by John M. Covaleski
Washington - The federal government’s latest conclusion, that the Big Four have a “tight oligopoly” in auditing large companies, may serve as a wake-up call to the rest of the profession, or encourage them to get closer to their smaller company audit clients.
In late July, the General Accounting Office issued a report that found that consolidation has given the Big Four an increased concentration of the public company audit market, raising concerns about a lack of viable audit options. It further said that non-Big Four firms face severe hurdles in trying to crack this space.
The GAO found that Ernst & Young, Deloitte & Touche, KPMG and PriceWaterhouseCoopers, in 2002, audited over 97 percent of public companies with sales over $250 million each, and 78 percent of all public companies. Moreover, 88 percent of large companies surveyed said that they would not even consider using a non-Big Four firm for audit and attest services.
The GAO study, mandated by the Sarbanes-Oxley Act covering public company auditing, is based on responses from 148 randomly sampled Fortune 1000 companies and 47 of accounting’s 100 largest firms.
Scattered responses in the wake of the report include management consultants urging smaller firms - in this case, national firms with annual revenues in the hundreds of millions - to reposition themselves to get in this market.
At least one major firm chief executive contested the GAO findings. “We disagree with the conclusion that Grant Thornton and other national firms have barriers to entry into most very large global assignments,” Ed Nusbaum, chief executive for Grant Thornton, said in a recently published interview. He said that “while our resources would be stretched to audit some of the Top 100 companies,” Grant has the skills, personnel and global reach “to audit 99 percent of the public companies that exist - including all mid-cap and most large-cap companies.”
Indeed, although it was not addressed in the GAO report, there has been a general market expectation that Big Four competition for the former Andersen’s largest clients may prompt them to pay less attention to their less profitable middle-market clients.
However, the GAO report indicates that the non-Big Four have not been able to significantly increase their audit market presence. The Big Four’s 78 percent share of the total market in 2002 is down from 82 percent of the total audit market held in 1998 by what was then the profession’s Big Eight.
The former Big Eight - Arthur Andersen, Arthur Young, Coopers & Lybrand, Deloitte Haskins & Sells, Ernst & Whinney, Peat Marwick Mitchell, Price Waterhouse, and Touche Ross - were whittled down to the Big Four by consolidations and the dissolution of Andersen.
Jay Nisberg, a Ridgefield, Conn.-based practice management consultant to several of the profession’s largest non-Big Four firms, is among those saying that the report should serve as a wake-up call to the non-Big Four. “When a client looks at alternatives, they only really look at three,” he said, emphasizing, “It’s time for medium-sized firms to reposition themselves as an alternative.”
The GAO report labels the Big Four’s audit market position a “tight oligopoly,” that seriously limits “the number of auditor alternatives for large national and multinational companies.” It also found that individual Big Four firms have inordinate shares in some industries. For example, in 2002, PwC audited 76.4 percent of the high-end petroleum and coal products market and 68.4 percent of the furniture and fixtures market, while Ernst & Young and Deloitte & Touche combined audited 94 percent of the largest security and commodity broker companies.
The GAO report paints a bleak picture of the potential for smaller firms to rival the Big Four in serving the high end. Its report cites, among other things “lack of staff, industry and technical expertise, capital formation, global reach and reputation” among the market forces working against the smaller firms.
The American Institute of CPAs’ response: “The study confirmed that there were significant barriers to entry for smaller firms in the public company audit marketplace, a concern for the AICPA and the small businesses served by our members.”
The GAO report said that other factors working against small firms in audit competition include the lack of familiarity of capital market participants with audit firms other than the Big Four public accounting firms, and litigation risks and insurance costs associated with auditing large companies.
However, in what many smaller firms see as an opportunity for them, the GAO report says that a company’s choice of auditor can also be limited by potential conflicts of interest, the need for industry expertise and Sarbanes-Oxley rules in areas that include auditor independence.
“As companies begin to deal with auditor rotation and possibly firm rotation, we expect to see increasing opportunities for Grant Thornton to become the auditors for an increasing number of mid-cap companies and a growing number of large-cap companies,” Nusbaum said.
And, even in those instances where large companies determine that they must have a Big Four auditor, there is a tremendous opportunity for the national and regional firms to provide needed non-audit services.
To be sure, other major firms, such as BDO Seidman and RSM McGladrey, to name two, have also been strategically repositioning for more than a year to be more competitive.
Grant Thornton has been especially active in adding key personnel in order to serve larger companies. In 2002, it acquired former Andersen offices in eight cities and added more than 50 partners and 500 employees who had been with Andersen.
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