Recent Turmoil Raises Questions About Big Four Audit Quality

The Big Four audit firms have had a rough first quarter this year. A rift between U.S. and global EY partners torpedoed a potential deal to separate its consulting and audit businesses, costing the company nearly half a billion dollars, and KPMG delivered clean audits of Silicon Valley Bank and Signature Bank mere weeks before they were both shut down by regulators to head off a modern-day bank run. PwC and Deloitte have also experienced high-profile problem audits in South America and Europe, and the overall situation has attracted attention from audit experts and critics, who question whether or not the firms are focused enough on vetting their clients' books and protecting investors.

While audit quality has improved by many measures since the Enron and WorldCom accounting scandals at the turn of the century, which spurred the passage of the Sarbanes-Oxley Act and launched the Public Company Accounting Oversight Board, concerns about the Big Four firms’ performance remain. Part of the existing tension is driven by a gap in expectations: investors may assume auditors have a responsibility to root out fraud, but their core task is to ensure accurate financial reporting and provide a full picture of a company’s risks and likelihood of future profits. As the Big Four generate most of their revenue from their highly-lucrative consulting practices, concerns about potential conflicts of interest have been at the forefront. While EY’s failed attempt to split its practices could have allayed some of those concerns, it could also have hampered its auditors’ access to crucial resources to produce better audits.

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Regulators have taken notice of the shortcomings, spurring a warning to auditors from SEC Chief Accountant Paul Munter to focus on how to meet their duty under U.S. audit standards and detect fraud, along with proposed rule changes by the PCAOB for how auditors evaluate and report on companies’ ability to continue as a going concern. Should regulators tighten the rules in response to these concerns, they will also need to step up their enforcement actions, which have historically been weak. U.S. law changes, along with judicial decisions, have further insulated auditors from accountability, making it more difficult for shareholders to successfully sue accountants. While the U.S. has been slow to reform the audit market, the U.K. and EU have stepped up their efforts to tighten down governance, forcing an operational separation of audit and consulting practices and barring companies from using the same auditor for decades at a time.

Though some changes may be in the works, there is still much work that needs to be done to restore investor confidence in the work of auditing firms. Whether the Big Four and other accounting firms are willing to do so on their own remains to be seen.