The Big Five Accountancy Firms
Created | Updated Feb 19, 2007
In an industry whose aim is to ensure fair financial reporting and adherence to market regulation, it may well come as a surprise to find that the accountancy world is dominated by only four companies since 2003. This article is called The Big Five though. So what Happened to number five?
Andersen's
Well, in Mid 2002 Andersen's, once the darling of the accountancy world, and the most selective in its recruitment and clientele, vanished.Andersen's was caught up in the Enron scandal to start with, and, as the company's auditors were partly being held responsible (especially when the company was caught shredding audit papers!) clients started jumping ship. With further scandals such as Xerox's overstated profits, which also had Andersen's as auditors, every client tried to distance themselves very rapidly.
Finding themselves subject to scrutiny by the SEC1, the American Congress and the Institute of Chartered Accountants2 in nearly every country where that body exists, Andersen found itself with no clients and its reputation left in tatters. The remaining large accountancy firms swallowed up its partnerships around the world. This left only the Big Four.
So who are the remaining four?
The four remaining big accountancy firms are:
- Price Waterhouse Coopers (PWC)
- Ernst and Young (EY)
- Klynveld Peat Marwick Goerdeler (KPMG)
- Deloitte Touche Tohmatsu(DTT or Deloitte's)
The above list is in order of revenue for the global partnerships for years ending 2004.
So what do they do and what makes the BIG four?
Simply put the Big Four control the top end of the accountancy market. These are huge multinational partnerships with revenues measured in billions of pounds. The Big Four act as auditors, accountants, tax advisers, business advisers, corporate finance advisers, insolvency practitioners and administrators and consultants to the largest companies in the world. Nearly3 all the companies in the FTSE 100, the DOW, the Nikkei, the Hang-Seng, and every other major market in the world will be audited by one of the Big Four. Simply put these are the largest accountancy companies, and the company that ranks fifth in size 4 is considerably smaller. It would be like comparing Spar to Tesco's.
Isn't this a bad thing?
That is a rather interesting question. The problem is that to audit a company the size of say BP5 needs VAST resources. You need people around the globe working together and in large numbers. You need specialists in Banking (BP has its own internal Bank), Insurance (BP partly insures itself through captive insurance), Investments (BP has huge amounts of money in stocks, bonds, buildings and of course Oil), not to mention specialists in the Petro-Chemical Industry. The only place you will find all of these skills is in an organisation large enough to pay for them all. Hence the big four emerged through a succession of mergers. Companies could go elsewhere, but investors would think the audit a bit suspect if they felt the auditors were not up to the job, so most will not move away from the Big Four resulting in a perpetual circle. Is this limited market a bad thing? Technically no, as there is choice and shareholders, at AGM's6 can refuse to appoint the chosen auditor so the directors have to appoint new auditors, and have them approved in an EGM7. However, they also act as advisers and consultants. Some people feel that this creates a conflict of interest, as auditors are supposed to be independent.
In recent years, many watchdogs, calling for greater diversity, have asked the government to do two things. The first is to put in place a time limit on which any one accountancy firm can be the auditor of a PLC8. However, the complexity of a large business such as the afore mentioned BP makes changing auditors a troublesome business as understanding such a complex entity enough to perform a useful audit in itself takes a lot of work. The end result of switching auditors frequently would be a large increase in auditing costs. The second thing that is being pushed for is to ensure more of the large companies use Second Tier auditors. The issue is how do you do this when reputations and therefore share prices will be affected. Forcing the individual companies would not work due to how do you select them and as private companies it is not the governments choice to determine who the auditors should be as the audit is specifically for the shareholders and not other stakeholders, such as the public, suppliers and customers or the government.
Another issue has become the influence these companies have on the regulation of the accountancy world itself. These four firms are able to ignore certain directions that come from the accountancy institutes on for example working practice due to their collective size, and the lack of choice to there customers. They also have huge influence on audit guidelines for large companies, as they are the only companies with experience of auditing large companies. The undue influence is hard to avoid, and is another cause for concern. This is mitigated by the fact that the Financial Services Authority does have the ability to make practices issued by the Institutes legally binding.
So are the Big Four Companies?
Strictly speaking, no. The Accountancy Firms historically have all been partnerships. This meant that they were not limited companies but private business owned completely by the partners. In the event of bankruptcy or losing court cases etc the partners themselves had unlimited liability, and could lose there home and all there assets, unlike a limited company where only the companies assets are at stake. However in 2001 the government created a new legal entity. These were to be called Limited Liability Partnerships (LLP's). The first LLP in the country was Ernst and Young. This finally gave the partners limited liability without having to issue share capital or accepting that the company is an independent legal entity. The downside is that for the first time these partnerships had to issue audited accounts.So what for the Future?
In 2004 an event occurred which may have brought about the demise of one of the Big 4, leaving us with the Big 3. Equitable, one of the worlds oldest and biggest mutual companies, found itself unable to meet all of its liabilities and put into run-off following losing a major court case in the House of Lords.9 It very quickly decided to sue all of its former directors and its auditor for damages caused by incompetence. Ernst and Young, the second largest accountancy firm was hit with a multi-billion pound lawsuit. If it lost, its malpractice insurance would not have covered all the liability, and would in all likelihood wipe out the firm and the partners10However, in 2005, without any settlement from EY Equitable dropped its case. The accountancy industry had dodged a major bullet.In the event that EY had disappeared in the same way as Andersen's, then governments and regulators around the world would have had little option but to intervene in the accountancy world. Leaving only three companies available world wide to audit large multi-nationals in everything from Petro-Chemical companies to Grocery companies to Banks and Insurers, would have left these companies in the position to create a near monopoly. The most radical thought is a forced demerger of the current accountancy firms to ensure diversity of choice and to bring these companies down to the same levels as the second tier firms.
