The Big 4 And Their "Global Networks"
Floyd Norris of the New York Times wrote today about the Big 4 (and the next tier firms) contradictory claims regarding their global network versus their liability for their affiliate firms.
He tells the story of the current litigation regarding BDO and Banco Espiritu Santo. Their lawyer actually argued against the concept of BDO as a Global firm in order to get their international umbrella firm off the hook for any settlement related to the US firm.
I would be incredulous if I hadn’t heard the firms themselves argue out of both sides of their mouths at the recent PCAOB Standing Advisory Group meeting in Washington DC. The last topic of the day was, “Global Quality Control Practices.”
Go here for a podcast of the discussion. In it you’ll hear a panel describe how each of their umbrella firms does or doesn’t conduct inspections of affiliate firms all over the world (the Big 4 does, the “next tier” does or doesn’t depending and the “next, next tier” firms do not, depending on the local firms inspecting themselves and reporting back.)
The primary problem for the firms is enforcement and discipline. The only practical alternative for them if a local firm does not want to live up to the “global standards” is to kick them out of the network. We have seen that with PwC Japan and Grant Thornton Milan. But that’s an extreme step and can cause disruption for the firm, a la Arthur Andersen, but more importantly disruption for clients that depend on the “global network.”
But how “actual ” is this global network? Do the firms really work together seamlessly, depending on each other without question to do work locally and bring it all together under one global partner for a large multinational?
The business relationships between the firm’s offices are arm’s length transactions. When a local firm supports the US firm, for example, on an audit of a US multinational’s plant or operation outside the US, the local firm gets paid “a negotiated rate,” but sometimes, essentially, the market rate for their time, via wire transfer. They send an invoice to the US and the US firm pays them in cash like any other vendor, foreign exchange exposure and all.
Does the “Global Partner” really know what the local partners are doing with regard to local operations and activities of their multinational audit client when those activities occur in far flung places such as Vietnam, Mozambique, Albania, Romania, or another developing country that won’t check in with someone first? You assume that the firms, especially the Big 4, have global integrated systems which can show, with great transparency, accuracy, and timeliness, all of the engagements that any of their affiliate firms are conducting for any subsidiary that’s under the corporate umbrella of any NYSE listed audit client.
They do not.
They can’t even figure out which source of information to use to get a list of all of the corporate entities of all NYSE listed companies with any accuracy. They do have a committee with representatives from amongst the firms to discuss that, though!
Compliance with important issues such as independence are basically voluntary, with US partners loathe to make phone calls to partners in remote third world countries, (they may not even speak good English, for God’s sake,) and tell them they can’t engage and perform that recruiting or other advisory service because that potential client is affiliated with a US audit client. But sometimes no one ever finds out in the first place.
The claims of the Big 4 and the next tier with regard to being “global” are a joke. When will someone besides Lynn Turner call them on it and force a change? It looks like it’s going to have to be a judge, a plaintiff’s lawyer, and a jury instead of regulators or Congress.
This portion originally posted February 19, 2008
Do you think KPMG Europe will accomplish their goal of a unified European member firm? Why haven’t the other networks attempted similar consolidation? Is it primarily liability, or perhaps revenue or integration concerns?
This is a good question. I will be doing an update on this situation next week.
A lot of it has to do with laws regulating partnerships, and how different they can be from country to country. By existing as separate national firms, international accounting firms can avoid a lot of complicated legal issues, specifically navigating essentially uncharted legal waters which would require a huge increase in overhead to manage.
Law firms operate large, intergrated partnerships spanning dozens of countries. What makes the process of doing so with an accounting firm so different?
Well Law Firms, who act as advocates, rarely get sued. Everything is different in the attest world. This is a great topic yet very complex.
Francine’s instincts are correct here in some respects and probably off base on others. From a macro perspective, my experience is that there is not global integration, and because of liability concerns the Big 4 don’t want to be viewed in the courts as intergrated globally. Ever wonder why the Big 4 are so caught up in getting their specific legal names correct, especially as it relates to engagement letters and publications – it is because they want to demonstrate that there is no such thing as a “global firm”. Also, you should also know that profits are not shared amoung the world-wide partners; each country (i.e., Firms) has their own specific formula. However, it is often true that the certain “loans” from the strong Firms are made to support weaker Firms. In terms of audit quality, each of the Big 4 will have some basic global standards, but they are really just “belts and suspenders” type stuff. Therefore, if you compare the audit policy manual of the US Firm to say, the Japanese Firm, there are tremondous differences. usually the global board of directors, and such differences usually stem from the in-country GAAS/GAAP requirements. For example, and audit in accordance with German GAAS won’t get you all the way to US GAAS, more would have to be done.
Forgetting the market-place double-talk that all the Big 4 firms do, what they really have to, and I think actually care about, are those multi-national audits nased in the US that involve non-US operations. This is because SOX (which was effective starting in 2004 for audits of US based companies) requires the same sort of discipline of processess and controls regardless of location. Therefore, the US engagement partner now has a responsibility to get all aspects of the audit to be consistent with US GAAS, including any significant int’l ops. And, the PCAOB has the right to inspect those workpapers that were prepared etc by those international locations.
Other than the above intersection of US-based clients that have signifcant int’l ops, I would that there are substantial differences and that such effort is rather disjointed and hardly seamless. Lets face it, there are regulatory differences, huge culture differences, and different values placed auditing, all of which creates issues and concerns. I believe that Andersen addressed these issues by building international practices with people from the US Firm. Most of the other Firms essentially “created” their international networks by reaching alliance agreements with pre-existing, locally based Firms. I recall the 1980’s when one of the last large Japanese Firms was seeking an alliance with one the US Firms – basically a bidding war broke out, and the Japanese partners made off with a nice payday.
Sorry for the long post. The first step in getting to global, sort of seamless service is to harmonize the regulatory environment. Perhaps the adoption of IFRS will be a start. Another hurdle is the liability exposures – trust me when I say that virtually all the audit firms that are based outside of the US would never agree to a legal structure that would expose their assets to the US legal system. Case in point would be the Firms based in the UK – the average partners compensation there is much higher than here in the US, and they don’t face the liability issues. Why would the UK Firms give up that gravy train?
Final Four Guy
From my experience as a member of the headquarters audit team for one of the largest companies in the world, assertions that cooperation between national firms is at arm’s length and only accomplished grudgingly are completely off-base. Communication between our team and the various operating company teams across the US and the rest of the world happens on a daily basis at all levels from partner down to new associate. Work flows seamlessly in both directions as well, with those in the best access to management personnel and information handling any given task.
It is true that invoices are exchanged but when viewed froma completely objective standpoint, this is completely reasonable. If there is a client with headquartered in New York, with audit teams also operating out of Chicago, Dublin and Sydney, each member firm needs to ensure that they receive their fair share of the total audit fees. A commenter above me pointed out that partners are paid at a national level; firm performance and bonus pools are also determined this way. Making it clear what an audit team did to further the audit through simple and standard billing methods not only ensures that fees for the audit are allocated properly, it also helps to bring about better budgeting and staffing in future periods which allows for a higher quality audit, which is what we are all after.