Checking in on auditor conflicts of interest

I recently referred to COIs in the financial services field as a never ending story, and the same  might be said of COIs in the accounting field.   But accounting conflicts are different than most financial service ones because, as described by the Supreme Court,  “the independent auditor assumes a public responsibility transcending any employment relationship with the client.”  Public accounting  involves gatekeeper duties, which the COI Blog has previously discussed in other professional contexts,  and in today’s post we look at a few recent stories of note in this ever-noteworthy area.

First, an article published last week in the Wall Street Journal  – “Eyebrows Go Up as Auditors Branch Out”  – noted that the UK unit of Deloitte LLP not only performed audit work for Autonomy Corp. – which was acquired by HP and now stands accused by its new owner of accounting fraud – but also received substantial fees for other work from Autonomy.   More generally, the story notes: “Nonaudit businesses form a steadily increasing portion of Deloitte’s business, with 39.6% of revenue now coming from consulting or financial advisory, up nearly a third since 2006.  The rise in Deloitte’s nonaudit revenue spotlights a recent resurgence in consulting and other nonaudit work by the Big Four accounting firms, a decade after conflict-of-interest concerns and corporate scandal sharply limited such work… the move has revived fears that an increased focus on nonaudit work compromises companies’ capacity to sniff out fraud. ‘If firms become too preoccupied with consulting, I think it hurts the authenticity of the audit,’ said former Federal Reserve Chairman Paul Volcker in an interview.” (Note that what Volker is describing here is less a true conflict than what might be considered a professional tension.”)

Also last week, the Australian Securities & Investment Commission published a report which found that a decline in the quality of audits reviewed compared to its immediately prior review.  As noted by one business columnist in Sydney : “The real or perceived conflict is that auditors get paid by the company that they have been hired to independently audit. It is a flawed system because it puts auditors in the invidious position of being torn between getting paid by retaining the audit job – which is code for keeping the client happy – and suffering the ignominy of being sued for complacency if a company blows up…”

Still, the “client-pay” system has been with us for a long time, and it is hard to imagine it ever being completely  replaced.  But there are other ways to strengthen auditor independence, and doing so is indeed one of the purposes that, pursuant to the Sarbanes-Oxley Act, the Public Company Accounting Oversight Board was established.  The Board is currently evaluating a wide range of ideas and information regarding possible auditor rotation requirements, and for those interested in learning more about this (obviously complex) topic I recommend this recent post on the Harvard Law School Forum on Corporate Governance and Financial Regulation  by one of  the Board’s members, Jeanette M. Franzel.