KPMG and Carillion

Déjà vu all over again

When former member of the Big 5 audit firms, as they then were, Arthur Andersen collapsed in the early 2000's one of the primary causes of their demise was that it became evident that the audit partners had got too close to their clients and the fact that the client was Enron was a primary cause. As whistleblower Sherron Watkins subsequently stated 'Enron was able to push Andersen around' primarily, it appears, because Andersen had won lucrative consultancy contracts with Enron and didn't want to jeopardise these by raising audit red flags.

Andersen had an almost permanent presence at Enron offices and it became difficult to distinguish between Andersen employees and those of their client so entwined were they.

And so we come to 2022 and Carillion. KPMG have had a claim made against them by the liquidator of Carillion – the Official Receiver- for £1.3bn. This included a claim for restitution of dividends (£210m) which were paid out wrongly and losses of £1.1bn incurred as Carillion allegedly traded on whilst insolvent.

In an eerie parallel to the Enron case the claim alleges that the KPMG lead audit partner accepted hospitality from and provided hospitality to Carillion which blurred the boundaries of the auditor client relationship. The lead partner was also accused in the claim of backdating an audit opinion.

KPMG have already admitted fault to a tribunal set up by the accounting regulator the Financial Reporting Council insofar as their UK chief executive has admitted that it was clear misconduct had occurred and apologised to the FRC. The tribunal has also heard of allegations that documents were shredded to cover up audit defects.

Almost twenty years after Enron here we go again. A major audit firm accused of, effectively, collusion with a major client to sign off an audit opinion giving a clean bill of health to a company which shortly after collapsed in spectacular fashion. KPMG are not the only firm caught out in this way, there are others, but this is by far the largest claim of recent years.

So why is this happening? Are audit partners under such pressure that they are putting profit before ethics? Is there internal pressure in these firms to maximise results and to not cause any problem with big clients even when it is obvious something is not right? Is the culture of these Big 4 audit firms so competitive that not hitting profit targets is seen as failure with a consequent effect on career prospects? Do audit partners see a big bright future for themselves if they suppress the bad news so the consultants can carry on charging big fees and hoping that everything will turn out all right in the end. Do they firmly believe that their client is too big to fail?

And this may not go away. The FRC has recently issued a requirement for the so called Big 4 to separate their audit and consultancy arms by 2024 but is this the answer?

The problem this solution does not address is that consultancy is far more lucrative than audit. Audit has always been seen as a poor relation and a gateway service to consultancy. If the audit partnership has to survive on its own profits the temptation to hold on to clients at any cost and to try to increase fees will be great.

Clients faced with big fee increases will be looking to the auditors to 'be positive'. Competition from rival firms will increase so the temptation on audit partners to minimise the bad news and hide the red flags may well be so much greater.

What looks to be a solution may, in fact, only exacerbate the problem.

Meanwhile KPMG has to robustly defend its audit of Carillion – which is not going to be easy – and making sure its professional indemnity insurance is paid up. It is a vast organisation and no doubt will not go the way of Andersen but the damage to its reputation may be a greater blow if FTSE clients start to desert it because of the perception that the audit opinions it signs don’t mean very much.

John Taylor is an author for accountingcpd. To see his courses, click here.