The audit oligopoly
In the US, four big accounting companies dominate the market for auditing major public companies. That's according to a Government Accounting Office (GAO) report, which termed them a "tight oligopoly."
The Big Four (Ernst & Young, KPMG, Deloitte & Touche, and PricewaterhouseCoopers) constitute a significant reduction in big players from what was once the Big Eight. In the last sixteen years, a combination of mergers and the abrupt 2002 demise of Arthur Andersen (after the Enron document-shredding scandal) has transformed an oligopoly into a tight oligopoly.
After Andersen went down in flames, the general thought was that smaller accounting firms would fill in the gap in the market by growing or merging among themselves. But the reality is the opposite. Only 157 of the over 1,000 Andersen auditing clients switched their business to smaller firms, The market share for the top four companies grew from 65% to 78% between 1997 and 2002, as the four survivors divvied up much of Andersen's share.
(source: "Consolidation and Competition in Public Accounting," CPA Journal, June 2005)
Not only that, but auditing bills have grown enormously, as the Sabanes-Oxley act on financial reporting (passed in the wake of major accounting scandals) has given even more business to the top firms, as more onerous reporting rules mean more billable hours. For example, PricewaterhouseCoopers had auditing fee increases of over 140% in 2004. Because of this increased business, it is not clear whether the base fees have increased because of the market concentration or simply that there is more work to be done.
The Big Four have enormous power in selecting the clients they will do business with. Companies are anxious to have the assumed guarantee of a Big Four audit, for that can affect consumer confidence. The Big Four can demand premium prices, knowing that for any companies, going to a smaller competitor is not a desirable option.
Furthermore, the risks of auditing big companies (compounded by Sarbanes-Oxley in the US) means that bigger companies have an advantage in terms of being able and ready to stand up to litigation from shareholders or clients and in insuring themselves against penalties or court awards.
The other issue is globalization. As the top companies expand geographically in every industry, they need the services of auditing firms that are likewise global, conversant with the laws and tax policies of many countries. They have the bodies to deal with urgent deadlines. Only the big can serve the big.
One interesting change has been that the Big Four, which were big in the consulting business up until the Enron debacle, have been selling or divesting at least some of their activities in that area. The confusion between consulting services and auditing services was at the root of the Enron debacle and other recent scandals.
There's also the "too big to fail" issue. The government recently backed off a fine for Big Four firm KMPG, which created clearly illegal tax shelters for some of its clients and made many millions doing it. The Justice Department decided not to pursue major damages against the company (which will make some reparations), lest it create another Arthur Andersen-type failure. That's a signal that the big companies will now get different treatment for their sins that small firms could expect.
That point was put forth n a nice Associated Press article by Marcy Gordon, ("KPMG probes ex-partners unlawful conduct", 6/16/2005)
'In the way that "too big to fail" became an unofficial doctrine of policy toward corporations, "too concentrated to indict" has become a moniker for the accounting industry, suggested John C. Coffee, a law professor at Columbia University.
"It's a strange kind of immunity" for KPMG, he said. While the prosecutors in principle wield the club of potential indictment, the firm knows that being put in the criminal dock is unlikely and thereby gains a certain leverage in the negotiations, Coffee said.
