Private equity firms have bought into some of the largest accounting firms in the world this year, with Hellman & Friedman and Valeas Capital Partners acquiring a stake in Baker Tilly and New Mountain Capital making a ‘significant growth investment’ in Grant Thornton. It has been rumoured that as many as half of the largest auditors in the US are discussing similar deals.
There are a number of reasons why private equity firms have taken a keen interest in accounting firms, with one of the strongest being predictable cash flows – even with mandatory rotation, firms can work with the same auditor for 10 years.
In addition, even relatively small private limited companies will find themselves over the threshold for external audit, so there are plenty of potential clients.
On the question of whether the acquisition of major audit firms by private equity is a troubling development given the latter’s track record of cutting costs in acquired businesses, Allan Koltin, CEO of Koltin Consulting Group (who has advised on a number of deals) says there are protections in place.
“In the US, all CPA firms with audit practices must set up a separate entity though the alternative practice structure,” he says. “This structure has been in place since non-CPA firm ownership began in the mid-1990s and there has never been an independence violation I am aware of due to the influence of any owner.”
Koltin reckons audit quality has not declined over this time and that no private equity firm has tried to cut costs and/or cheapen the audit process to date.
It is a regulatory requirement in the UK that audit practices must be majority controlled by audit-licensed CPAs. However, Liza Robbins, Chief Executive of international advisory and accountancy network Kreston Global warns it is difficult for regulators to keep up with the pace of structural change in the profession.
“While audit acquisitions may be structurally separate from other private equity financial services acquisitions, they are not immune to pressures of consolidation, lack of transparency and cost-cutting,” she says.
Robbins acknowledges there are opportunities to reduce operational costs through investment in digital transformation, which could also enable mid-sized firms struggling with significant overheads and high workload volumes to take on larger-scale audit projects. But she also notes that the promise of technology has to be realised.
Koltin is pretty relaxed about the prospect of multiple auditors being owned by the same private equity firm. In the case of New Mountain Capital – which has an ownership stake in both Citrin Cooperman and Grant Thornton – he notes the latter audits many publicly traded companies, while the former isn’t all that active in the public company space.
According to Robbins, the biggest impact on audit quality will come from consolidation more than cost-cutting and while consolidation can improve the technology available to audit providers, it also means limited choice to the market.
“Private equity firms are likely to acquire several audit firms and consolidate them under one cost centre with shared resources,” she says. “Multiple previously independent audit firms housed under one cost centre will mean a unification of structures, resources and methodologies. While a client may think they are evaluating multiple distinct offerings, it will essentially be a single choice with different branding.”
Robbins says this could translate into fewer choices available to clients and an increasingly monolithic approach to audit methodology, which runs the risk of systemic errors. “Within this lies further issues of transparency on a structural and client consideration level,” she adds. “If multiple firms are housed under one roof, are clients aware that they will be receiving the same end product?”
