Re:Balance -- Jim Peterson

“Count Down” – The Second Edition Is Published

The second edition of my book -- “Count Down: The Past, Present and Uncertain Future of The Big Four Accounting Firms” -- is, to my pleasure, just released by Emerald Books.

Deliveries are available – see Amazon. Up-dated, revised and extended, this trade edition is now designed -- and priced --  for readers in accounting and other professions, corporate management and governance, finance and investing.

The new “Count Down” brings into its updated narrative important developments since publication of the December 2015 first edition, affecting the Big Four and the threats facing their business model:

The Big Four’s growth to collective global 2016 revenue of $ 128 billion, and the structural implications of the continued growth disparities between their Audit and Advisory practices.

The imposition and implications of mandatory auditor rotation under legislation and regulation in the European Union; and in the US, the PCAOB’s requirement to name lead partners on public company audits.

New examples of corporate financial malfeasance, regulatory and law enforcement proceedings and potentially disruptive auditor litigation, involving each of the Big Four and their large global clients – of which a partial sample here:

• Deloitte’s Brazil firm in December 2016 incurred an eight million dollar penalty, the largest ever imposed by the PCAOB, and practice bars and other sanctions against twelve partners and employees, over confessed alteration of documents, false testimony and lack of cooperation with the PCAOB’s inspections and investigations.
• EY in September 2016 was the target of two SEC enforcement actions, involving censures, fee disgorgements, fines and practice bars against its personnel, over charges of loss of independence based on “close personal relationships” between engagement partners and client personnel -- in one case a romantic relationship and in the other, significant expenses paid for travel, entertainment, sporting events tickets and family vacations for the client CFO and his family.
• KPMG in April 2017 fired five partners and an employee, including its Vice Chair of Audit and its head of Audit Quality and Professional Practice, over its receipt and handling of advance inspection information leaked by an employee of the PCAOB.
• PwC’s delivery of the wrong “best picture” envelope, and the resulting tumultuous ending to the February 2017 broadcast of the Academy Awards, evoked public ridicule -- although the significance of the debacle was pale compared with the potentially fatal financial impact of two multi-billion dollar lawsuits, relating to its audits of Colonial Bank and MF Global, where jury trials in process in August 2016 and March 2017, respectively, were discontinued in favor of settlements for confidential amounts.

This new edition also expands in scope and detail on the required re-engineering by which – with the necessary but unlikely mutual cooperation among financial statement issuers and users, the accounting profession, legislators, regulators and agencies of law enforcement – a sustainable structure for financial reporting and assurance might emerge -- that is, a Big Audit model truly fit to serve today’s global capital markets.

The issues here have meaning and impact not only for professionals in the Big Four and the smaller but no less affected firms, but also for those working with and for public companies and their clients, and investors who rely on robust audited financial statements, as well as individuals and institutions holding the securities of public companies in their savings and retirement funds, Keoghs and IRAs, pension and endowment funds.

The story of the fragility of the business model of the Big Four retains its importance. In that spirit, I hope it is worthy of your attention. I invite you to order -- read -- enjoy (or at least be stimulated). Reactions are invited. Comments on Amazon are welcome and encouraged -- as are "likes," "shares" and RTs on Facebook and Twitter, messages on LinkedIn, and especially, recommendations to friends and colleagues. As for any disagreements or criticisms -- feel free to write me directly at [email protected].

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Le Monde and I discuss: "Quand les « Big Four » s’écrouleront"

 

While in London last month to promote my recently-published book on the fragile and threatened state of the Big Audit model, under which the four big international accounting networks provide audit services to the world's largest public companies, I had the pleasure of an extended discussion with Eric Albert, correspondent for the prominent French newspaper Le Monde, whose "Lettre de la City" appeared in the paper's edition for April 6 (below and here). Albert's lead requires translation, not only for vanity's sake, and his concluding paragraph captures the essential message of "Count Down":

"Quand les « Big Four » s’écrouleront"

Jim Peterson n’a pas franchement l’apparence d’un révolutionnaire. Nœud papillon, costume impeccable sur des souliers cirés, cheveux blancs tirés en arrière, l’Américain incarne parfaitement ce qu’il a longtemps été : un avocat d’affaires de haut vol, qui a très bien gagné sa vie en défendant les grands cabinets d’audit.

("Frankly, Jim Peterson does not have the appearance of a revolutionary. Bow tie, impeccable suit and shined shoes, white hair combed straight back, this American perfectly incarnates what he has always been: a high level business lawyer who has made a great life by defending the big audit firms.")

Derrière ses allures policées, son message est pourtant explosif.

Lui qui a longtemps été un homme du système, qui a connu de l’intérieur tous les rouages de la comptabilité des grandes multinationales, tire la sonnette d’alarme : les « Big Four », ces quatre grands cabinets d’audit internationaux (PwC, Deloitte, KPMG, Ernst & Young) risquent de s’effondrer à tout moment. « Ils sont plus fragiles qu’Arthur Andersen en 2002 », nous expliquait-il lors d’un récent passage à Londres, faisant référence à la faillite retentissante de l’ancien cabinet d’audit.

Urgence

Selon lui, l’urgence est réelle : « On ne peut pas survivre avec seulement trois auditeurs. Tout le système financier mondial se bloquerait si on arrivait à ça. » Pour tenter d’alerter l’opinion, il a récemment publié un livre ardu mais important sur le sujet (Count Down : The Past, Present and Uncertain Future of the Big Four Accounting Firms, Emerald Group Publishing, 2015).

Dans une première vie, Jim Peterson a longtemps enchaîné les emplois dans les grands cabinets d’audit. Son travail : les défendre à chaque fois que ceux-ci étaient attaqués en justice . Son dernier poste : avocat chez Arthur Andersen, justement. Sa chance a été d’atteindre l’âge de la retraite
en 2001, juste avant le scandale Enron.

Quelques mois plus tard, le géant américain de l’énergie s’écroulait, une vaste fraude comptable étant mise au jour. L’auditeur ? Arthur Andersen, qui s’était montré complice actif. Risquant les poursuites judiciaires, le cabinet a lui aussi fait faillite. « Il s’est écroulé en moins de deux semaines, rappelle Jim Peterson. Les associés situés à l’étranger ont été les premiers à partir , et tout le système a chuté derrière. »

Les scandales se succèdent

Cette faillite, qui a fait passer le monde du « Big Five » au « Big Four », a mis en évidence l’extrême fragilité financière des grands cabinets d’audit. Cela peut paraître paradoxal. En apparence, Deloitte, KPMG, PwC et Ernst & Young sont d’énormes réseaux internationaux, qui dominent le monde . Pratiquement aucune grande entreprise n’échappe à leurs tentacules : les quatre grands sont les seuls à savoir auditer des multinationales présentes dans des dizaines de pays, jonglant entre les paradis fiscaux et les lois du commerce international .

Pourtant, ils n’ont pratiquement aucune réserve financière. Ce sont des réseaux, sans holding centrale, qui appartiennent aux associés. Ironie du sort, les Big Four sont particulièrement peu transparents sur leurs propres comptes et il est très difficile de connaître leur état financier. Mais selon les calculs de Jim Peterson, il suffirait d’une soudaine perte de 1 milliard à 6 milliards de dollars, suivant les cas, pour provoquer une faillite : le genre de somme parfaitement réaliste par rapport aux énormes amendes ou aux poursuites judiciaires que subissent les banques depuis quelques années.

Or, les scandales comptables se succèdent avec la régularité d’un métronome. Les supermarchés Tesco ont révélé en 2014 avoir surestimé de plus de 300 millions d’euros leurs profits. Au Brésil , le scandale Petrobas pourrait bien avoir de sérieuses conséquences pour son auditeur, PwC (la Fondation Bill et Melinda Gates, actionnaire de Petrobas, le poursuit actuellement en justice). Et Deloitte a aussi eu très chaud en 2013, quand il a été poursuivi pour 7 milliards de dollars pour ne pas avoir vu venir la faillite de Taylor Bean, l’un des plus gros prêteurs immobiliers américains : un accord à l’amiable a finalement été passé.

Éviter la connivence

Mais après tout, pourquoi craindre une faillite de l’un des Big Four ? Contrairement aux grandes banques, leur survie n’est pas essentielle à la bonne conduite du système financier mondial. Faux, réplique Jim Peterson. Il rappelle que de plus en plus de pays obligent les entreprises à changer régulièrement d’auditeur, pour éviter la connivence.

Dans le même temps, les cabinets n’ont pas le droit de fournir des conseils aux entreprises qu’ils auditent, toujours pour la même raison. Résultat, avec seulement quatre grands cabinets, le choix est déjà extrêmement limité. « Récemment, une grande multinationale avait l’obligation de changer d’auditeur, pour respecter la loi. Elle avait donc le choix entre les trois concurrents : mais deux d’entre eux ont dû se retirer parce qu’ils lui fournissaient déjà des conseils », raconte Jim Peterson. Il n’en restait plus qu’un. « Si on arrive aux Big Three, beaucoup d’entreprises n’arriveront plus à trouver d’auditeur, alors que la loi les oblige en a avoir un. On risque de se trouver dans une situation complètement bloquée. »

Pour l’instant, à son grand désespoir, le sujet ne semble ne pas intéresser grand monde. Mais quand une crise éclatera, et que le système financier sera confronté au problème, le monde aura comme d’habitude réagi trop tard.

("At the moment, much to his chagrin, the subject does not seem of interest to many people. But when a crisis breaks out, and the financial system ends up facing this problem, the world will -- as usual -- have reacted too late.")

 

Thanks to Eric -- and to readers for joining this dialog. Please share with friends and colleagues. Comments are welcome, and subscription sign-up is easy and free, both at the Main page.

 

“Beware the Ides of March” – This Year, Who Should Care?

Political and other careers have ended sharply on the 15^th of March, ever since Julius Caesar ran into the assassin’s knife on that date in 44 BC.

This year in America, consequences for the Republicans and the republic in general will flow from the winner-take-all presidential party primaries in Ohio and Florida – and, sadly, perhaps blood as well, if the sorry spectacle at last week’s cancelled Trump rally in Chicago is replicated.

On the business front, eyes as well as ears will be lent to the promised release of twice-delayed fourth-quarter earnings by Valeant Pharmaceuticals – whose stock price is off by 75% since last summer, stabilized last week in the high 60s although without pre-opening news at this writing on Monday morning.

As addressed at length in today’s New York Times and Financial Times, among many others, the company faces a catalog of issues – its revenue recognition, accounting measures and cash flow, along with its basic pricing, business and management model and strategies.

I had written back on January 16 on the timing and effects of CEO Michael Pearson’s suddenly-developed illness and leave of absence – from which he is reportedly recovered enough to be back on the job, for the moment at least. And I was pleased to contribute to the FT’s discussion of Valeant’s use of adjusted earnings measures:

“Many companies argue that shareholders should focus on adjusted figures, which strip out one-off costs and non-cash accounting charges, to judge the performance of the underlying business.

“However these adjusted numbers require investors to place their faith in the company managers who make the adjustments.

“’When a company starts introducing other terms like ‘adjusted’ you have to ask the question adjusted for what and adjusted by whom,’ says Jim Peterson, accounting specialist and author of “Count Down: The Past, Present and Uncertain Future of the Big Four Accounting Firms”.

“In the case of Valeant the adjusted earnings have raised concerns because of how sharply they have differed from the picture presented when generally accepted accounting principles (GAAP) are used instead.

“While this is not necessarily a bad thing, it has led some analysts to argue that it is impossible to fully judge Valeant’s underlying profitability.

“’Once you’re away from GAAP metrics you can fiddle it any way you want. A bane of the users of financial statements is the tendency of companies to use their own metrics to present whatever picture they like,’ says Mr. Peterson.”

The Ides of March saw the knives drawn literally in the Roman Senate, as they will be figuratively for US Senators Ted Cruz and Mark Rubio tomorrow. Michael Pearson and his board at Valeant would be well advised to consult their auguries on what the day portends for them as well.

 

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And information on my book – “Count Down” -- kindly cited by the FT -- is available here.

L’Affaire Denim: The Accounting Firm Dress Code Debates Span Borders, Decades

The Going Concern blog, edited by Caleb Newquist, serves its enormous audience among the younger members of the profession with energy and panache, and it has been my privilege to offer some thoughts there from time to time. This week, I contributed this to the vigorously-debated subject of dress codes:

Cosmic issues are being raised in the great Dress Code debates: Is denim okay every day? What’s the largest allowable team logo on a sweatshirt? How about pajamas outside the house?

My experiences may offer some useful historical and cultural context.

In the late 1990s I was expatriated to Paris with one of the then Big Six –- during the first wave of large-firm agita about how far adults in their 20s could be trusted to dress themselves for work.

The professions in London had gone casual with a vengeance. Staff facilities there had promptly taken on the appearance of locker rooms in provincial soccer stadiums: all tattered jerseys and dirty boots.

When my small group of in-house lawyers –- I being the only American –- received the US firm’s memo on acceptable standards for casual Fridays, the walls echoed with hysterical laughter. Five closely-typed pages laid out rules of Talmudic complexity: sleeve lengths and collar requirements and shoe styles; height of hemlines, forbidden fabrics, and a blanket fatwa on all T-shirts.

It was a pronouncement truly lovable only by a profession capable of grappling with GAAP/IFRS reconciliations, CDO portfolio evaluations or the Internal Revenue Code.

My European colleagues, both bemused and horrified, had always been stylishly presentable as a daily matter –- with the subtlety and je ne sais quoi that seems injected into European newborns as part of their government-provided health care. At any given time, however -– men and women alike -- at least half would have been in violation of the American code –- perhaps a designer blouse without sleeves, a collarless Armani tee under a two-piece suit, or marginally too much display of femur or collarbone.  

As enforcer, I’d have had full-out rebellion on my hands, not least from our paralegals -– a long-stemmed trio averaging about 1.80 metres each, who would have sooner joined Marianne in storming the barricades than surrender the bare legs and open-toed sandals of Paris in the springtime.

For the rest of the piece, see Going Concern for February 18, 2016.


To the youthful audience of Going Concern, my plug for my recently-published book on the difficult state of the large firms -- "Count Down: The Past, Present and Uncertain Future of the Big Four Accounting Firms" -- emphasized that while it is a "business" book and not a text, its publisher follows the academic model, so the cover price might seem somewhat lofty -- for which my subversive suggestion was that engagement teams should pool their interest, charge a copy to the job as research material, and pass it around. Reader demographics here should make pricing less an issue -- availability is through Amazon. Feedback and reactions are solicited and encouraged -- here at the Main page.

In Print: “A Look at the Profession’s Uncertain Future” – The CPA Journal

Through 2015 The CPA Journal – published by the New York State Society of CPAs – observed its 85-year history with comprehensive exploration of the profession – past, present and future.

It was my pleasure to offer a guest editorial in the Journal’s issue for December – copied here[1] -- “A Look at the Profession’s Uncertain Future: A Rough Path Lies Ahead for ‘Big Audit’.”

The views briefly reprise the themes in my book, also released last month – “Count Down: The Past, Present and Uncertain Future of the Big Four Accounting Firms” – which explores the interrelated forces that challenge the sustainability of “Big Audit” -- the current fragile model by which assurance is delivered on the financial statements of the world’s large public companies.

Access to the Journal is either by membership in the New York society or by subscription. For the valuable insights available from this important “voice of the profession,” one choice or the other is recommended.

 

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[1] With the generous permission of The CPA Journal, Voice of the Profession, December. 2015, all rights reserved, and thanks and appreciation to Rich Kravitz, its editor-in-chief.

The PCAOB on Partner Naming – Late News from the Devil’s Playground

 

And the earth was without form, and void;

And darkness was upon the face of the deep.

-- Genesis 1:2

After His six efficient days of work, “the heavens and the earth were finished, and all the host of them” (2:1), and the great Creator took Sunday off.

Whereas the Public Company Accounting Oversight Board labored fully six years to issue its December 15 release – new rules and a new Form AP by which auditors of US public companies must identify their lead engagement partners.

As examined in my recently-published book, “Count Down: The Past, Present and Uncertain Future of the Big Four Accounting Firms”[1], partner naming is a half-baked solution in search of a real problem. In the world of finite regulatory energy and resources, the project has never been worthy of the effort.

To start -- engagement partners in Europe and elsewhere have signed their firms’ reports for years, with no visible evidence that audit quality has been affected one way or the other – much less for the better -- and abundant examples that quality there is not demonstrably above that in America.

Conversely, for all the to-and-fro, the profession’s resistance based on liability concerns was always doubly undercut: First, by the absence of increased partner exposure outside the US. And second, by the lack of a significant history of claims against the firms themselves, under Section 11 of the Securities Act. The prospect of suits against individual partners must be remote – especially as investor plaintiffs have generally forgone those claims under other legal theories. On the other hand, partner identity has always been readily discoverable in US litigation, so the new Form AP will be insignificant in elevating whatever current exposure a partner may have.

As for this new form, rather than a forthright requirement to sign the audit opinion itself, the PCAOB takes a halfway approach that only a bureaucrat could love – a new required filing, on its own unique timetable – creating one more compliance box to tick and one more item for the inspectors’ checklist. Unmentioned in the discussion is the principle, well known to safety and compliance experts, that even the best-intended quality measures add additional complexity: “one more thing to go wrong” injects an unavoidable if unintended increase in the opportunity for cascading mistakes.

Examples are readily available. A key factor contributing to the Three Mile Island nuclear plant “accident” in 1979 was the confusion between a concealed warning light and the failure of an emergency pressure relief valve. And the highway safety studies are instructive, that while safety barriers and rumble strips may reduce the number of collisions, they also incentivize higher driver speeds, meaning that deaths and damages are greater for those that do happen.

Nor does it withstand scrutiny, that public naming somehow raises the level of partner care or concentration. As noted, Europe’s experience does not include evidence of a quality effect. Instead, partners have never lacked for adequate reasons to be focused and motivated. PCAOB member Lewis Ferguson had it right back in 2011, “As a practical matter, in larger accounting firms, a failed audit or major error in the audit of a significant client, particularly a public company, can be career ending for the audit engagement partner in charge of the audit.”

Advocates of partner naming – Re: The Auditors and Going Concern among them -- point with enthusiasm to the SEC’s orders of December 2, 2015, against the Grants firm and two of its partners – noting that one had kept active engagement responsibility after the emergence of performance quality indicators including the eruption of a major client fraud.

If not outright mistaken, this view misses the proper location of incentives and accountability. That’s because, as I was quoted in Francine McKenna’s blog, “one of the many unlearned lessons from Enron/Andersen is the hostage to fortune that a firm leaves by keeping a problem partner on-line either on the same job or as moved around.”

There’s history. Back in the Enron era of 2001, Andersen had left a senior-level audit practice partner in an on-going performance-related role, after (and in spite of) his prior SEC proceeding -- contributing to the inference drawn by law enforcement officials that the firm was an unrepentant and unresponsive repeat offender.

Further back in my own experience, my law firm defended a Big Eight firm in a whole series of lawsuits, involving the client roster of a single audit partner. He was genial but inept, a virtual Typhoid Mary of exposure – exposures that the firm could have avoided by promptly quarantining this viral at-risk partner whose every job was subject to infection.  

On top of all of these reasons, the PCAOB has long had more important fish to fry. Its own member Steven Harris flagged two of them, in his remarks in favor of partner naming – namely, “Modernizing the outdated audit report model, and improving auditor going concern reporting….” Add two more to these, at least: the persistently elusive topic of “audit quality indicators,” and the agency’s long-running exclusion from the ability to inspect audit firms in China.

Until the PCAOB acted at last to resolve the lucid question of when and how its Docket 029, pending from 2009, was ever to end – only knew God.

Now, in context of a full menu of complex tasks, six years of effort only to bring forward the new Form AP has the feel – pardon the oxymoron – of a topic deemed importantly high on a list of the inconsequential.

Perhaps more apt than the Genesis comparison, then, to the PCAOB’s misplaced aspiration, is the 1st century BCE challenge issued in Horace’s Ars Poetica:

What could he produce to match his opening promise?

Mountains will labour: what’s born? A ridiculous Mouse!

 

Thanks for joining this dialog. Please share with friends and colleagues. Comments are welcome, and subscription sign-up is easy and free, both at the Main page.

Wishing a Merry Christmas to all – or whatever solstice-oriented celebration you observe – and a New Year of peace, prosperity, and compassion for those less fortunate.

 And as a holiday gift for your favorite CPA, financial officer, board or audit committee member or financial adviser – “Count Down” is available from Amazon, optimistically for delivery before the 25^th, or with only its elves’ short and manageable re-stocking.

 

[1] Available from Amazon or direct from Emerald, the publisher.

“Count Down” Is Published

It’s out. Emerald Publishing has this week released my book, “Count Down: The Past, Present and Uncertain Future of the Big Four Accounting Firms.”

With my hearty thanks to those who voted their confidence by ordering early, and who should be expecting delivery – Amazon promptly reported itself to be “temporarily out of stock.” Based on that under-estimate, optimism seems in order, that this story -- the fragility of the Big Audit model -- will appeal across the broad audience for whom it is intended.

To my valued readers – if you find the themes engaging, please share with your friends and colleagues -- and a kind word or two by way of review on Amazon would be appreciated as well. If the topics are somewhat disturbing – I will take that for success, as the threats to the status quo and the complex future of Big Audit present daunting difficulties. And on the other hand, if you may feel I have got it all wrong, write to me directly – [email protected]; in due course I will be taking all reactions into the work on the paperback edition that is to come.

And by the way, receipt of your feedback will be noted and allow me to relieve your inbox by shortening the list for future mailings.

 

 

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Guest Post: “Count Down” Speaks to Several Audiences

Thanksgiving will have extra meaning this year – it’s the week set for Emerald Publishing’s release of my book, “Count Down: The Past, Present and Uncertain Future of the Big Four Accounting Firms.”

It's the home stretch – the type-setters have my last handful of changes, the proofs of the index are turning around, and advance copies will ready to go out in the up-coming days.

Among the several audiences for “Count Down” are the young professionals and accounting students. Wherever located around the profession, their job choices, work environments and future career directions are and will be acutely affected by conditions in the market for "Big Audit" -- the structure and business model, with all its tensions and fragilities, by which audits are performed for the world's large public companies -- almost entirely by the Big Four.

On which, I had the pleasure last week of writing for Going Concern, edited by Caleb Newquist and aimed at this enormous, vocal and energetic cohort. Here is its opening:

Learning From Andersen: Opportunities and Pitfalls in a Long-Term Audit Career With the Big Four

Does anyone remember –- or care about -– the collapse of Arthur Andersen back in 2002? If recalled, what lessons might it have for young professionals taking serious stock of their career choices?

Andersen had been by far the most profitable, tightly organized and centrally governed of the large accounting firms that once were the Big Eight. It was nobody’s candidate for rapid, scandal-driven disintegration.

When Andersen crashed, the partners lost their capital, and all their post-retirement benefits. More importantly, all the Andersen employees lost their jobs. Careers had to be re-built out of the wreckage.

And today? Nothing has happened since 2002 to give anyone confidence that the surviving Big Four could withstand the shock that destroyed Andersen and upset the lives of everyone it touched.

Who should care, and why?….  Going Concern readers all have skin in this game.

For the rest of the post in its entirety, see Going Concern for October 29.    

“Count Down” is available for order now, directly through the Emerald Bookstore or from Amazon.

 

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