About auditors, charters, and radical transformation
Of all the nonsensical policies South Africans have adopted over time, BEE scorecards must be regarded as the most embarrassing of them all – and no industry is better at exploiting this than the auditing profession.
By: Khaya S Sithole
A few years ago, in January 2007, the Organisation for Economic Cooperation and Development released its regular ‘Policy Brief’ newsletter with ‘Competition and Barriers to Entry’ as the main topic. In its introduction, the Policy Brief stated the following – ‘Before a firm can compete in a market, it has to be able to enter it.’ In addition, the brief articulated that the conditions that constitute entry barriers can be structural and strategic. Structural barriers relate to the industry conditions such as cost and demand rather than tactical actions taken by incumbent firms. Strategic barriers on the other hand, are intentionally created by insider firms – mainly for the purposes of preventing new entrants from participating in the market.
Precisely 10 years after this series of events, a gentleman called Jacob Gedleyihlekisa Zuma stood on a platform in FNB Stadium and pronounced something called radical economic transformation. From the moment he said it, we all knew that he had absolutely no idea what he was talking about. And perhaps there is nothing wrong with that. Given the ANC’s hostility towards any form of intellectual engagement, perhaps the last thing we needed was the President actually defining any framework for economic transformation. So because he didn’t, we all have the opportunity to create a conceptual framework for the long-overdue conversations about the fragility of the economic system we have.
Soon after this announcement, the auditing profession found itself at the mercy of the Parliamentary process when it had to explain its opposition to mandatory audit firm rotation as proposed by the Independent Regulatory Board for Auditors (IRBA). In essence, the auditing industry is made up of 2 parallel societies – the big 4 auditing firms and everyone else. Within this industry, the big 4 auditing firms own 95% of the most lucrative revenue source, the audits of listed companies. Within that framework, a scary fact is that of the 350 audit partners that do sign off on these audits, just 9 of them are black people. In simple terms, this profession suffers from high levels of market concentration and no transformation.
The obvious thing would then be for the regulator to pursue avenues aimed at breaking down market concentration and enforcing transformation within the profession. However, that is not where it ends.
The fundamental pillar of the auditing profession is that auditors are essentially outsiders who are engaged to provide a review of what the insiders (management) have done and then provide assurance to the shareholders that all is well – or not. In pursuance of this objective, the most important issue is that the auditors are actually appointed by the shareholders to oversee management. Shareholders achieve this through appointing an audit committee whose terms of reference include the need to appoint auditors on an annual basis. The reason independence is so crucial is that there ought to be some objectivity in the process, and once this is compromised the risk that management can get away with shenanigans is elevated.
And there is no greater exhibit of this phenomenon than the demise of the firm that used to make up the Big 5 of the auditing profession – Arthur Andersen. This firm collapsed due to its bizarre and unacceptably intimate relationship with the management of its client – Enron. Once Enron and Arthur Andersen collapsed, the crumbs of the failed audit firm were picked up by PriceWaterhouseCoopers (PwC), which should probably be commended for cramming in the largest number of letters into its name. But, I digress.
“The crumbs of the failed audit firm were picked up by PriceWaterhouseCoopers (PwC), which should probably be commended for cramming in the largest number of letters into its name. But, I digress”
The obvious reality that the big 4 firms are the incumbents who collectively have a monopoly on the marketplace. So the fact that they were always going to oppose mandatory audit firm rotation is patently obvious. But it was in how their opposition was crafted where I realised just how intellectually bankrupt the big 4 auditing firms are. The attack on the IRBA has been launched on all 3 pillars of IRBA’s proposal – speeding up transformation, reinforcing independence and breaking up market concentration.
The firms argue that they have already mastered transformation and that there is no problem with independence in the auditing profession. But if there is something the big 4 have mastered in this country, it is the exploitation of the BEE loopholes and the glorified capture of the audit committees. For example, the most prominent of the big 4 – PwC – enjoys something called a Level 1 BEE rating. And that is a nice thing for PwC. But you must remember that of all the nonsensical policies South Africans have adopted over time, BEE scorecards must be regarded as the most embarrassing of them all.
“Of all the nonsensical policies South Africans have adopted over time, BEE scorecards must be regarded as the most embarrassing of them all”
The very idea of a Level 1 BEE scorecard implies that the firm is quite advanced in the transformation debate. But the reality is that PwC has managed to navigate its way through the rules and achieve a rating that doesn’t match its actual circumstances.
What is particularly interesting, however, is that PwC is kind enough to tell us the racial profile of its workforce, and we are grateful for this. So thanks to PwC’s numbers we are now aware that of its workforce of 4,839 – there are 1,210 white women and 1 226 white men. In other words, over 50% of PwC’s workforce is white. In addition, African black employees make up 23% of its workforce (1,125). And then it gets more interesting. PwC classifies senior management as those who are senior managers, associate directors, directors and partners.
In this case – 907 employees (19%) are in this category. The important thing about this category is that due to the seniority of the roles, these are the people that are making the money. In PwC’s case, of the 907 money makers; exactly 44 of the 907 ‘seniors’ are black people. That is 4,8%. Just 1% of PwC’s entire workforce is made up of black money makers. When it gets to the money makers who are also the decision makers – executive management of course – it appears that PwC has an executive team of 20 people in total. And 6 of them are black. So a firm that has just 50 people in its top 927 highest-paying posts is rated as a Level 1 contributor for BEE purposes. If you can find another example of how stupid this ratings process is, please let me know.
So in explaining their opposition to audit rotation, the auditing profession said that transformation is already happening anyway and the regulator has no right to intervene. In order to strengthen their argument, the big 4 signed up a few groups of eager cheerleaders – South African Institute of Chartered Accountants (SAICA), something called the CFO Forum and bizarrely enough, the Association for the Advancement of Black Accountants of Southern Africa (ABASA), another entity that needs to work on its name and perhaps its identity. Anyway, each of the cheerleaders presented a spirited and not altogether intellectually sound argument against rotation in Parliament. Which was quite funny to watch.
Curiously, by the time the public hearings happened in Parliament, the profession was sitting with an abandoned transformation charter that had been stalled by the big 4’s insistence on bullying the smaller firms. Surprisingly, having failed for a couple of years to reach an agreement, the profession suddenly found a way to sign a charter a few weeks ago just before what they thought would be another round of hearings in Parliament.
Secondly, SAICA has a strange sense of conflict in these matters. As a members-only club (which refuses to pay income tax) whose primary custodians are the same audit firms we are trying to regulate, there is something profoundly awkward about SAICA inserting itself into the epicenter of the conversation. IRBA is not trying to regulate SAICA but trying to issue rules of engagement that will govern how audit firms operate in the market. So how SAICA have worked out that theirs is the most important voice in the debate is a great mystery. But if you look closer at the relationship between the big 4 and SAICA you might understand why.
Never mind that SAICA’s financial sustainability depends on its incestuous relationship with the big 4 firms, there is something remarkably shocking about how the institute treats human beings and firms outside the big 4 cartel. As the custodians of the professional exams which everyone has to suffer through in order to be an accountant and then a registered auditor, SAICA has a massive influence on the academic programmes of every university. SAICA operates an incentive scheme that serves to ‘encourage’ universities to serve as extensions of itself rather than operate with a sense of autonomy that all academic institutions need to protect. Universities that do not meet the criteria set by SAICA for this incentive scheme tend to suffer financial consequences. Naturally, its most important committee – the exams committee – is dominated by a class of human beings who share one common feature – white with big 4 credentials. But that is not where the problem lies.
“Never mind that SAICA’s financial sustainability depends on its incestuous relationship with the big 4 firms”
SAICA is the only professional institute in the world that happily victimises its own members. Chartered accountants all qualify by attending institutions accredited by SAICA and then writing exams set by SAICA. Those candidates then serve articles at firms that have been accredited by – you guessed it – SAICA, which then prescribes the competencies that such candidates need to be exposed to. Once such candidates have suffered through all of this they become members of SAICA. So you would think that anyone who is a CA has been subjected to the same training guidelines and the same exams so they should be regarded as equally competent, right? And you would be wrong.
SAICA publishes a monthly magazine called Accountancy SA which has space for advertisers to market jobs. In these pages, the most scandalous thing you will see is that some adverts say that they want CAs with big 4 experience. In other words, adverts are explicitly saying that they think the quality of the CAs produced by the big 4 is different to the quality of the CAs produced by the other firms. Now given the fact that SAICA says it runs the process for all firms and trainees, how does it then promote – in its own magazine of all places – adverts that clearly demonstrate that not all CAs are regarded as equal? SAICA bravely charges all its members the same fee – only to plough such fees into publishing a magazine that undermines every other person who is not affiliated with the big 4 cartel. The discrimination against those who are not in the big 4 starts on day 1 of articles and never seems to end. Where on earth is the logic in this?
“The discrimination against those who are not in the big 4 starts on day 1 of articles and never seems to end”
The problem with these practices is that they feed into the bigger picture. The companies that tend to have big 4 auditors are the ones that are likely to say that they want to hire people with big 4 articles. This creates a structured pipeline where the people who are granted higher levels of access into the good jobs are from the big 4. Everyone else has to fight for the remaining posts. Over time, such individuals become CFOs of these entities and – presumably – might then join something called the CFO Forum.
For the record, the CFO Forum is not really a thing. It is essentially a group of CFOs whose common traits are that they are remarkably well paid, very white and more importantly, tend to come from the big 4 firms. What these CFOs then do is that they presumably meet up for snacks once in a while and debate on matters of national importance.
Their leader – Christine Ramon – is the most vocal opponent against rotation. In her mind, there is absolutely nothing wrong with the long relationships the big 4 have with listed entities. The first thing to highlight of course is that Christine Ramon should be commended for being the leader of the CFO brigade, but her hysteria serves to highlight the very essence of the problem.
Auditors are hired by shareholders to oversee management. CFOs form part of management. There is no requirement for management to decide that shareholders must appoint auditors that management likes. The idea that CFOs should even be screaming about this is a lot of glorified nonsense. In simple terms, bayaphapha.
It is also bizarre that in her pronouncements, Christine Ramon says that audit rotation will cost the companies R10-billion to implement. But Christine is an interesting human being to be saying this. Her three most prominent professional roles have been at PwC (surely you could have guessed that); Sasol and now at AngloGold Ashanti. Except for her short-lived stint as Cyril Ramaphosa’s pick at Johnnic, Christine as a CFO has a tendency of holding on to her auditors. When she was at Sasol, a big 4 firm held the audit.
That firm was changed – but not because Christine advocated for such a thing (read about Colin Beggs later). At AngloGold Ashanti where she currently earns her moola, EY have been the auditors for 72 years. So the idea that it might cost R10-billion to implement audit rotation might turn out to be true – but I seriously doubt that Christine Ramon would be the one that knows about it.
It is possible that Christine’s militant opposition to audit firm rotation is because she really wants to protect shareholders and save them R10-billion. If this is the case, we must applaud Christine for having found her Damascus moment. Four years ago, when Christine was still at Sasol, something bizarre happened. On May 14, Christine sold her Sasol shares for R33-million. And then – in August 2013, just 2 weeks before the release of the annual results, she abruptly resigned with zero warning to the shareholders. Sasol shareholders are still waiting for an explanation of what happened that week. This week Christine stated that Malusi Gigaba’s decision is a disaster for the relationship between business and government. Now given the fact that Christine had no problems pissing off stakeholders before, I can assure that Malusi will do quite well without being in Christine’s Christmas gift list – just like the shareholders of Sasol and Johnnic.
More importantly, what people like Christine and her brigade are highlighting here is what some of us have suspected for a long time. In the South African context, shareholders and the audit committees do not actually perform their duty of appointing auditors. They have essentially abandoned this duty to management which is the classic conflict of interest. It makes no sense for management to decide who the auditors should be. And someone needs to remind Christine about this.
“It makes no sense for management to decide who the auditors should be”
They say they are independent – actually they are not
The essence of the objection to the rotation idea is that there is no problem with independence in the industry. In addition, the firms allege that even if such a problem existed, rotation is not the best way to solve it. IRBA on the other hand, contends that the long-nature of relations between the big 4 and their listed clients means that independence disappeared long ago.
A summary of the most prominent long-standing relationships is as follows –
Murray and Roberts have a 114-year relationship with Deloitte. The latest audit fee was R34-million.
Naspers has a 102-year relationship with PwC. Latest audit fee was R135-million.
Barloworld has a 98-year relationship with Deloitte. Latest audit fee was R61-million.
Santam has an 87-year relationship with PwC. Latest audit fee was R19-million.
Woolworths has an 84-year relationship with EY. Latest audit fee was R24-million.
Sappi has an 80-year relationship with Deloitte. Latest audit fee was R63-million.
AngloGold has a 72-year relationship with EY. Latest audit fee was R92-million.
It should be reinforced that auditor independence requires the perception of independence to be maintained. Auditors need to be seen and perceived to be independent of their clients. In instances of long-term relationships approaching 100 years it is difficult to motivate that such relationships remain sufficiently independent. Even if the firms and the clients may think so; the objective test for independence is probably not a test that should be determined by the affected parties due to the inherent bias.
Once the firms alleged in Parliament that they are independent I conducted an independent analysis of the shenanigans that go on in these firms. For this purpose, I simply checked who the CFOs of these entities are. These all form part of Christine’s boy band – the CFO Forum. And – as expected – the answers were scandalous.
Daniel Grobler is the CFO of Murray and Roberts. He is from Deloitte.
Basil Sgourdos is the CFO of Naspers. He is from PwC.
Barloworld’s CFO is from Deloitte.
Hennie Nel from Santam is from PwC.
Reeza Isaacs from Woolworths is from EY.
Christine Ramon from AngloGold Ashanti is from PwC. She also heads up the CFO Forum.
Jason Quinn of ABSA is from EY. And so it goes on.
In other words your chances of ever making it to the highest levels in this profession disappear as soon as you fail to serve your time in the big 4. And it all starts with that advert in SAICA’s own magazine that says ‘big 4 articles only’.
“Your chances of ever making it to the highest levels in this profession disappear as soon as you fail to serve your time in the big 4”
But the scandal of this lack of independence is more shocking within the banking sector. All the big banks have joint-audits. In other words, each bank has 2 auditors from the big 4 stable. The status of the top banks is as follows –
ABSA has been with PwC for 11 years and EY for 24 years.
FirstRand has decided not to disclose how long it has been audited by Deloitte and PwC.
Standard Bank has been with KPMG and PwC for 53 years.
Nedbank has been with Deloitte and KPMG for the past 43 years.
What is disturbing about the relationships between the banks and the auditors is how they all seem to operate a merry-go-round system that destroys all perceptions of independence. Because long before the Guptas embarked on their clumsy attempts at state capture, the auditing firms launched a most vicious attack on the boards and audit committees of listed companies.
In the case of ABSA; the chairman of the audit committee – Colin Beggs – is a former CEO of PwC, the audit firm that has audited ABSA for the past 11 years. In fact, Mr Beggs retired from PwC in 2009 and immediately joined the board of ABSA in 2010. In other words, Mr Beggs was the CEO of PwC when the bank was one of the biggest sources of revenue for the firm. In addition to the ABSA board duties, Mr Beggs serves as the chairperson of the audit committee of Sasol. He joined Sasol precisely 8 days after he retired as the CEO of PwC. When he joined the board of Sasol, KPMG were the auditors and Christine Ramon (a former PwC employee) was the CFO. But as soon as Colin Beggs was in the building, PwC were brought in to perform services for Sasol even though shareholders had already approved the appointment of KPMG as auditors years before.
Over time – KPMG was eventually removed as auditors and replaced by – and this is not funny – PwC. And yes, Colin Beggs oversaw this entire process.
In the case of FirstRand; the chair of its audit committee – Mr Grant Gelink – was the CEO of the same firm (Deloitte) that audited FirstRand throughout the period of his leadership of the firm. As soon as he retired from the firm – Deloitte – he joined the board of his former client which still maintained a relationship with the firm. Mr Gelink shares a similarly problematic relationship with Grindrod. It was a client of Deloitte when he was the CEO of Deloitte. And he joined Grindrod as a board member as soon as he retired from Deloitte. In all of Mr Grant Gelink’s declared board positions – the auditing firm is from the big 4.
But perhaps no exhibit of impaired auditor-client independence can match the relationship between Deloitte and Nedbank.
Deloitte has audited Nedbank for the past 43 years. During that time, Mr Vassi Naidoo served as the CEO of Deloitte before Mr Grant Gelink. After his retirement, Mr Naidoo was elevated to the board of Nedbank as the chairperson. As it stands, he serves as the chairperson of Nedbank. Deloitte remains the auditors of Nedbank. Mr Naidoo is on record (in Accountancy SA obviously) as referring to Mike Brown – the current CEO of Nedbank – as one of his protégés. It would all be easy to digest except for one problem.
Mr Naidoo has 2 family members who are also in the auditing industry. Both work for Deloitte and one is a partner at the same audit firm that has Nedbank as a major client. From the annual reports of Nedbank, there does not appear to be any indication that the shareholders of Nedbank are made aware that whenever the chairman of the board proposes that Deloitte be retained as auditors; he is actually advocating for a firm in which his own family members have an economic interest.
Standard Bank’s audit committee is chaired by the former Chief Operating Officer of Deloitte. Alongside him sits John Vice – whose CV highlights that he spent a remarkable 39 years at KPMG – the auditors of Standard Bank for the past 53 years.
The reality of such relationships is that they serve as exhibits of impaired independence. They also would be impossible to break in an environment where such audits never go for tender. This is simply because shareholders do not essentially participate in the appointment of auditors but rather participate in the ratification of the appointed auditors. In the case of ABSA, the chair of the audit committee responsible for recommending the retention of PwC to the shareholders is a man who used to be the CEO of PwC. The same problem exists at FirstRand and Grindrod where Mr Grant Gelink serves as the chair of the Audit Committee which essentially recommends the retention of his previous firm – Deloitte as the auditors of Grindrod and FirstRand. Nedbank has the same issue but probably at a more concerning level given the existence of family bonds between the chairperson and individuals who are employed by the audit firm.
“In the case of ABSA, the chair of the audit committee responsible for recommending the retention of PwC to the shareholders is a man who used to be the CEO of PwC”
The worst thing is that even though we all know that CFOs actually make the choice and get the audit committee to go along with it; the situation would not be much better if these audit committees actually grew some balls. Because wherever you look, the audit committees are all captured and are run by former members of the big 4. Do you actually imagine that these old boys would ever sit around in an audit committee and advocate for a black, indigenous South African audit firm to be given the audit? Has anyone noticed that the only CA who serves as a CFO in the top companies from the JSE who is not from the big 4 is Raisibe Morathi at Nedbank?
“Has anyone noticed that the only CA who serves as a CFO in the top companies from the JSE who is not from the big 4 is Raisibe Morathi at Nedbank?”
To then pretend that independence is not an issue in the industry is as you can see, absolute nonsense.
How to fix this mess
You would think that the problems in the profession are impossible to resolve – but that is really a function of who you talk to and what they represent. The implementation of mandatory audit firm rotation has the capacity to address the 3 key issues regarding market concentration, transformation and independence. At the heart of what has to be done is the reinforcement of the shareholders and audit committees as the only bodies allowed to appoint auditors. Once the CFOs remember their rightful place in the hierarchy, then Christine Ramon and her boy band might remember that they are employed to work with the auditors appointed by shareholders – and their involvement is not fundamental to this process.
As part of reestablishing the audit committees and the shareholders as the right stakeholders in this conversation, the most appropriate way forward is the overhaul of the procurement process relating to the appointment of auditors.
Essentially it must be a two-step process. In the first step, audit firms must be required to tender for the job with the essence of transformation at the heart of the process. In other words, only firms that buy into the essence of true transformation can proceed to the second stage. In this case, it is important to explain to PwC that the question of ‘economic interest’ in the hands of black professionals – rather than their bizarre BEE scorecard – will be the criteria.
The CA Charter that was signed weeks ago states that the audit firms need to be at 32,5% black ownership in 2027. That is, 33 years after democracy we are expected to be satisfied with 33% ownership in this key economic sector. By the charter’s own unambitious standards, we need to wait for over 80 years for its ownership patters to reflect the demographics of the country.
Surprisingly, ABASA signed up for this. But this should not surprise you. There is probably nothing more embarrassing than a 32-year old black organisation, whose members are all earning high salaries but still cannot afford to pay rent for the organisation. ABASA’s inability to sustain itself means that it has to share accommodation with SAICA and we shouldn’t be surprised when they oppose audit rotation – rent can be very expensive in Sandton guys, very expensive.
The audit firm rotation rule comes into effect on 1 April 2023. That is 6 years from now. Once the rule is in place, no audit firm will hold an engagement for more than 10 consecutive years. I disagree with this. Seven years sounds more appropriate.
Anyway, those of us who care deeply about the structural flaws in the economy are already making submissions on how we will avoid the firms simply rotating the clients amongst themselves – I am not worried about the fact that the big 4 thinks they know better. Malusi Gigaba will be the first to see sight of the implementation guideline. It would serve him well to take it into consideration because, just like SAICA and the big 4, the most important thing to remember is that we are all accountable to our constituencies.
Christine Ramon’s constituency is the brigade of men who make up the CFO Forum. SAICA’s constituency is the big 4 who keep them financially viable. No one seems to know what ABASA’s constituency is any more. The big 4’s responsibility unto themselves is to ensure that they create structural and strategic barriers to frustrate this form of economic transformation – we are not surprised by this.
Malusi’s constituency is the thousands of small, black firms that have been locked out of the market through this collusion committed by the big 4. His responsibility is to ensure that they are given the chance to enter the market. And it is this constituency that should matter more to Malusi than Christine Ramon’s brigade.
But I’ve been told that SAICA and the CFO Forum serve good sandwiches at their meetings, so I think Malusi can entertain them. Even if it is only to tell them to essentially f*ck off.
[Rumour has it I will be invited to a disciplinary hearing from SAICA after this. I shall let you know how it goes.]
Khaya S Sithole