Labour pledges to take on Big Four audit "cartel”

The Big Four of PwC, KPMG, Deloitte and EY could face an audit-sector overhaul, should the Labour Party win the 2019 general election. Setting out combative plans to “rewrite the economy,” Shadow Chancellor John McDonnell called for the separation of the quartet’s accounting and consulting businesses, as well as statutory regulation of the UK’s auditing industry.

A string of major accounting scandals has seen the forcible breakup of the world’s four largest professional service firms’ UK operations become a hot topic, in recent months. While the Conservative Party currently clinging to power in the UK has remained steadfast in its support of light-touch regulation – so as to not impede a booming source of GDP growth – opposition figures have been quick to seize on the turning public sentiment. During party conference season in 2018, this saw the Labour Party publically float the idea of splitting up the Big Four’s British wings, on the grounds of a conflict of interest.

In early 2019, this saw the Labour Party commission a team led by Accounting Professor Prem Sikka to review Britain’s audit market – with a focus on PwC, KPMG, Deloitte and EY, and their combined work as auditors and consultants at many top firms. Pointing to one example of supposed conflict of interest among the Big Four, Sikka recently stated PwC’s independence as auditor at Staffline was “clearly” compromised by its consulting relationships with the client, adding that the firm’s role as the company’s auditor was “inappropriate.”

Further backing this point, a report from the Business Select Committee – whose Chair is Labour MP Rachel Reeves – saw MPs claim it is impossible for staff in the businesses' audit arms to offer truly independent oversight of a client's books. The review subsequently called for each Big Four firm to divide in two.

Commenting on the findings, Reeves said, “For the big firms, audits seem too often to be the route to milking the cash-cow of consultancy business… Change is needed to deliver for investors, workers and the public… The Big Four may not like it, they may seek to undermine the case for reform, but vested interests should not be allowed to get in the way of positive change.”

Now, with a general election looming in December, the UK’s party of opposition has again stepped up its war of words with the Big Four. Following the launch of the Labour Party’s 2019 manifesto, setting out its stall to woe voters ahead of the up-coming poll, Shadow Chancellor John McDonnell announced plans for a beefed-up regulatory system for auditors in an election campaign speech.

Arguing that the Big Four is so dominant in the market that auditors are unable to conduct genuinely independent and “robust” audits, McDonnell stressed that under a Labour administration, the Big Four would be prevented from acting as a “cartel” – a term referring to a group of independent market participants who improve their profits by reducing mutual competition – by splitting the audit business from other services within the firms. At the same time, a statutory auditing body would be introduced in the UK, essentially overhauling the country’s current system entirely.

Restoring public trust

McDonnell said, “Labour will establish a new statutory body to conduct audits. Its purpose will be to conduct real-time audits of banks, building societies, credit unions, insurers and major investment firms not be dependent on fees from client companies... Reform of audit is already underway and we want the next government to develop a package of measures to deliver meaningful change in a way that is proportionate and practical given the global environment in which the UK operates. We will continue to work constructively with all parties to ensure public trust in audit is restored.”

This goes well beyond the recommendations made earlier this year by the Competition and Markets Authority – and will also force audit tenders to be publicly available. At the same time, it echoes the Kingman Review published at the start of 2019, which claimed that the current financial watchdog – the Financial Reporting Council (FRC) – is not fit for purpose. Instead, the influential report called on the Government to replace the organisation with a statutory body with “the interests of consumers of financial information, not producers” at its heart.

McDonnell suggested this would help drive Labour’s plans to “rewrite the economy”, moving away from a system that the shadow chancellor says over-emphasises shareholders. The “short-termism and corporate greed” this results in links directly to the high-profile failures of Carillion, BHS and Thomas Cook in the last two years – each of which had an accounting scandal at its heart.

Commenting on McDonnell’s speech, ICAEW Chief Executive Michael Izza said, “We agree the audit market needs to change, and so we’ve been engaging in reviews of the sector to call for more competition, stronger regulation, higher ethical standards and, most importantly, improved audit quality.”