Coming: Auditor Cataclysm?

Industry watchers are predicting a massive shake-out in the accounting business over the next few years. This may not be great news for CFOs.

In the wake of the year’s many accounting scandals, CFOs at some publicly traded companies have been seeking auditors from outside the shrinking ranks of the top-tier accounting firms. But finance chiefs may soon find that the ranks of non-Big Four firms is thinning as well — thanks to the very reforms that are supposed to restore confidence in the auditing profession.

Lee Graul, director of the SEC practice for BDO Seidman in Chicago, says he attended an American Institute of Certified Public Accountants (AICPA) meeting in early August where the participants concluded that their ranks would contract by as much as two-thirds in the next few years. Such a consolidation would bring the number of members in the AICPA’s SEC Practice Section from 1,200 to around 400.

Graul says the sentiment at the group’s August meeting was that the cost of insurance and regulatory compliance will prove too great for the bulk of these audit firms. “The expectation is that the Public Company Accounting Oversight Board will be much more aggressive than the SEC has been in regulating auditors,” says Graul. “You will see firms drummed out of the business.”

Even accountancies that don’t run afoul of the board, created by Sarbanes-Oxley, won’t want to bother with the heightened cost of compliance. Asserts Graul, “They won’t want the cost of insurance.”

Observers say auditing firms have yet to feel the true impact of the new wave of accounting laws and regulations. But according to Ray Ball, an accounting professor with the Graduate School of Business at the University of Chicago, complying with the new industry requirements has “raised the cost of being in business.”

Ball says that auditors will “need an internal staff to ensure compliance, the cost of which will not be totally proportional to the number of clients a firm has.” Small accountancies that can’t distribute their fixed costs across a long list of customers will see per-client expenses go up dramatically. Big Four firms, on the other hand, should be able to parse the increased costs over their huge roster of multinational corporates.

“The smaller firms will either drop out of serving public clients, or they will merge into larger companies who will incur the costs,” predicts Ball.

Regional firms will likely find themselves squeezed on another front as well. The economic downturn could drive a host of smaller, entrepreneur-driven companies out of business. And those are exactly the type of clients that second-tier and regional accountancies cater to.

“Quite honestly, the degree of regulation has really caught people by surprise,” notes Dana Hermanson, professor of accounting and director of research at the Corporate Governance Center for Kennesaw State University’s Michael J. Coles College of Business. “This has all been in just the last three months.”

Raise High the Roof Beam, Auditor

None of this is real great news for CFOs, who work more closely with independent auditors than does any other officer in the executive suite. Hermanson expects that 2003 and 2004 will be a period of tremendous turmoil as many auditors — and clients — grasp the impact of the new regulatory regime.


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