Big Four Grip Loosens as U.K. Politicians Pledge Audit Reforms

LONDON (Capital Markets in Africa) – Small and mid-sized accounting firms in the U.K. are poised to continue winning more audit business regardless of the outcome of the Dec. 12 election.

The U.K.’s top parties, Conservative and Labour, both support audit market reforms and want to shift more business away from the domination of the Big Four firms. That means the inroads made this past year by three smaller firms—Mazars, MHA MacIntyre Hudson, and RSM—to wrest away audits of large public companies on the FTSE 350 should continue, albeit gradually, market watchers predict.

“Things have changed over the past year,” David Herbinet, Mazars’ global audit head, told Bloomberg Tax in a phone call Nov. 11. A year ago, large U.K. companies in the FTSE 350 showed little interest in auditors outside of the Big Four, he added.

Mazars is one of several mid-sized accounting firms reporting increased interest from large companies that up to now have stuck with Big Four auditors.

A string of audit scandals like the collapse of the outsourcing company Carillion PLC in 2018 prompted the government to launch two independent inquiries last year. The probes led to recommendations—not yet acted upon by the government—to replace the Financial Reporting Council with a more powerful accounting regulatory, to force the Big Four to split their auditing and consulting arms and to require the largest public companies to use a non-Big Four auditor, either on their own or with another firm. 

General Elections
The pace of reform may be slowed by the general elections and uncertainties surrounding Brexit but not derail it, according to Herbinet and Karthik Ramanna, a business professor at Oxford University’s Blavatnik School of Government.

“There is still political will behind audit reform,” Ramanna said in a recent phone interview, adding that he expected the reforms to be passed in 2020 despite the political uncertainty.

The Conservative government has pledged to pass audit reform legislation based on recommendations of two reports published in December. The Competition and Markets Authority recommended forcing the Big Four to split audit and consulting activities and requiring FTSE 350 companies to hire smaller audit firms. A report led by the head of Legal & General Group PLC John Kingman urged the creation of a more powerful accounting regulator.

The Conservatives pledge to act on the reports if they win the Dec. 12 general election, along with a third due to be published later this year looking at the future shape and content of audits.

The main opposition Labour Party commissioned its own report on the audit market last year. It adopted proposals in March to force auditors to sell off their consulting arms and create a state body to audit banks and other financial companies.

Signs of Progress
Large companies started to hire smaller auditors over the past year in expectation of the change. Goldman Sachs Europe, the mining group Ferrexpo PLC and retailer Sports Direct International PLC recently hired smaller firms as auditors.

Mazars won the audit of Goldman Sachs’ European arm earlier this year, and Herbinet said that it is now talking to one FTSE 100 company and two FTSE 250 companies about taking over as their auditor.

“We’ll make an announcement soon about a large financial services company,” Herbinet said. Before this year, Mazars had not been asked to tender for a FTSE 250 company in over six years, he said.

“The FTSE 350 audit market is changing, with firms outside the Big 4 increasingly being considered and appointed,” Rakesh Shaunak, managing partner & group chairman of MHA MacIntyre Hudson, said in a Nov. 5 email. “The market is beginning to recognize that international capability is the key factor, not merely local presence.”

MHA, the 15th biggest U.K. accounting firm, took over the Ferrexpo PLC audit from Deloitte LLP earlier this year, its first FTSE 350 client. Ferrexpo is a Swiss-based commodity trading and mining company.

Shaunak said the firm had formed alliances with others in the U.K. and joined the Baker Tilly international network to offer multinational audit clients the necessary geographical spread.

RSM, the seventh-largest firm with U.K. revenues of 319 million pounds ($405 million) in 2018, replaced Grant Thornton LLP as Sports Direct auditor in October. The firm declined to be interviewed, but its audit head Jonathan Ericson said in a statement Oct. 29 that “our experience, investment and commitment, together with the scope and scale of our international services, mean we are ideally placed for this important public interest appointment.”

Bigger accounting firms had refused to audit both Ferrexpo and Sports Direct following scandals. Herbinet accepted the danger that mid-sized firms would be left to audit big companies spurned by the Big Four. “It will look very bad for the challenger firms if there is a scandal,” over one of these audits, he said.

There are signs that mid-sized firms are starting to pick up some less contentious clients. BDO LLP has been chosen as the auditor of another American bank subsidiary this year, JPMorgan Emerging Markets Investment Trust, and of the building company Galliford Try PLC, both subject to shareholder approval.

“Many FTSE 350 companies tell us they want more choice and are actively seeking auditors which are free from conflicts of interest,” BDO’s audit head Scott Knight said in an email Nov. 11. “This is driving unprecedented demand for top tier challenger firms.” 

Big Four Still Dominant
Things remain at an early stage, however.

“It’s too early to hail a market transformation,” Knight said, in comments echoed by Andrew Parson, managing director of the research company Adviser Rankings Limited, which tracks the audit market.

Parson said that the change was that more firms from outside of the Big Four were winning FTSE 350 audits, but that this did not yet show up in the overall figures because the sixth biggest audit firm, Grant Thornton LLP, had lost several clients.

“While it is true that BDO will be picking up a further two FTSE 250 companies, Grant Thornton has recently lost three FTSE 250 clients,” Parsons said. Grant Thornton has lost the audit contracts for GVC Holdings PLC, Sports Direct and Pantheon International PLC over the past year.

Grant Thornton said in March 2018 that it would no longer bid for FTSE 350 audits, citing the cost and its lack of success against the Big Four.

Source: Bloomberg Business News