyes off the ball when it comes to their core auditing responsibilities and that it would be harder for an audit firm to be impartial if it is also reaping large consulting fees from the same client.
Arthur Andersen, for example, earned more in fees from providing consulting and other nonaudit services to Enron Corp. in the year before its demise—$27 million—than it did from auditing the company ($25 million).
After the Enron scandal, the Sarbanes-Oxley Act in the U.S. barred firms from providing many types of consulting services to their audit clients. But they can still do both for clients outside the U.S., as well as provide consulting to American companies they don’t audit.
Audit-only firms were also suggested during Enron’s failure. Before Arthur Andersen collapsed under the weight of the criminal case against it, former Federal Reserve Chairman Paul Volcker tried unsuccessfully to save the company with a plan to separate its auditing and consulting businesses.
The idea has gained some recent traction in the U.K. Stephen Haddrill, chief executive of the Financial Reporting Council, told the Financial Times last month that authorities should consider breaking up the Big Four firms in the U.K. to separate auditing from consulting and to foster competition.
Virtually all of the largest U.K. companies are audited by the Big Four, as is the case in the U.S.
It isn’t clear whether separating auditing from consulting would work in the U.S. While some investors are concerned, there hasn’t been any significant regulatory push for such a move. In 2013, James Doty, then chairman of the U.S. Public Company Accounting Oversight Board, expressed interest in looking at the growth of the audit firms’ consulting practices, but the PCAOB hasn’t taken any public action since. A separation might be difficult globally as well; Big Four member firms in each country are legally separate from others in the same network, and regulations can differ from one country to another.
In response to Mr. Haddrill’s proposals, PwC’s U.K. firm said it was “open to ideas,” but noted that large multinational companies must have auditors big and skilled enough to meet their needs.
KPMG didn’t provide any comment.
The research is mixed on how audit quality is affected when the same firm does consulting, said Patrick Velte, an accounting and auditing professor at Germany’s Leuphana University of Lüneberg.
On one hand, keeping the businesses together can bring auditor independence into question. But it also can help an auditor get a better handle on a client’s business risk.
“I’m not quite convinced that pure audit firms will be linked with increased audit quality,” he said.