“Oh they’ll find some dumb son of a bitch….”
-- Fire Chief Mike O’Hallorhan (Steve McQueen) to architect Doug Roberts (Paul Newman) – before volunteering to dynamite the water tanks atop the eponymous “Towering Inferno” (1974)
In an ordinary mid-summer news slump, only yawning disinterest would greet the July 29 news of Grant Thornton’s notice to the UK authorities of its intent to resign as auditor of troubled retailer Sports Direct International plc.
The times are not ordinary; the cauldron of auditor criticism has bubbled since the collapse of Carillion in January 2018. No firm has appeared as a willing successor to Grant Thornton – opening a gap with globally far-reaching implications for the entire Big Audit model.
For context, the parties’ relationship was fraught. The Financial Reporting Council had started an investigation of Grant’s work in 2018, the company’s July 26 release of preliminary results showed performance and stock price in a tail-spin, and the reportedly long-running search for a successor had failed to identify a candidate.
Deflating the posturing confidence of CEO Mike Ashley’s letter in the company’s release, that “we do not believe a firm outside of the Big 4 will potentially be able to cope with such an audit in the future,” none of those firms has taken the bait.
Neither have any of the next tier –- BDO, RSM or Mazars –- unfortunately identified by the Competition & Markets Authority as “challengers.” As for the prospect of a candidate from the still-smaller ranks, the latest Accountancy survey conveys the telling message of scale:
- No firm smaller than Mazars audits a single company in the FTSE 350.
- Of the smaller AIM-100 companies, third-tier firms audit only five, none of which approaches the size of the Sports Direct engagement.
So the day may have arrived when a large public company is unable to secure the services of a qualified auditor. At least three observations are in order:
First, the barren results of Sports Direct’s auditor search reveals the fictive nature of the CMA’s April proposal that all but the largest of the FTSE 350 should be obliged to have “joint auditors,” one of which must be a “challenger” and expected to take up a significant percentage of the actual work.[1]
No criticism of quality, but a quick glance at capacity – if deterred by the scale of the Sports Direct job with its £ 966 thousand fee, “challengers” would even more surely blink at the constraints of expertise, financial resources and risk tolerance involved in taking joint responsibility for the audits of companies larger by several orders of magnitude.
Second, as the Financial Times reported, “under UK rules, the Department for Business has the power to make an appointment if a company cannot appoint an auditor.” The reference is presumably to Section 490 of the Companies Act 2006 – “If a public company fails to appoint an auditor or auditors in accordance with Section 489, the Secretary of State may appoint one or more persons to fill the vacancy.”
That provision aims at a failure of corporate governance, however, not the unavailability of a candidate. At the company level, regulators could hardly force such a result upon a board and management – whose agreement should clearly be essential, the prospect of a hostile and antagonistic auditor presence being unthinkable.
Even less could the FRC presume to force an engagement onto an audit firm reluctant to accept. Professional standards require that the auditor be able and willing to rely on the truthfulness and credibility of evidence and representations from a client and its management – see, e.g., ISA 580 on written representations – making essential the existence and maintenance of mutual trust and confidence.
Third, the large accounting firms’ vigorously professed dedication to quality has long failed one empirical test. Namely -- no matter how degraded the financial condition or reporting quality or how questionable the character or credibility of management, some pliable audit firm has always been available and willing to engage with any large-company leadership sufficiently sentient to sign an agreement and a retainer check.
So if Sports Direct is indeed left high and dry, it would mark a small but significantly positive step in the profession’s willingness to draw a line for the sake of improved client quality. Putting to rest the behind-doors belief that “Will work for food” is the standard opening message of any audit proposal, that progress should be applauded.
The context of the Sports Direct paralysis being the politically charged evolution of the FRC into the newly constituted Audit Reporting and Governance Authority, it is not hard to envision some serious political arm-twisting of the Big Four, that one of them should relent and take up the poisoned chalice. For the firms, the necessity to resist that pressure would put at stake their very professional integrity.
Whatever political and regulatory energy may survive the Halloween deadline for a Brexit resolution, it is within optimistic expectations that the “purpose of audit” review now in process under the leadership of Sir Donald Brydon will bring clarity of analysis and reasonableness of vision to the challenges of evolving today’s Big Audit model to one fit for future purpose.
Figuring in that project, Sports Direct may well be left orphaned, to bear the consequences of its regulatory non-compliance. If so, that would be a tentative but real demonstration of the gravity of the issues requiring resolution in bringing about the necessary changes.
[1] For a detailed exploration of the various official proposals pending in the UK, please see my new book – “DOA: Can Big Audit Survive the UK Regulators?” – available through Amazon in paperback and e-reader formats.
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