Finance

Audit sector failures mean more Carillion-style collapses likely, says think tank

The continued failures of the audit sector means that there are likely to be more “costly Carillion-style business collapses,” a report from think tank IPPR said.

The report said the major audit firms are “failing society” through the limited scope and lack of rigour of their auditing practices.

“A large number of small-scale, silent Carillions are likely happening every year,” the report said.

British multinational and construction firm Carillion went bust in 2018, despite having received a clean bill of health from its auditors. It had nearly £7bn in liabilities when it fell into liquidation.

In response to that crisis, the government embarked on a process of audit reform. The business department published a white paper in March setting out its proposals for a shake-up of the sector.

Proposals include the operational separation of the audit and non-audit arms of the Big Four firms (EY, PwC, KPMG and Deloitte), the introduction of shared audit which would require a Big Four firm to work with a smaller challenger firm such as BDO or Mazars on audits of FTSE 350 companies, and a greater focus on the detection of fraud.

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“There is a real risk that unambitious reform would leave some of the central problems unaddressed,” the IPPR said.

The IPPR called for an end to the “oligopoly” of the Big Four, a broadening of the remit of auditors to allow them to become “trusted referees” of businesses, a greater focus on aggressive accountancy practices and the structural separation of audit and non-audit practices to avoid conflicts of interest.

“Our corporate finance system does not account properly for risk, encourages firms to take on excessive debt, and allows firm insiders to prioritise their own short-term financial interests above the interests of workers, pensioners and suppliers, and the long-run financial sustainability of the firm. We need to reform this system to stop more firms going the way of Carillion, BHS and Patisserie Valerie,” said IPPR economist Shreya Nanda.

A PwC spokesperson said: “We welcome the current comprehensive consultation by BEIS on restoring trust in audit and corporate governance. Listening to the views of a wide range of businesses, investors and other interested parties will be key to achieving a coherent set of measures where all parties play their role.”

Separately, shareholder advisory service Pirc has said it will urge investors to vote against the reappointment of PwC, EY, KPMG and Grant Thornton as auditors because it says they are not doing enough to combat fraud.

READ Focus on fraud, bonus clawbacks, powers to split the Big Four: The UK’s audit sector shake-up

Pirc said a report from the International Auditing and Assurance Standards Board that said there was an “expectations gap” between what the public expected of auditors and what they were required to deliver was “incorrect”.

“There is no ‘expectation gap’ under the law of many countries including the UK,” Pirc said in a February letter to the accounting body.

Pirc said Deloitte, BDO and Mazars had made commitments to fight fraud, but said it would vote against the reappointments of EY, KPMG, PwC and Grant Thornton until they changed their positions on the issue.

“The ball is in their court. We have said what our position is and we will carry on voting against them,” head of corporate governance at Pirc Tim Bush told Financial News.

“Auditors have always had a responsibility to design their audit to identify material misstatements, whether caused by error or fraud,” PwC said in a statement. “The proposals in the BEIS consultation paper seek to ensure this responsibility is clearly defined in auditing standards and make sure auditors are transparent when they report on the work they have done to detect material fraud.”

KPMG and EY declined to comment on Pirc’s move and Grant Thornton was contacted for comment.

To contact the author of this story with feedback or news, email James Booth

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