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PwC’s Booz Deal Revives Specter of Enron-Era Conflicts

PricewaterhouseCoopers LLP’s acquisition of consulting firm Booz & Co., completed this week, has U.S. regulators eyeing the potential for conflicts of interest in the auditing industry -- again.

The deal, one of the biggest by a major accounting firm in recent years, has focused new light on an aggressive push by the industry into more lucrative consulting work. The Securities and Exchange Commission and the oversight board for auditors are taking note, pledging to step up their scrutiny to prevent any impact on independent audits.

“This is a problem that will not go away,” said James Doty, chairman of the Public Company Accounting Oversight Board, which was set up in the wake of the Enron Corp. accounting fraud.

It has been a little more than a decade since Enron auditor Arthur Andersen was indicted and collapsed after being accused of going easy on the energy trader’s books because of the substantial consulting fees it reaped. A rash of other scandals followed and large accounting firms, including PwC, rushed to spin off their consulting arms.

Doty said he remains concerned that companies will put pressure on auditors by enticing them to cut fees in exchange for more consulting work. The PCAOB has been discussing the issue privately with the largest accounting firms and may hold a public hearing later this year, Doty said.

Profits Paramount

Accounting firms globally have announced about 36 acquisitions of consultants since June 2012, according to one regulator’s estimate. The deals have stirred debate in Washington over whether auditors should serve investors as well as corporate clients. At the major firms, revenue growth from auditing, which spiked after Congress passed the Enron-inspired Sarbanes-Oxley Act in 2002, has slowed.

U.S. securities laws require independent audits of publicly traded companies, and accounting firms fall under SEC oversight and enforcement authority. The five-member PCAOB was created as a front-line auditing regulator by Sarbanes-Oxley, which overhauled corporate accounting rules.

The law also limited the kinds of work that firms can do for audit clients. As a result, much of the consulting done by the big accounting firms is for companies they don’t audit.

Conflicts Prevented

Such protections have helped prevent the kind of conflicts seen before Enron’s bankruptcy, said Daniel Goelzer, a former PCAOB member now at law firm Baker & McKenzie in Washington.

“It’s not clear to me personally that this is a problem,” Goelzer said.

Some longtime accounting industry observers disagree, saying it seems the firms are taking advantage of Washington regulators’ short memory to, in essence, go back to the future.

“I’ve seen this movie before,” said James Cox, a Duke University School of Law professor who has written books about accounting and securities regulation and calls the consulting trend “an accident waiting to happen.” Audit firms “wouldn’t have thought about doing this 10 years ago,” he said.

PwC, which is renaming Booz “Strategy&,” said it bought the company to obtain a deeper set of consulting services for clients and a larger presence around the world. The Booz deal adds 3,000 employees to PwC’s 184,000 employees in 157 countries.

Explaining Growth

Even before the acquisition, PwC had been in regular talks with Doty’s board and the SEC to explain its views on the growth in consulting, said Bob Moritz, U.S. chairman and senior partner at the New York-based firm.

The purchase of Booz will help PwC maintain high-quality audits by diversifying revenue, and bringing in new technology and expertise, Moritz said.

“The world has changed dramatically” since the accounting scandals in the early 2000s, he said in a telephone interview. “The obligation is on the profession to make sure that we continue to invest in the audit business and comply with Sarbanes-Oxley.”

PwC went through a painstaking review to identify conflicts between its auditing clients and the consulting firm’s business, Moritz said. In the end, it dropped a small number of audit clients and decided to forgo “significant” consulting revenue, he said.

While Moritz declined to name the clients, one of those companies, Hillshire Brands Co., said in a securities filing in February that PwC was no longer its auditor. The company cited a consulting agreement with Booz as the reason.

$32.1 Billion

PwC reported $32.1 billion in revenue last year. Less than half of that came from its assurance arm, which includes the auditing business. The firm didn’t disclose the terms of the Booz deal.

As closely held partnerships, accounting firms only provide general financial information to the public. That has also troubled some regulators.

Last month, PCAOB member Steven Harris called for firms to release audited financial statements, in part so regulators can monitor the impact of consulting fees.

In his speech, Harris said the four largest firms -- PwC, Deloitte LLP, Ernst & Young LLP and KPMG LLP -- announced 19 acquisitions of consulting businesses in the U.S. from June 2012 to November 2013, and 36 acquisitions globally. Consulting revenue was up 33 percent over the past five years for the firms, while auditing revenue increased by 6 percent, he said.

‘Diversified Lines’

“How these diversified lines of activity affect audit quality, auditor independence, conflicts of interest and investor protection is something I believe the board must carefully monitor and analyze,” Harris said.

Critics express concern that the drive to expand consulting could take the focus off delivering top-caliber audits. That could happen, for example, if consulting partners get better pay packages or firms begin to promote leaders that aren’t steeped in auditing.

The worry “is auditors not recognizing that they are auditors,” said Paul Miller, an accounting professor at University of Colorado Colorado Springs. “If they wanted to be entrepreneurs, they should have gone into a different business.”

In December, the SEC’s chief accountant Paul Beswick told an industry audience that “the public considers audit firms to be gatekeepers and not consultants.” The expansion into consulting, he said, had the potential to distract firms’ leaders from “providing the appropriate attention to their audit practice.”

Beswick didn’t propose any policy changes, saying he wanted his remarks to “encourage reflection” in the industry.

The PCAOB’s Doty said in the interview that the board’s inspectors will monitor the impact of consulting on auditor independence and will call out any problems to the firms if they see them.

The board’s options may be limited because the law only allows it to supervise a firm’s auditing.

“They are in charge of their business model,” Doty said. “We are sitting there as an umpire, a judge.”

To contact the reporters on this story: Robert Schmidt in Washington at rschmidt5@bloomberg.net; Dave Michaels in Washington at dmichaels5@bloomberg.net

To contact the editors responsible for this story: Maura Reynolds at mreynolds34@bloomberg.net Gregory Mott

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