Based on a quick inspection of the books, there doesn’t seem to be a great deal of accountability demanded from the British auditing profession.
In March 2017, the giant audit firm KPMG signed off on the annual accounts of the construction giant-cum-outsourced services provider Carillion, saying they gave a “true and fair view” of the state of the company’s affairs.
For this work, KPMG received a fee of £1.4m. This followed £1.4m of fees recouped the year before. In fact, KPMG had been Carillion’s auditor every year since it was founded in 1999. You don’t need to be an accountant to work out that that adds up to a very lucrative client relationship.
But in July 2017, just four months after the annual accounts emerged, Carillion announced to the stock market that its contracts to provide services were worth a remarkable £845m less than they had previously been valued on its books.
That bad news shattered Carillion’s share price and, ultimately, led to the collapse of the entire company earlier this month, dumping pensioners into the official state-run lifeboat scheme, leaving tens of thousands of employees facing redundancy and forcing civil servants to scramble to pick up hundreds of dropped contracts to provide school dinners, maintain prisons and a host of other services.
How did KPMG not identify this massive overvaluation of contracts? Was it because they took Carillion’s estimates at face value? If that’s the case, what’s the point of the external audit? Are the auditors merely called in to rubber stamp what the company tells them?
Moreover, KPMG was not the only auditor of Carillion’s numbers. Its 2016 report relates that it had a special “internal” auditor too, in Deloitte, with which it worked even more closely than with KPMG. So why didn’t Deloitte pick up on the dodgy contract numbers?
When two blue-chip auditing firms apparently can’t detect a near £1bn overvaluation of assets (financial difficulties that many hedge funds without access to Carillion’s books had apparently identified since they were placing big bets on the stock price going down) there’s a problem.
There’s nothing unusual about these spectacular auditing failures. KPMG signed off on the books of HBOS multiple times in the years before the bank’s bad loans eventually blew it apart in 2008. The auditor was even invited to investigate allegations of excessive risk-taking from an internal HBOS whistleblower, Paul Moore. It dismissed them. Indeed, all the UK’s big banks were thoroughly audited before their balance sheets tore like tissue paper before a tsunami during the 2008-09 financial crisis.
The Financial Reporting Council, which after intense political pressure was brought to bear, announced this week that it will investigate KPMG’s performance over Carillion. Yet the lessons of experience of this regulator are anything but encouraging.
Previous probes by the FRC have produced nothing but clean bills of health for auditors. “In nearly every major financial scandal we’ve had since the financial crisis, the FRC decides none of its charges have done anything wrong,” notes Jim Armitage, city editor of the Evening Standard. Worse, these rulings come with no reports or published evidence, making a mockery of the FRC’s claims to “promote transparency”.
Many have pointed out that such indulgence in the face of failure might have something to do with the fact that the board of the FRC is dominated by former auditors and the big corporate customers of auditors. Perhaps it’s naive to imagine it could be otherwise given the need for professional experience in such a body. Yet the plain fact is that this model of self-regulation for this industry has failed.
The life of an auditor seems to be a charmed one. You pick up large fees for “checking” the books of your client. But when the company collapses you don’t share any of the financial pain or blame. Yet what is the point of audit without accountability? It’s no use to shareholders. It’s no use to employees and pensioners of the company. It’s no use to other stakeholders, such as suppliers and customers. The only value, at least the only value that’s discernible from a glance at the dismal past decade, is to the senior managers of the client firm and, of course, to the auditors themselves.
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