The shift of public accounting companies, historically centered on offering auditing and tax companies, into expansive multidisciplinary companies has lengthy raised issues amongst traders and regulators.
These apprehensions reached their peak within the early 2000s following a number of accounting scandals and the demise of Arthur Andersen. On the time, public accounting companies usually offered each auditing and consulting companies to the identical consumer, resulting in issues about compromised auditors’ independence. As well as, the rising consulting revenues precipitated issues over a change in agency tradition, from a central deal with audit high quality to an emphasis on rising income and profitability. “Preserving the consumer joyful and doing what was essential to retain the consumer achieved a prominence that didn’t exist previous to the appearance of the consulting arms,”
The Sarbanes-Oxley Act of 2002 addressed the independence issues by imposing substantial restrictions on the forms of consulting companies that public accounting companies may supply to their audit purchasers. Subsequently, most accounting companies divested their consulting companies within the early 2000s. Nonetheless, these companies’ renewed deal with auditing and tax was short-lived. They began rebuilding their consulting practices within the second a part of the last decade, by way of a mixture of inside progress and acquisitions. By 2023, Large 4 companies reported a median of 49% of their revenues from their consulting practices, starting from 43% at KPMG to 54% at Deloitte. On common, solely 27% of Large 4 companies’ revenues at the moment are credited to their auditing follow and 24% to their tax follow.
Does the revival of consulting companies at Large 4 companies pose a risk to audit high quality right this moment? The notion that, in comparison with the pre-SOX interval, “this time is totally different,” is tempting given the present restrictions on providing consulting companies to audit purchasers. Nonetheless, the rise of consulting companies can nonetheless pose potential threats to audit high quality. In 2014, then PCAOB board member Steven Harris
I imagine latest modifications to governance buildings utilized by the Large 4 accounting companies may doubtlessly jeopardize audit high quality. As partnerships, the companies’ high administration and board construction replicate the companions’ collective will. As the share of consulting companions throughout the agency will increase, so does their affect on the agency’s imaginative and prescient and tone. The next factors spotlight these latest modifications and the anticipated penalties of a predominant presence of consulting companions:
• Consulting accomplice assumes the CEO place: Given the numerous proportion of consulting companions in accounting companies, it’s unsurprising that, for the primary time within the historical past of U.S. public accounting companies, three of the Large 4 companies not too long ago elected consulting companions to imagine the position of CEO. KPMG elected their first CEO with a consulting background in 2015, EY in 2018, and Deloitte in 2023. PwC US stands as the one Large 4 agency that has but to elect a guide because the CEO; nevertheless, in 2023, it elected a consulting accomplice as chair of its international community. Given the latest unsuccessful collaboration between EY’s international and U.S. leaderships to separate the reassurance and consulting companies, the affect of a guide as the pinnacle of a world community shouldn’t be minimized.
• Higher illustration of consulting companions on companies’ boards: A cursory view of Deloitte’s web site suggests consulting companions already make up greater than half of its board. The share of consulting companions on PwC’s and KPMG’s boards remains to be under 50%, however the upward development in consulting revenues suggests this too could change within the close to future because the affect of consulting companions continues to extend. EY, having at present no board in place, has simply introduced plans to arrange a governing board nominated by an elected companions’ committee. This follows the failed try to separate the auditing and consulting into two companies. It appears U.S. audit companions opposed the transfer, and the brand new proposed governance construction goals to provide majority companions extra voice in agency technique. Evidently, a consulting arm comprising nearly all of companions within the agency can have huge sway over the agency’s future oversight and technique.
• Higher use of other follow buildings: States require accounting companies to carry majority CPA ownerships with a view to retain skilled licensures. These guidelines had been established to make sure people licensed by the state are answerable for managing and upholding the skilled and moral requirements mandated by the state. With the change in companies’ partnership composition and the lack of majority to the CPA companions, some public accounting companies have circumvented this requirement on the agency stage by making use of other follow buildings. These buildings restrict the possession requirement to solely a part of the agency, usually together with the actual unit or subsidiary that performs the standard CPA companies. Whereas satisfying the state possession necessities, this follow basically permits companies to bypass the spirit of the legislation. Prime administration (CEO and board) remains to be voted into place by all companions within the group. To this point, regulatory consideration on APS has been primarily centered on the compliance with auditor independence necessities. Nonetheless, given the rise within the share of consulting companions in accounting companies, extra scrutiny of the managerial implications of those various buildings is warranted, particularly by way of its implications for audit high quality.
The growing dominance of consulting practices in Large 4 companies over the previous twenty years and the concurrent profound shifts within the Large 4 companies’ governance buildings, enterprise buildings, cultures and management dynamics enlarge the threats to audit high quality. A public accounting agency’s CEO and management group have an obligation to function the agency for the monetary advantages of all companions. Nonetheless, audit and consulting companies have totally different objectives. The consulting enterprise doesn’t immediately deal with traders’ pursuits, whereas the audit enterprise has a direct public position in delivering high-quality audits that serve traders’ and different stakeholders’ pursuits.
When many of the agency’s homeowners are consulting companions, and the CEO is a consulting accomplice with little prior publicity to audit work, how can traders belief the agency’s strategic and operational selections can be made in a approach that prioritizes public curiosity over the companions’ monetary pursuits? Latest accounting scandals and moral lapses on the Large 4 companies appear to lend weight to this concern. Probably the most notable instance is the dishonest scandal in EY — not solely had been workers discovered to be dishonest on CPE programs and ethics exams, however high administration additionally tried to hide the wrongdoing.
The influence of selections made by CEOs and management groups extends past the present high quality of audits. Future generations of accounting professionals are impacted as effectively. During the last decade, there was a notable decline within the variety of college students finding out accounting, with some universities experiencing a discount in accounting enrollment of as much as 50%. This decline could be attributed, partially, to substantial gaps in beginning salaries between accounting companies and rivals for high expertise.
What’s extra important is the substantial wage hole inside accounting companies, with consulting associates commanding increased beginning salaries than audit associates. As a substitute of attracting the brightest college students to the reassurance and audit perform, which constitutes an important public curiosity perform, the companies incentivize the perfect and brightest college students to decide on the extra profitable fields for the agency’s monetary pursuits. This development displays the shift in tone and priorities of accounting companies’ administration. As accounting educators, we worth the significance of auditors serving the general public curiosity, and continually spotlight the moral basis of the career. Nonetheless, college students inevitably circle again to the difficulty of wage. Gifted college students with choices want to deal with higher-paying jobs in finance, normal administration and consulting.
How will we be sure that management of accounting companies stays devoted to the first and essential obligation of auditors — safeguarding the pursuits of traders and different stakeholders by offering correct and dependable data? Ought to we contemplate mandating the separation of consulting enterprise from the accounting companies? Ought to we insist on high administration having a background in assurance and audit? The subsequent disaster may already be within the making. It’s crucial that we provoke the dialog.
