a man less than three months away from retirement, BDO’s policy board chairman – in effect, the firm’s international chairman – can’t wait to get into the issues. And to be fair, there is much for Dermot Mathias, who joined the accountancy giant 37 years ago, to discuss.
What excites him most is the possibility of a Brussels-inspired regulatory revolution. The European Union’s financial services commissioner Michel Barnier released a two-month consultation paper last week about the industry. As one would expect, it raised questions about audit quality in light of the financial crisis, where accountancy firms passed the accounts of banks like Northern Rock, Lehman Brothers and the Royal Bank of Scotland that then went bust or had to be rescued by government.
The Big Four global accountancy firms – PricewaterhouseCoopers (PwC), Ernst & Young, Deloitte and KPMG – audit 70 per cent of Europe’s largest 350 firms. Barnier wonders whether they may have too cosy a relationship with their clients, at the expense of investors who may therefore be presented with financial statements that lack rigour or at least relevance.
Barnier asks a number of questions, including whether auditors should remain with the same clients for decades, whether regulators should pick auditors for very big firms, whether internal control assessments ought to be added to financial statements, and whether smaller audit firms should face less onerous rules than their big rivals.
But Barnier is clear things should change. He said: “The status quo is not going to be an option for the EU. We want to strengthen this profession and its credibility.” Mathias, 61, does not agree with everything Barnier proposes, but he obviously welcomes the general thrust of opening up the Big Four to competition, as his firm BDO along with rival Grant Thornton occupy the two spots just outside the elite quartet.
“Having four big players is unhealthy,” says Mathias, taking off his jacket and hanging it on the back of a chair in a bright first-floor meeting room in BDO’s Baker Street headquarters. “In other areas of business, having four dominant companies is not too much of a problem. But in our industry, because of the conflicts of interest that often arise out of the range of work professional service firms perform, clients may only be faced with a choice of two or just one firm to choose from. Now, I would say this, because its in my interest, but there are others in the market who say this also.”
Mathias last week handed over his UK senior partner role to audit partner Simon Bevan, and at the end of the year will hand over his international chairman’s role to BDO’s German head Holger Otte. BDO’s network of 95 firms employs 46,000 in 110 countries and last year posted sales 2.3 per cent down at $5bn (£3.1bn).
Mathias agrees with Barnier that internal controls and corporate governance issues should be included in audit reports. The impetus for this comes from recent probes into bank failures where it emerged that senior staff were nominally in charge of more junior workers who constructed complex financial instruments that their line managers could not understand, and in some instances even destroyed the firm. The BDO boss also thinks that having regulators choose the auditor for key companies and having limits on the amount of audit work the Big Four can do among Europe’s biggest 350 firms are “ideas worth considering”.
What Mathias is admitting to here is that despite efforts to grow the business in the six years he has been in charge, it still lags far behind the Big Four in scale as well as elite clients. In the last three years BDO has tripled its staff in China to 5,000 and has moved into number five positions in other fast growing markets like Russia and Brazil. Overall, since 2007 the group has boosted its staff from 31,500 to 46,000.
By contrast PwC employs 161,700 staff and last year reported worldwide sales of $26.6bn. And despite the hundreds of clients BDO has, it does not audit any bank. Audit works accounts for 60 per cent of the group’s revenue. Mathias says: “It is clear that market forces have not been sufficient to fill the gap. We have grown, but I can’t say that we have rapidly closed the gap on the Big Four.”
However, critics say that second tier firms like BDO and Grant Thornton are crying wolf – and that they are actually not prepared to take on the enormous amounts of high quality staff they would need to audit the world’s biggest companies. Instead, the critics argue, they are quite happy to earn a decent living from lucrative restructuring, tax and other advisory services, while not really trying that hard to grab the largest clients with subsidiaries all over the world.
But Mathias rejects this. He says: “We have grown significantly over the last three years. And we are ready to take on the audits of more complex businesses.”
Some radical critics of the accountancy profession say that one or more of the Big Four should be broken up to allow more competition. But Mathias does not agree. The move might lead to market instability, he says, cutting down the options of big firms. Going from a Big Four to a Big Three would simply mean less competition. And, Mathias adds, a break up would be simply be impractical.
He explains: “It is very difficult to see how this could work. These units are separate legal entities in the countries they are incorporated in. If the EU were to break up a Big Four firm over here, they could still operate in the US and in fast growing economies in Asia.”
Some observers say the accountancy profession has come up seriously short twice in the last ten years. First, in 2001 and 2002, through its role in the WorldCom and Enron accounting scandals. Indeed, the latter turned the Big Five into the Big Four when Arthur Andersen went under. And in 2007 and 2008 auditors passed the accounts of a string of banks that turned out to have been highly exposed to changes in market conditions, especially the money markets. Defenders of the profession argue that there are limits to what can ever be included in an audit statement – and that nobody could forsee how practices that were signed off by regulators, experts and everybody else suddenly turned out to have been so disastrously misguided. Others blame mark-to-market accounting rules.
Aside from the EU’s paper, the UK’s Financial Reporting Council is also investigating Ernst & Young’s role in auditing Lehman Brothers, which failed in 2008.
Mathias’ final worry is that audit statements, which are already overcomplicated, will become more so as a result of new regulation that is bound to come as a reaction to the financial crisis. He says: “Financial statements are governed by strict rules and have become increasingly complex. They have almost become opaque, and a barrier to communication with investors.”
The BDO chief adds: “We need to converge international reporting standards, and then simplify them. There has been a lot of hard work done on this already since International Financial Reporting Standards were introduced some eight years ago. If the will is there, this could happen in two to three years. The issues are well understood. However, new regulations may make statements even more difficult to read.”
For a man who is getting ready to pack up his tent, Mathias has a lot to say. He has moved his firm on greatly in the last few years, but there is still a lot for his successor to do. Yet just as a regulatory onslaught destroyed Arthur Andersen, a fresh revolution instigated this time by the EU authorities might give BDO the chance to grab the brass ring. And from his easy chair, no one will be cheering harder for his old firm than Mathias.
CV | DERMOT MATHIAS
Work: Mathias joined the firm in 1973 and qualified in 1976. He was made partner in 1980 and after a period in management consultancy, joined the corporate finance group, becoming head of corporate finance in 1990. He has been involved with the firm’s strategic development and management for the last fifteen years. Became senior partner in 2002
Education: University of Surrey
Family: Married, two daughters
Lives: Homes in Oxfordshire and Cornwall
Hobbies: Walking in the countryside, skiing and national hunt racing