Splashdown for audit

THE idea needs to be corrected that audit failure is a fluke. It is too widespread for that, having been present at Carillion, Patisserie Valerie, Tesco, the Co-op Bank and other places. There is systemic failure in the way that contemporary audit is conducted.

one of the recently installed chief executives at the outsourcing companies was shocked when he found out that auditors were signing off accounts where revenues were being reported as income, years ahead of it arriving in the coffers.

Reports on a misfiring audit market have found serious shortcomings. Sir John Kingman was disturbed by the ‘ramshackled house’ he found at the Financial Reporting Council regulator.

The Business Select Committee of the Commons has demanded total separation and hive-off of audit from consulting. And the Competition and Markets Authority advocates bringing smaller firms onto audits as junior partners, as a testing ground for a greater role.

Former London Stock Exchange chairman Sir Donald Brydon is tasked by the Government to bring all this together. It is not easy. The big four audit firms – PwC, EY,

Deloitte and KPMG – are armed to the teeth with lobbyists and public affairs operatives determined to defeat reforms.

I am told that when the small Brydon team visited an audit firm in New York it was greeted by a praetorian guard which filled the room.

Early observations of what is wrong with the system include far too cosy relationships between finance directors, audit committee chairs and the auditors.

In some major FTSE companies they are mostly alumni of the same firms. Independence of audit doesn’t come into it.

The big four resist the idea of break-up into audit and consulting arms.

The main argument for a break-up is potential conflict of interest with consulting fees often outranking those of audit. The issues can go far deeper.

Big audit firms have gobbled up many of the remuneration consultants so directors’ pay is being decided by the same firms who are marking accounts – the kind of entanglement which cannot be resolved by Chinese walls alone. What also is evident is that the way auditors’ work has changed. Audit should be based on hard numbers: money in and money out.

Now, the big firms rely much more on judgements. Informed guesses are made for income recognition and there are standardised ways of measuring pension deficits in spite of a huge variation in the quality of assets. Regardless of all this uncertainty, accounts are signed off as a ‘true and fair’ view. Auditors cannot possibly know.

Authority in audit used to rest with professional bodies such as the Institute of Chartered Accountants in England and Wales. They were the rule makers and set the standards for the industry.

But the big four are so powerful and their methods so pervasive that the professional bodies have become subservient to the biggest members. one thing is certain – an internal split of audit and consulting will not go far enough.

Consulting arms need to be floated off as separate entities and auditors must stick to their knitting. It may not be good for the partners’ wealth but it might restore integrity to financial reporting.

Spilt beer

THE Bank of England this month said that one of the biggest risks to the global economy was the $3.2trillion of leveraged debt.

Some of it has been parcelled up and held by open-ended investment funds.

The desperate battle to deleverage as speedily as possible is exemplified by the way beer monolith AB Inbev has put its deal-making machine into reverse.

Having failed to get an initial public offering of its Asian enterprises off the ground it has rapidly sold its Aussie operation Carlton & United Breweries to Japan’s Asahi, owner of Fuller’s London Pride, for £8.8bn. There could be much more of this to come.

Boxed in

THE launch of the Britbox subscription service in the UK may be irritating for BBC licence payers, with a monthly charge of £5.99, but should be good for partner ITV as it seeks to compete against bigger players.

Netflix is suffering content starvation as rivals such as Disney cut supply of programmes. It will be fascinating if the BBC and ITV feel confident enough to do the same, forcing Netflix into generating more home-grown output.

Alex Brummer