In September we were tipped to a developing situation at US mid-tier audit firms in which said firms started shuttering their public company audit practices. Why? Well, some people might suggest regulatory burden and the prospect of getting fined by the PCAOB for anything from failing to file the right form on time to farting too loudly in the audit room (we haven’t gotten that one…yet). Audit is already a loss leader, combine the two factors above with a staffing shortage and you get mid-tier firms expressing an enthusiastic “no thank you” to that particular sector of business. And no one can blame them.
We haven’t heard anything similar coming out of the UK but according to recent reporting by FT, Grant Thornton UK is definitely dipping out on certain clients.
Grant Thornton has been relegated from the UK regulator’s top tier of audit supervision after the firm cut its number of high profile clients, removing more than 70 per cent of those in the “public interest” category, which includes listed companies, credit institutions and insurers.
The Financial Reporting Council industry watchdog moved the UK’s sixth-largest accounting firm from “tier one” to “tier two” supervision status last year, according to regulatory filings.
It means the watchdog will only conduct inspections of the firm’s “public interest entity” audits every three years, rather than every 12 months.
Grant Thornton cut the number of PIEs it audits by more than 70 per cent between 2016 and 2022, auditing 20 of them in 2022, while rival BDO had 217 PIE clients during the same period.
The are, or were, seven firms in the FRC’s top tier: BDO, Deloitte, EY, Grant Thornton, KPMG, Mazars, and PwC. Their 2023 supervision reports are here if you’re going to be stuck on the can this afternoon. Said FRC in its July 2023 Tier 1 review [PDF]:
Of the audits inspected, 77% were categorised as good or limited improvements required (2021/22: 75%). Over the last four years we have seen a 10% increase in this key measure of audit quality (2019/20: 67%). We reviewed 100 individual audits (2021/22: 96) across the seven Tier 11, firms this year.
Six of the seven firms have improved or maintained their audit quality results, with at least the same percentage of inspections requiring no more than limited improvements. It is particularly encouraging that five of the firms had no audits requiring significant improvements, with the number of audits requiring significant improvement having reduced to 3% (2021/22: 7%).
The FTSE 100 audits are often the most complex entities and, of the 16 audits inspected, none were identified as requiring significant improvements. The percentage requiring no more than limited improvements was 81%, which is higher than the 77% across all audits. Of the 27 FTSE 250 audits we reviewed this year, we assessed 22 (82%) as achieving this standard.
Following a re-evaluation of all firms that fall within the scope of our supervision, we have re-allocated several firms within our tier system. This includes Grant Thornton UK LLP who, effective May 2023, are now included within Tier 2.
Good for them. Seriously, good for them.
In its last FRC inspection report [PDF], GT actually got good marks compared to the recent past, due in part to this shedding of problematic (for them) clients. Said the FRC:
In our 2021/22 public report, we concluded that Grant Thornton had continued to respond positively and make good progress on actions to address previous findings in relation to its audit execution and firm-wide procedures.
We are pleased that the firm has maintained its focus on audit quality and for the second year in a row, 100% of the audits inspected were assessed as good or limited improvements required. These are very positive results and form part of a three year trend of improved inspection results compared to the 2019/20 and 2018/19 inspection cycles.
The firm’s concerted effort and progress to improve audit quality continues to be very encouraging and we have seen improvements in the underlying culture, systems and processes that support audit quality. Never-the-less, to put these inspection results into perspective, there are likely to be other factors that have also contributed, such as our small sample size (to reflect the number of audits within the scope of the FRC) and the firm’s approach of de-risking its audit portfolio.
We can’t even rag on them for this, it’s a smart move.
Smart for them, terrible for the industry as a whole.
If regulators are serious about wanting to crack down on the amount of non-attest work audit firms do, and the conflicts of interest that gives rise to, then they need more competitive audit firms for the largest and most complex audits, not fewer. When the only choices are the Big 4 firms, and when at least two of the Big 4 are likely performing impermissible NAS, then public companies are left with a choice of sticking with the incumbent or going with the other firm.
And at that point, audit quality might never be where regulators want it to be, because there are only 4 firms left in the game. And if the FRC puts one of them in timeout for ineptitude or malfeasance, then there really aren’t any choices left in the marketplace. So the regulator is forced to tolerate some shoddy work in order to allow some alternative choices.
I’m oversimplifying a complicated situation, but tl;dr, if more mid-tiers leave and more audits are concentrated in the Big 4, that is a net negative for regulators, public companies, and the investing public.