UK competition inquiry target Big Four audit power

It's been coming for quite a while, but now it's official: The UK Office of Fair Trading has asked the Competition Commission to conduct an inquiry into the dominance of the Big Four accountancy firms in the market for audit services. The decision confirms a provisional decision a few months ago and put the firms under careful scrutiny. Regulatory attention to audit has been mounting as the number of audit firms has shrunk and evidence of competition for mandates has dried up. The OFT said that in 2010, the four largest firms – PricewaterhouseCoopers, KPMG, Deloitte and Ernst & Young – earned 99 per cent of audit fees paid by FTSE-100 companies. That should come as no surprise, as only one of the 100 companies uses an auditor other than the Big Four.

More interesting is the finding that between 2002 and 2010, the average annual switching rate among FTSE-100 companies was 2.3 per cent. The OFT put the word "only" in that sentence, ahead of 2.3 per cent. You might be surprised to hear it's that high. But remember a large number of non-UK companies in the FTSE-100, especially natural resource companies, are listed in London. Often facing rapid growth in size and scale, they may have found the need to change auditors to accommodate their internationalisation.

Even more interesting is the PwC alone earned 47 per cent of the FTSE-100 fees. The OFT said: "Non-Big Four audit firms can face substantial barriers to entry in terms of gaining relevant experience, establishing their reputation, overcoming switching costs and inertia, surmounting regulatory barriers and banking requirements, taking on liability risks, and raising capital to finance expansion."

These investigations take time, and the audit market is a sensitive one, so don't expect a radical decision soon. Finding a solution to the concentration of audit has been on the agenda of regulators all around the world for several years. The implosion of the firm Arthur Andersen in the aftermath of the collapse of Enron in 2001 and WorldCom in 2002 reduced competition and left other would-be rivals in the audit profession wary of trying to join the elite club. As the financial crisis took hold, a lot of people wondered whether the audit giants might now be too big to fail.

Source document: The OFT referral document is a 78-page pdf file.