Analysis - Shaking up the audit market.

The accountancy profession breathed something of a collective sigh of relief after the Office of Fair Trading delivered its report on the professions this month.

Judging from the volume of words at least, the lawyers were the real target. They get a real mauling while the examination of accountancy appears to be something of a sideshow, a makeweight to give the impression that all the professions were being considered. And so far the OFT’s report has met with a fairly relaxed reaction.

Certainly the ICAEW seems fairly confident that ‘everything is in hand’.

Despite what appears to be a light touch the report does highlight some areas it says need addressing. Rules against using price comparisons in advertising, receiving fees for referral of business and cold calling are all said to represent restrictions on competition that need reforming.

But the most significant piece of information for accountancy is the conclusion that the 50% rule – that only firms with a majority of qualified partners can carry out a statutory audit – is also a restriction on competition.

Despite noting it will take changes in UK and European legislation, the clear inference is that this rule must go. It’s a view supported by a statement from Stephen Byers, secretary of state for trade and industry, that the professions, including accountancy, can no longer expect to remain outside the jurisdiction of the Competition Act.

But none of these observations apparently present great problems for accountancy. The ICAEW points out that it has work underway to transform all these areas.

But the OFT report has now been out since Budget day (a convenient way to obscure its impact) and the dust is beginning to settle. New views are surfacing about the OFT’s report and they are not all as sanguine as the ICAEW’s.

It’s probably worth noting some of the implications that have so far gone unspoken.

It’s clear the investigation by the Legal and Economic Consulting Group – hired by the OFT to produce the report – quickly focused on the development of multi-disciplinary practices.

Longed for by some of the Big Five firms and magic circle law firms, MDPs would allow lawyers like Clifford Chance to start mopping up small to mid-size accountancy firms to create a one-stop ‘supermarket’ of professional services. Audit, accountancy, corporate finance, tax and litigation all under the same roof. No need to go any further.

The risks are that once MDPs get up and running mid-tier firms would come under enormous competitive pressure, perhaps prompting a round of consolidation. Indeed it is a scenario the report appears to favour.

Concluding its remarks on the 50% rule the OFT report says: ‘The rule may inhibit, for example, large non-accountancy firms from entering the market through the acquisition of small high street firms. Moreover, the 50% rule will inhibit the development of MDPs.’

There is no explicit indication in the report that the writers believe there are too many accountancy firms and the sector needs thinning out, but the assumption in favour of consolidation of some kind is clear.

American Express has raced to create a huge accountancy firm in the USA through acquisition, and UK observers envisage an all-clear for MDPs in the UK possibly having the same potential.

But as one observer put it: ‘Consolidation wouldn’t worry the big firms, but for the mid-tier this is bad news.’

But the question many people are asking is where the public interest is in all of this. Or, more to the point, why the consultants working for the OFT did not address the issue of public interest in their report.

Roy Amlot, chairman of the Bar Council, has reacted strongly to the report and not least because of what he sees as public interest implications arising from encouraging MDPs. Lawyers claim their prime concern over MDPs is maintaining independence. Lawyers involved with an MDP, says Amlot, will inevitably become the subject of pressure to be ‘successful at all times’.

More to the point he asks how the goal of competition can be helped if MDPs begin hoovering up small firms, whether they be lawyers or accountants, into one big entity. As he writes in an opinion piece for Accountancy Age this week, ‘it is suggested that MDPs would enhance customer choice and convenience but surely tying in firms with each other, especially in a small town, would limit choice?’

In the introduction to its report the LECG states it has only been retained to investigate competition issues. But it openly acknowledges the public interest is a relevant issue to address though, as commentators point out, it fails to discuss its enthusiasm for MDPs within this context. Roy Amlot is not alone in his concerns.

Mandie Lavin, director of professional standards at CIMA, is incensed by the report and its failure to engage in public interest issues: ‘When we are looking at new regulatory structures it is the perfect opportunity to look at themes like the public interest.’

But her real concern is how an assumption is made in favour of MDPs without asking the question about public interest. She notes a few glaring problems that would need addressing. For example how would a practice with partners from different professions be regulated? Individuals may be regulated by their professional bodies but what rules would apply to the multi-disciplinary firm? How, for instance, would differing codes of conduct from different professions be married together? The questions are difficult and would need huge amounts of work to overcome.

Independence is perhaps the key public interest issue for accountants, just as it is for lawyers. In the OFT report however, there is little discussion of the issue which Lavin believes must be raised if discussing MDPs.

But as Prem Sikka, of the department of accounting, finance and management at Essex University, says: ‘If accountants argue they are producing independent audits and are not compromised by other non-audit services in the same firm, how can you stop anyone entering the audit market?’

In other words, even if accountancy firms objected to MDPs on the grounds of independence, their claim to produce unsullied audits, despite offering non-audit services, would undermine any argument they had.

Accountants, according to Sikka, are facing an ‘identity crisis.’ Once they had a monopoly in return for independent audits. But with the drive to include so many services under one roof, that arrangement has come under stress.

However, the report’s authors remain confident it addressed the right issues. Robin Aaronson, director of economics at the LECG, says: ‘Our brief was to look at competition rules and regulations and not to focus on the other side of the arguments.

‘Public interest is an issue for the OFT. It was clear that the OFT would do the balance of the work.’

So far the OFT in its own statements has said nothing about the public interest implications of MDPs. It remains to be seen what steps the government will take. For more on this turn to opinion, page 16 To see the whole report go to www.oft.gov.uk

INSOLVENCY BOTTLENECK Legal and Economic Consulting Group, producer of the Office of Fair Trading’s report, found itself running out of time to fully investigate all the areas it wanted, but it did manage a cursory examination of insolvency practitioners.

It noted that ‘the rights of senior creditors to appoint receivers raised a fundamental issue of incentives.’

The concern was that receivers were ‘appointed by creditors who do not bear the consequences of excessive charges’.

Worries were expressed over a ‘possible bottleneck’ due to restrictions on entry to the profession’ which could hold back supply and push up charges’.

The report’s authors wonder whether there is an argument for a ‘more limited’ qualification that could be introduced to allow more people to undertake some of the more routine work of insolvency practitioners.

The issue has been addressed before in a report in 1999 by the Insolvency Regulation Working Party which concluded there was no issue to deal with until there was a shortage of practitioners.

LECG says it believes whether there is or is not a shortage of practitioners is not the real issue. The crucial problem is whether the qualifications of practitioners go further than necessary.