I wrote last week about the credibility of auditing, or the lack of it. As if on cue to prove my point on independence the FT reports this morning:
KPMG, the giant professional services company, will on Monday launch its first investment fund as it branches out into other areas in a sign of the big changes afoot in the financial services industry.
The move is significant as the fund will invest in data and analytics businesses, which are increasingly popular with investors as technology is considered a growth area that should benefit from economic recovery.
The group, one of the big four professional services companies employing 152,000 people around the world in 156 countries and with combined revenues of $23bn, is creating KPMG Capital, a new wholly owned fund.
There's a simple question to ask. How can KPMG be both an auditor and investment fund manager without major conflicts of interest arising? I just do not see how that is possible. In which case I think it's fair to question why they have an audit licence.
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With no economics background my opinions are purely gut-based. It appears to me that allowing auditors to offer additional services to clients sets up an authomatic inherent conflict of interest as presumably rigorous audit unlikely to please client and lead to more commissions. The recent KPMG report on the wider economic benefits of HS2 appears to be a bespoke opinion to suit client. Following its publication it has been thoroughly demolished by experts giving evidence to the Treasury Select Committee who find KPMG statistical acrobatics to be ‘essentially made up’Professor Henry Overman) Omitting to publish any negative findings that do not support the desired opinion is to many plain distortion of facts. Together with their discalimer of any liability what possible credibility can they have. But how can this be stopped?
A quick answer is: Chinese Walls.
Formal Chinese Walls may not even be necessary because in a massive group like KPMG the small investment team may never even know the identity of the audit partner for a company in which they consider investing, let alone meet him/her.
If they do set up formal processes then the KPMG team is likely to be handicapped and underperform as a result.
If they cheated they would get marginally better advice on only 10% of companies, not enough to m,ake a fortune.
I should avoid their investment division, rather than moan about their audit licence.
Gamekeeper turned poacher?
Max Keiser made the same point recently, highlighting several instances where the conflict of interest have already shown up with this new development. He also made a prediction that the ‘big four’ would become the ‘big three’.
Isn’t it odd how, ‘while choice’ and competition is forced on our National institutions, the hegemony that control the free market move in the opposite direction?
I do not understand how Chinese walls could be a solution since I thought an audit firm cannot invest in audit clients regardless of any Chinese walls. Also, within any big 4 firm, there should be systems to find out the name of the audit partner relatively easily. Although the KPMG vehicle is described as an investment fund, I suspect a lot of the investment is meant for developing technology solutions internally that can be used by clients rather than taking stakes in companies although the reports suggests some joint ventures.
They won’t audit anything the invest in. Simple
After Sarbanes-Oxley and so on, they will have systems allowing staff to identify audit clients, as they are required to ensure that any work done in relation to one of them is notified to the audit partner so potential conflicts of interest can be identified and avoided.
It would therefore be trivial to ensure that no audit clients are invested in, or that any investments are disposed of if a company is to become an audit client.