Inside EY’s break-up plan: why it could radically reshape the Big Four
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When EY’s global chief Carmine Di Sibio boarded the accounting firm’s private jet out of Davos in the early hours of Thursday morning, the Italian-American executive had already embarked on a more daring journey.
Sitting aboard EY One, as the Bombardier jet is known within the accounting firm, the auditor was steering a plan to break up the Big Four group that would reshape the oligopoly that has dominated professional services since their rival Arthur Andersen was brought down in 2002 by the collapse of US energy group Enron.
Di Sibio and his most senior colleagues are weighing a historic separation of EY’s audit and advisory businesses after years of criticism over perceived conflicts of interest between the two. Auditors are tasked with holding companies’ management to account and resisting pressure to sign off on numbers without proper evidence while their advisory colleagues prefer to keep clients sweet to generate fees in areas such as tax, deals and consulting.
“It surprises me that it’s taken this long,” says Fiona Czerniawska, chief executive of consulting sector analyst Source Global Research. “It’s becoming increasingly difficult for any accounting firm to offer a multidisciplinary service, which includes audit . . . I imagine that every other firm is looking into [restructuring] too. ”
Rationale for a break-up
For Big Four advisory practices, restrictions on working for audit clients are a drag on growth while investments in audit improvement have sapped capital investment from their consulting businesses.
“Most non-auditors would love to be free from the independence restrictions on what work we can do,” says one EY partner not involved in the restructuring planning.
Selling advice on digital consulting and M&A has helped drive the Big Four’s revenues to record levels but their advisory arms face competitors that are not constrained by audit conflicts. Accenture, which became independent from auditor Arthur Andersen in 2000, reported revenues of $51bn last year, almost double EY’s advisory sales.
Despite tightening the sale of advice to audit clients the Big Four still face questions over the quality of their audits.
“We feel we’ve been investing in audit quality but it still feels like we’re in the same place,” says a person with direct knowledge of EY’s plans.
A second factor, says the person, is that conflicts have become harder to manage as the Big Four push into multiyear managed service contracts for large corporate groups, which they deliver in tandem with tech companies through contractual alliances.
Auditing a tech provider, or even a private equity fund that invests in it, can throw up fresh conflicts and stifle the consulting arm’s growth in the rapidly expanding digital consulting market.
A partner at another Big Four firm says the problem is more pressing for EY because it dominates the Silicon Valley audit market, checking the accounts of Amazon, Google, Oracle, Salesforce and Workday.
Under the plans being drawn up by EY, its business would be split into an audit-focused partnership and a separately owned advisory operation encompassing most of its consulting and deals advice teams. The options under review include a public listing or the sale of a stake in the advisory business, with Goldman Sachs and JPMorgan advising the 312,000-person firm, according to people familiar with the matter.
The audit business, which would remain as a partnership, retained the EY brand when the firm sold its consulting practice to Cap Gemini for $11bn in 2000 before rebuilding it from scratch. It has not been decided which business would keep the EY brand this time, says the person with knowledge of the plans.
In recent years, the Big Four have opposed a repeat of the break-ups that took place two decades ago, but they have carried out contingency planning in case regulators were to force them to do so, according to senior accountants and consultants.
PwC considered options including an IPO of part of its business in 2019 but decided not to pursue a split partly because of the cost and complexity, says a person with knowledge of its planning.
PwC and Deloitte said on Friday they were committed to keeping their audit and advisory practices while KPMG stopped short of doing so, saying a multidisciplinary model “brings a range of benefits”.
Break-ups would give clients a wider choice of advisers and auditors, by reducing the risk of conflicts of interest but there is debate about whether big clients want this.
“I don’t believe the market wants a pure player,” says a senior auditor at a midsized firm. But a partner at a different mid-tier firm thinks the rest of the Big Four will follow EY’s lead. “This will trigger a series of events, whereby all professional services firms will urgently reconsider and evaluate their structures,” he says.
Selling the split
For Di Sibio and EY’s global leaders the decision on whether to recommend a split to the firm’s nearly 13,000 partners in the coming weeks will rest not just on the attraction of a break-up but on which forms of restructuring are deliverable.
“You can see the strategic wins but they’re not necessarily practically achievable,” says the person with knowledge of EY’s planning. “That’s what we’re trying to work out because if it doesn’t work, we won’t do it.”
A break-up would require approval from hundreds of regulators globally and would take years, say partners at other firms.
The more immediate challenge would be to win backing in a vote by EY partners in different business lines and countries, whose interests will be hard to align.
Partners at other accounting groups say key battle grounds would include the relative valuations of the audit and advisory businesses, whether audit partners believe their income would fall after splitting from the more profitable advisory practice and who would take on liability for lawsuits arising from EY’s alleged failure to raise red flags on frauds at Wirecard in Germany and NMC Health in the UK.
Liabilities arising from the Wirecard audits and other legal claims were not a driver for the planning, says the person with knowledge of the talks.
Auditors question whether a standalone audit business would be viable and could compete for recruits without the promise of varied career options.
The newly autonomous audit arm would retain experts in other disciplines to help with audit work, say people briefed on EY’s planning.
In the meantime, there is a risk of instability. In a note to staff on Friday, Di Sibio said talk of an overhaul “may be distracting” but asked them to stay focused.
“They’ve painted a great big target on their backs,” says a senior partner at a rival firm, who predicted any decision to split would encourage competitors to swoop for EY partners who fear a raw deal in the carve-up.
“[We] are going to go and try and find every single decent partner that they’ve got who is necessarily unhappy with the process over the next 12 months and try and steal them,” he says.
There will be “a bit of limbo” until details are thrashed out but after that, EY’s pitch to recruits will be clear, says the person with knowledge of its plans.
An IPO would be more difficult to pull off than the sale of a stake to a private equity investor, say partners at several firms. A public listing would be “probably the most complicated deal in history but if the money is big enough, maybe [they can do it],” says a former Big Four partner.
“I can’t see an IPO. This is very attractive to private equity,” says a UK partner at another firm.
Private equity firms funded buyouts of KPMG and Deloitte’s UK insolvency and restructuring practices last year while Clayton, Dubilier & Rice paid $2.2bn for PwC’s global mobility services business in a deal struck in October.
A sale by EY could lead to further activity emulating the big accounting firms’ sell-off of their consulting businesses more than two decades ago. The deals included PwC’s disposal of its consulting division to IBM. KPMG’s consultants were split between Bearing Point and Atos while EY sold to Cap Gemini.
The only holdout was Deloitte, which continued to expand its consulting enterprise. The rest of the Big Four rebuilt their advisory arms but never managed to catch up.
But Czerniawska believes there can be a first-mover advantage for EY this time around.
“Do you really want to be the last firm to do this or would you prefer to be at the front seizing the initiative?” she says.
“If I was running [a firm] I would want to be on the front foot and in some way shaping the agenda in which future changes take place, not waiting to have to react.”