PwC under fire re: Cattles. Another shoe drops?

While I have been traveling, I have been sporadically following the coverage regarding PwC and Cattles and speaking with those ‘in the know’ about PwC’s crumbling reputation as auditors of record.

According to the FT:

The board, part of the Financial Reporting Council, said it would examine the conduct of PwC and its individual auditors concerning the preparation of ­financial statements of Cattles and Welcome Financial Services, its subsidiary, for the year ended December 31 2007 and for the six months ended June 30 2008.

Further, it added, it was investigating “public statements covering the financial position and performance of Cattles plc and/or Welcome Financial Services Limited between February 28 2008 and February 20 2009”.

PwC said: “We will fully co-operate with the AADB investigation and will vigorously defend our work.”

What makes this case interesting is that AADB has a range of sanctions it can apply, all the way from a slap on the wrist up to withdrawal of license to audit coupled to unlimited fines. Given that Cattles is being bailed out by a syndicate of 22 banks to the tune of £500 million and is negotiating with bondholders over defaulting interest payments on a further £750 million, it is not inconceivable that AADB will look to PwC as the ‘deep pocket culprit’ from which to extract compensation. That in turn opens the door to civil litigation.

While Big Four firms face a slew of litigation in the US in particular, this adds new pressure on the global firm to start cleaning its act up. Those of us who follow the firms are waiting to see whether PwC gets hammered over the Satyam debacle. Our view is that PwC is heavily implicated in the Satyam case, either by accident of design and that it is potentially on the hook for as much as $4 billion, representing lost shareholder value as a result of the Satyam fraud.

I remain of the opinion that PwC is vulnerable to failure, not because it has been caught out doing shoddy work but because it is the easiest target for shareholder groups looking for compensation. Some colleagues believe it is inconceivable that PwC will fail, thinking that it will litigate its way out of trouble over many years through negotiated settlements that will never see the real problems aired in court. I’m not convinced by that argument.

The odd problem here and there can always be deferred to a point where the partners can fund a settlement but there is a trend here that seems unstoppable. There is a rising tide of cases that at some point will need clearing up. The question then comes – at what point does that tide turn into a tsunami that sweeps them away. This is the question that PwC faces and around which it has so far remained silent.

More important perhaps is what happens to PwC as a proclaimed network operating under an umbrella global brand. If as seems likely it is going to face litigation in multiple jurisdictions then to what extent will the network shoulder financial responsibility?

There is no question that the Big Four face considerable uncertainty. While in the US I spoke with Deloitte consultants who say that right now, trying to figure what will happen in the future is extremely difficult. It took a massive hit following the Lehman crash but seems to be clawing its way back through reshaping how it goes to market and a willingness to be a lot more flexible in charging rates. Most recently, it has turned its attention to saas implementations as a way of getting its benched people back to work. Even so, Deloitte admits the firm is far from working to capacity and that looking at the future is like peering through a fog layer. The same will be true for PwC, KPMG and EY.

In PwC’s case, it has tried to mitigate exposure in India by schmoozing politicians at the highest level. The success of that strategy remains to be seen especially as the Indian government has signaled that it will support shareholder groups in any litigation they might bring against PwC as auditors. This is no joke. All of  that is before we get to the intertwining nature of business conducted by both PwC consultants and the audit groups and what that means for PwC’s audit independence.

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