Auditors face the biggest crackdown since Enron

Robert Lea
5 Nov 2009

The Big Four accountancy firms have been told to back off from serious conflicts of interest in pursuing lucrative advisory work at their audit clients.

Less than a decade since the post-Enron clampdown on auditors cosying up to their clients in return for fat fees, the Financial Reporting Council has warned the largest firms of auditors they should not be doing internal audit work for clients whose accounts they sign off in the annual statutory external audit.

The FRC, the regulator of Britain's accountants, has written to the Big Four, PwC, KPMG, Deloitte and Ernst & Young, in an unprecedented warning which appears to point the finger at KPMG over a possible breaching of ethical standards in winning Rentokil Initial as a new audit client.

FRC chief executive Paul Boyle, who sent out the letter, said: “The FRC believes it is important audit firms and their clients should be aware of the steps being taken [in an FRC inquiry into ethical standards] and may want to be cautious before entering into arrangements which stretch the internal/external audit boundary, not least because it could prove to be inconvenient and/or costly to change such arrangements.”

At issue in that inquiry is the extent to which audit firms sell advice to clients.

Offering advice on or running client internal audit services, which is being marketed as “extended assurance services”, is reckoned to be as close to a conflict of interest as there can be for an auditor which is supposedly independently verifying a company's financial reports.

The FRC is warning firms its Auditing Practices Board arm and the disciplinary body, the Public Oversight Board, are looking at a clampdown on ethical guidelines.

The APB is consulting on whether internal audit engagements or “similarly constructed packages of services” comply with the principles of its ethical standards rule book.

The issue has come to a head after KPMG won a contract with Rentokil by promoting a new audit package which provided some services which would normally have been undertaken by Rentokil employees in the internal audit function. Such a package is banned in the US.

After news of the Rentokil arrangement broke in the summer KPMG's head of audit Oliver Tant boasted he had received “phenomenal” interest from companies looking for “extended assurance”. The issue of accountants using the audit to win a client who they can then milk for huge fees for additional work was raised by MPs on the Treasury Select Committee as part of their investigation of the banking crisis. Industry figures show auditors still earn another 70% of their audit billings from additional work for clients despite the Enron clampdown on such relationships. Pre-Enron, auditors on average earned twice as much in non-audit fees than from the audit.