Too Few Auditors to Go Around?

The U.S. General Accounting Office has found no evidence of impaired competition in the audit market for public companies — not yet.

The downsizing of the Big Eight into the Big Four, however, is among a number of factors that "may have implications for competition and public company choice, especially in the future."

On Wednesday the GAO published "Public Accounting Firms: Mandated Study on Consolidation and Competition." The report — made to the Senate Committee on Banking, Housing, and Urban Affairs and the House Committee on Financial Services — was required by the Sarbanes-Oxley Act of 2002. Sarbanes-Oxley mandated that the GAO should study:

• factors contributing to the mergers among the largest audit firms in the 1980s and 1990s;
  
  
• implications of consolidation on competition and client choice, audit fees, audit quality, and auditor independence;
  
  
• the impact of consolidation on capital formation and securities markets; and
  
  
• barriers to entry faced by smaller accounting firms in competing with the Big Four for large public company audits.
  
  

The GAO recognized that the "audit market for large public companies is an oligopoly, with the largest firms auditing the vast majority of public companies and smaller firms facing significant barriers to entry into the market." According to the agency, the Big Four accounting firms now audit over 78 percent of U.S. public companies and 99 percent of public company sales. Use of the Hirschman-Herfindahl Index — a measure of industry concentration commonly used in antitrust analysis, according to the GAO — also indicates that "the largest firms have the potential for significant market power."

Research into audit fees, however, "did not conclusively identify a direct correlation with consolidation." The GAO's research into audit quality, auditor independence, and capital formation were also inconclusive, although the agency "did observe potential impacts for some smaller companies seeking to raise capital." Noting the "unprecedented changes in the audit market," however, the GAO also observed that "past behavior may not be indicative of future behavior," which may warrant further study into "preventing further consolidation and maintaining competition."

Are any accounting firms in the second tier (as we discussed in our special report) primed to join the Big Four? Probably not, says the GAO, which maintains that "lack of staff, industry and technical expertise, capital formation, global reach, and reputation" are among the market forces that make an expansion of the Big Four unlikely."

A final note: The GAO provided a draft of the report to the Securities and Exchange Commission, the Department of Justice, the Public Company Accounting Oversight Board, and the American Institute of Certified Public Accountants. The SEC, the DOJ, and the AICPA each provided technical comments that were incorporated into the final report where appropriate, notes the GAO. But perhaps as befits a younger organization that's still finding its sea legs, the PCAOB had no comments.

A Year Later, Executives Unimpressed with Sarbanes-Oxley
One year after the passage of the Sarbanes-Oxley Act, senior corporate executives do not seem to believe that much has changed as a result — except their personal legal vulnerability.

According to a recent survey of nearly 200 CFOs, CEOs, and other C-level executives recently conducted by law firm Foley & Lardner, 74 percent believe they are personally exposed to increased liability as a result of the act.

Respondents to the survey, however, haven't been impressed with the law's ability to clean up corporate misdeeds. Nearly 73 percent do, in fact, believe that the continued emphasis on corporate governance by regulators has been appropriate. However, nearly 60 percent believe that corporate governance reform has gone too far.

Specifically, 54 percent do not believe that Sarbanes-Oxley has made investors more confident in the integrity of their financial and other public reporting, and more than 56 percent do not believe the SEC has been effective in developing the rules mandated by the act. And fully 94 percent expect further increases in costs as a result of doing business under Sarbanes-Oxley.

When asked about the effectiveness of their board of directors one year after the passage of the act, however, 63 percent of respondents said they believe their board is equally effective — and nearly 34 percent conceded that their board is more effective.

The lack of celebration on the first anniversary of the Sarbanes-Oxley Act echoes the unfavorable opinions reported a week ago in the most recent PricewaterhouseCoopers "Management Barometer" survey.

Impath Finance Executives Resign Amid Accounting Probe
Impath Inc. said that its audit committee has launched an investigation into possible accounting irregularities involving its accounts receivable, which the company believes have been overstated.

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