Former Big Four Auditor Suggests Public Firm Audits Be Truly Public

By:
Chris Gaetano
Published Date:
Dec 2, 2019
A former Big Four auditor and current accounting software CEO is suggesting in a CFO.com opinion piece that the government handle all public company audits, citing what he feels is an inherent conflict of interest in being paid by the same firm one audits. The CEO, Michael Whitmire, notes that on paper auditors are meant to be independent and objective, but in practice they are in a business that must make money to survive. This has meant auditors become hesitant to point out problems to management, and even when they do, he said he has observed leadership often caving to the client when they push back. Because making the client unhappy represents a threat to ongoing business, Whitmire argues that individual auditors risk being removed from the audit team or even fired. What's more, even if a firm does make changes after being advised by the auditor, those changes could directly impact the client's ability to pay its auditors the next time around. 

With this in mind, Whitmire argues that the government, specifically the Public Company Accounting Oversight Board (PCAOB), be the ones who examine and certify the books of public firms instead. In this respect, auditors would be more like health inspectors or IRS examiners: someone to fear. Public company auditors, under this proposal, would then become government employees, and would be incentivized to find errors by offering them bonuses for doing so. Essentially, he advocates for an adversarial, nor collaborative, system. 

While the proposal is certainly radical, he is not the first to say there is an inherent tension in having auditors' livelihoods rely upon the very same entities they audit. A study from this past summer found, in fact, that auditors being good at their jobs can have a negative, not positive, impact on their firm's reputation in the marketplace. The study, conducted by academics at the University of Arkansas, found that, on average, for every Internal Controls Material Weakness (ICMW) issued by an audit office, that office experiences 2.2 percent lower client growth and 6.1 percent lower fee growth over the next year. The more visible the client, and the more severe the ICMW, the more this average goes up, The researchers say that this is largely a reputational effect: Namely, audit clients are less likely to select a firm that they think will make them look bad, and so those that issued an ICMW have a diminished ability to attract new clients. This is in line with previous research that found that clients are more likely to switch auditors after an ICMW issuance. 

Meanwhile, a study from 2012 asserted that auditors being paid by the entities they audit impairs independence. Looking at industrial plants' compliance with local environmental regulations, the study organized auditors into two groups: in the control group, the plants directly chose and paid auditors as is typical; in the experimental group, auditors were paid from a central pool of funds versus the client. The study found that, relative to auditors assigned to treatment plants, auditors chosen by control plants are much more likely to falsely report plants as just meeting regulatory limits. And after two years of changed auditing practices, we observe fewer large polluters and, therefore, reduced pollution levels among treatment plants relative to the control group.

Click here to see more of the latest news from the NYSSCPA.