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Why is no one exposing our failing firms in advance? Prem Sikka

Why is no one exposing our failing firms in advance?  Prem Sikka

As MPs hear evidence on the collapse of Carillion, it’s time for auditors to be held to account 

ince the collapse of the construction giant Carillion last month, the focus has been on its directors and senior employees, particularly those whose pay packets seemed proportional to the scale of the company’s failure. But today the focus will turn to its auditors at KPMG, as they give evidence to the Commons business select committee. And about time too. In the words of Rachel Reeves, its chair: “Carillion’s annual reports were worthless as a guide to the true financial health of the company.” Those reports were signed off by KPMG.

Accountancy is an industry in serious need of reform. The collapse of huge companies such as Carillion and BHS, the 2008 banking crash and rampant tax avoidance are all symptoms of a dysfunctional relationship between accountants and the state. With 350,000 professionally qualified accountants, the UK has the highest number per capita in the world: in fact, 12% of the global total, even though our share of the global economy is just 3.5%. Another 165,000 students are registered with UK professional bodies. What do we get for that? Certainly not freedom from frauds and fiddles, the production of meaningful company accounts, safe pension schemes, the absence of tax dodging or an abundance of good corporate governance.

Producers of potato crisps and toffees have to ensure their product doesn’t harm consumers. But the consumer protection revolution is yet to touch accountancy firms. There is little to stop them from acting solely in the interests of their clients rather than staff, customers and suppliers.

It doesn’t help that the market they operate in is a virtual monopoly. There are no state-guaranteed markets for scientists, mathematicians or engineers, but the state has restricted the field for auditing. This means that the organisations that are our main route to exposing companies that are failing or have dodgy financial practices must belong to just a few trade associations. This sounds good in theory but in practice it means that, rather than serving the public interest, they prioritise the interests of their own members. Despite corporate scandals involving all of the Big Four accounting firms (Deloitte, PwC, EY and KPMG), none has been broken up, and hardly any firms are shut down or barred from securing new business.

The threat of lawsuits can act as a spur to improve standards, but is mostly absent for auditors. Auditors owe a “duty of care” to the company and not to any individual employee, creditor, pension scheme member, saver or shareholder. If, by hook or crook, a company survives, failures remain buried: auditors’ files stay behind closed doors. Not surprisingly, lawsuits against auditors are rare.

Independently formulated audit standards could, in theory, force auditors to raise their game, but standards are set by the Financial Reporting Council, a regulator colonised by the big accounting firms. The council can take years to report on failures: it had to be pressed by the House of Commons Treasury committee to investigate KPMG’s 2007 audit of the bank HBOS, a year before it went bust. There were no red flags on the accounts and in 2008 the government spent £37bn to bail it out. The council finally reported in 2017 and found no fault with the auditors; if that’s the case, then one has to ask whether auditors serve any useful purpose.

The department store chain BHS went bust in April 2016. Despite its history of losses, a massive hole in its pension scheme and £1.3bn owed to creditors, auditors from PwC did not raise any red flags. We are still waiting for the Financial Reporting Council’s report. Not a penny of the fines sometimes levied on errant auditing firms is used to help the innocent victims of audit failures.

And as revealed by the Panama Papers investigation, the big accountancy firms are central to the UK’s burgeoning tax avoidance industry. This is not a matter of academic interest. It is crucial to our situation and could be more so in troubled times post-Brexit. Tax avoidance schemes cooked up by the Big Four enable their clients to hold on to money that could otherwise be spent on schools and hospitals.

Many other schemes have been thrown out by the courts, such as the one Ernst & Young designed for the pub retailer and brewer Greene King, or the Deloitte scheme to enable bankers to dodge income tax and national insurance contributions. In 2015, the supreme court threw out a KPMG VAT avoidance scheme. Its judgment in one case said that “the KPMG scheme was an abuse of law”.

But these court cases have not been followed by any government investigation, prosecutions, fines or even attempts to recover legal costs. It’s like a cynical game of cat-and-mouse. Every year the finance bill, used to update the tax laws, tries to address the issue. About a third is usually devoted to minimising the scope for avoidance schemes developed by accountancy firms, but pretty quickly the firms simply devise new ones. There is a disparity in terms of reach and firepower, and in the absence of meaningful sanctions the accountants operate with impunity.

The industry has positioned itself at the centre of our national life, at the heart of our biggest firms and most important institutions. But it seems to have gained this exalted position without the depth of checks and balances to which we subject politicians and public servants. That is an imbalance of power that is damaging our economy and our society. It says everything about an approach that assesses the cost of everything but knows the value of nothing. There is an urgent need to check the industry’s excesses and make it accountable to the people. That process will take time but today’s training of the public light on one big firm could at least be a start.

• Prem Sikka is professor of accounting at the University of Sheffield and emeritus professor of accounting at the University of Essex

https://www.theguardian.com/co...

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