Big Four accounting firm Ernst & Young is considering a world-wide split of its audit and advisory businesses amid regulatory scrutiny of potential conflicts of interest in the profession, according to people familiar with the matter.
A split would be the biggest structural change at a Big Four firm since Arthur Andersen fell apart some 20 years ago.
The potential move would create two giant professional firms. EY last year had global revenue of $40 billion, of which $13.6 billion came from audit work.
How exactly the restructuring would work isn’t clear. The split could bolt some services, such as tax advice, onto the pure audit functions, one of the people familiar with the discussions said. The breakaway firm could then offer consulting and other advisory services to nonaudit clients.
Any change would have to be approved by a vote of the partners world-wide. EY’s global network consists of separate firms in each country that share technology, branding and intellectual property.
EY conducts a strategic review of its business lines every couple of years in which it weighs regulation, technology developments and competition with other firms, the people said.
Regulators world-wide have raised concerns about the potential impact on audit quality of accounting firms’ increasing reliance on sales of consulting and tax services, which offer higher margins and greater growth potential than their core audit businesses.
The Securities and Exchange Commission is investigating potential conflicts of interest at the Big Four and some midtier audit firms. Senior SEC officials in recent months have publicly warned accounting firms not to “creatively apply the [independence] rules.”
Accounting firms are prohibited under SEC rules from performing services for audit clients that could impair their objectivity. Many companies pay fees to their audit firm for advisory or other nonaudit services. That raises concerns the additional income could affect the auditor’s duty to be impartial when reviewing the company’s financial statements. However, on average 90% of the total fees paid by an SEC-listed company to its auditor are for the audit or audit-related services, according to industry group the Center for Audit Quality.
The Big Four between them earned $115 billion world-wide from consulting and tax services last year, more than double the $53 billion from audits, according to data provider Monadnock Research LLC.
In the U.K., the Big Four firms are splitting their audit operations from the rest of their activities, in response to demands by regulators. The measure follows a string of accounting scandals.
Regulatory pressures are just one consideration in the discussions on a possible breakup at EY, and the firm isn’t being forced to make such a move, one of the people familiar with the matter said.
The firm has no set timeline for the potential breakup, which is still under consideration and may not go ahead, the people familiar with the matter said. The potential split was earlier reported by Michael West Media.
An EY breakup likely would put pressure on the rest of the Big Four—Deloitte, KPMG and PricewaterhouseCoopers—to consider similar big changes, accounting industry observers said. “This could have a destabilizing impact on the robustness of the assurance profession,” said
an attorney and former Arthur Andersen partner.
The move could reduce conflicts of interest, depending on how the profit incentives are structured, said Michael Shaub, an accounting professor at Texas A&M University. “There could be more of a firewall,” he said.
“Regulators may hope that such changes will increase the independence of audit partners, but on the flip side, they may only make the audit partners desperate for revenues and damage audit quality,” said Shyam Sunder, professor emeritus of accounting and economics at Yale University.
KPMG declined to comment. Deloitte and PricewaterhouseCoopers didn’t respond to a request for comment.
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