Supporters of a split point to the success of publicly traded global consultancy powerhouse Accenture, the former consulting firm of defunct audit giant Arthur Andersen. Accenture was launched in 2001 and raised nearly $1.7 billion. Arthur Andersen collapsed a year later because of his role as an auditor of the failed American energy company Enron. Accenture now has a market cap of nearly $200 billion dollars ($275 billion).
The counterpoint is that such breakups have a checkered history of success, and this time EY’s partners will break up a much larger organization in the midst of the tightest job market in more than two decades.
The consultants lose the benefit of the steady revenue stream from long-term audit contracts, while the auditors will lose the potential benefit of the volatile consulting business. All of this makes such a move one of the riskiest divorces in professional services history.
AFR weekend spoke with eight current and former big four consulting firm partners, including six from EY, who ranged from seeing the split as an inevitable step the other big companies will have to follow to believing a split will be too difficult and take too long, are feasible.
Is a split ‘inevitable’?
A serving EY partner, who is not authorized to speak about the plan, called a split between the two parts of the company “inevitable” and believes any complications in separating from the company can be resolved.
The partner says that an independent consulting firm can grow rapidly and that a self-contained global audit firm, without a conflicting consulting arm, will be an attractive service for clients, especially multinationals.
The EY partner points to Accenture when asked how much the EY consulting operation will be worth. EY’s advisory business, in its current form, provides tax, management, and deal advice and generated approximately $26 billion in revenue last fiscal year.
Accenture came in at a valuation of approximately $14 billion dollars on revenue close to $10 billion, meaning a comparable valuation would be worth approximately $50 billion to a publicly traded EY consulting firm.
But another former EY partner, David Gilmour, says the split is only inevitable if regulations become much more restrictive.
“I don’t think it would be inevitable otherwise, because there’s higher growth in the consulting side of these companies, which is why they founded them in the first place,” Gilmour says.
“This growth is not available in the audit side of the business, but all partners in the business benefit from it. So I think it’s less likely that they would take this step of their own accord.”
Gilmour is now a managing partner of boutique strategy consultancy Gilmour † Associates and was previously a partner at Boston Consulting Group and Mitchell Madison.
A senior partner at a rival big four firm agreed that a split from EY or its rival big four firms is not necessarily inevitable. There’s no compelling reason for EY’s leaders to disrupt the company’s operations by falling apart, especially given that a divorce is likely to last months, if not years, the partner says.
This partner, who declined to be identified because they are not authorized to speak about a rival publicly, suggests a major financial incentive will be needed to get EY’s 13,000 partners in more than 150 countries to agree with a split.
The rival senior partner also notes that EY is doing well. Total global revenue grew more than 7 percent in U.S. dollars to $40 billion between fiscal years 2019-20 and 2020-21.
Motivation for a divorce
Weekend AFR has been told all the big four companies have plans in place for use if forced by regulators to split. About 18 months ago, the KPMG partnership explored the split of its audit and advisory activities, but decided against the move.
Last June, PwC’s partnership restructured its dominant US operation into two: a consulting solutions company and a trust solutions company offering audit and tax services. Deloitte’s leaders also explored the possibility of splitting the company into parts, but decided against such a move.
EY’s leaders could point to an increasing regulatory crackdown on companies around the world as a reason for a split, with authorities concerned about audit quality and a perceived conflict of the company and its four major rivals providing non-audit work to audit clients.
Global regulators want to protect investors who rely on an independent auditor’s audit of a company’s financial statements to put their money into action. The conflict is that accountants have to address management about their financial figures, while advisors advise in collaboration with clients. It’s a combination that makes authorities wary.
EY’s leaders, such as the partner who spoke with AFR weekendhave informed stakeholders that a separation of consulting and auditing at the big four offices may need to be made due to stricter regulations.
I can’t help but think there will be an audit firm that is a pretty generic delivery offering.
† A consultant who asked not to be named
Multiple serving and former EY partners and employees noted how integrated the company’s operations were, with one saying that during meetings it was sometimes difficult to determine which attendees were auditing and which were consulting.
EY leaders are concerned about the suggestion that the company may want to spin off consulting from audit because of the company’s recent track record of audit quality. While the company’s Australian branch has the best audit quality of the big four, EY’s overseas branches have led to a series of high-profile audit errors.
EY was the accountant for Wirecard, a German payment processor that filed for bankruptcy in 2020 after admitting that €1.9 billion in cash probably never existed. EY also audited Luckin Coffee, a Chinese coffee chain that has filed for bankruptcy after allegations that its executives have inflated revenues, costs and expenses; and British hospital group NMC Health, which collapsed amid a suspected multi-billion dollar fraud. Last month, the administrators of NMC Health filed a $2.5 billion lawsuit against EY for negligence in working on the accounts of the British hospital group.
There are also questions about whether the company’s audit and advisory arm can thrive as separate entities. The other audit activities of EY, KPMG and PwC all performed well after selling their advisory divisions between 2000 and 2002, only to switch back to advisory services in the intervening years.
While an audit is a mandatory purchase for companies, it’s also a risky service to provide and difficult to distinguish, says an executive search consultant who specializes in finding and placing big four partners.
“I can’t help but think there’s going to be an audit firm that’s a pretty generic delivery offering,” said the consultant, who declined to be named because of the risk of upsetting his clients. “Price is the only differentiating factor. Will it have the scale to invest as a standalone? It also remains risky because of the regulations surrounding audit.”
Another factor is the skills that an advisory arm provides access to. When pitching for new audit work, the big four firms often think about how their professionals’ data skills can provide value-added clients. Experts like this will have to stay with any standalone company to ensure it can compete with its four major rivals.
Former big four partners who were part of the sale of their respective consulting firms two decades ago are hesitant about the prospects for a standalone consulting firm.
Igoe, who now heads executive search firm Wentworth Hill, was an EY partner in 2000 when the firm sold its consulting business to French IT services firm Cap Gemini (now known as Capgemini) for $11 billion dollars. According to him, the sale was marred by cultural conflicts between the American-oriented EY consultants and the French consultants of IT service provider Capgemini.
The deal also didn’t turn out to be as lucrative as EY partners had expected, as the Capgemini shares given to partners as part of the deal lost much of their value during the lock-up period, when much of it failed to sell.
Another former big four partner who spoke to AFR weekend was with PwC in 2002 when it sold its consulting business to IBM for $3.5 billion in stock and cash. That sale also suffered from a culture clash between more business-focused PwC consultants and technology-focused IBM professionals.
An article by The Australian Financial Review in 2004 describes the culture shock that the PwC consultants experienced in their collaboration with their IBM colleagues. The PwC consultants were “used to the tenuous atmosphere of the boardroom” but found themselves “rubbing shoulders with people thrashing IT boxes”.
The former partner says many senior IBM professionals in Australia left when they lost leadership positions to former PwC advisers within the combined group. Many PwC partners also fled the company within a few years of the merger.
Then there is BearingPoint. In 2001, KPMG launched its US consulting business as BearingPoint, while the company’s UK and Dutch consulting business was sold to French IT services firm Atos for €657 million. By 2009, BearingPoint had filed for Chapter 11 bankruptcy protection.
While the goal of EY’s consulting business is to become the next Accenture, there are key differences between Accenture in 2001 and EY today. Accenture had already separated from its parent company, Arthur Andersen, when it was listed, doing outsourcing work for clients.
Outsourcing, also known as managed services, is when a company performs part of an operation, such as human resources or finance, for a customer. The long-term contracts, which are almost like a joint venture, mimic the stability of audit fees, but without the regulation. The arrangements are difficult for a ‘big four’ firm like EY to enter into because of potential conflicts of control.
Accenture as a standalone operation has no such limitations. Nearly half of the company’s revenue of more than $50 billion last year came from outsourcing. It’s the benefits of these kinds of opportunities that partly explain why EY consulting partners could be so excited about separating from their audit colleagues.