The revenue of Australia’s Big Four accounting firms has come under pressure as demand for traditional services such as auditing weakens. But a move into strategic consulting and the potential for more wide-ranging ties with Asian clients should mean the slippage is short-lived.
The Big Four – Deloitte, PricewaterhouseCoopers, KPMG and Ernst & Young – are multidisciplinary professional service firms that offer a range of services including accounting, auditing, tax, business advisory and management consulting. This vertical integration allows them to be a “one-stop shop” for business clients.
The Big Four handle the vast majority of audits for publicly traded companies, as well as many private companies, making auditing their largest source of revenue. Their second biggest revenue segment is advisory services, including advice on mergers and acquisitions.
However, according to IBISWorld, the Big Four’s traditional revenue streams – accounting, audit and tax – are under pressure as demand for these services in Australia slows.
That translated into a slight deterioration in their recent earnings reports. KPMG’s announcement of a 0.6% fall in revenue means all of the Big Four have now reported revenue declines of between 0.5 to 1% in their Australian practices, with resulting job cuts.
There are two main drivers for the slowdown in Australia. The first is internal. Demand from the Big Four’s main source of clients, the financial services sector, has remained weak. According to IBISWorld, over the past five years revenue from financial service firms has represented a declining proportion of accounting industry revenue.
As financial businesses have become increasingly risk-averse, and merger and acquisition activity has remained weak, demand for the Big Four’s traditional accounting services has fallen.
At the same time, some of the larger mid-tier accounting firms have begun vying for the attention of the Big Four’s small to mid-cap listed audit clients, with this competition putting downward pressure on prices.
The second driver is external. The standardisation of accounting rules and ever-improving technology has also intensified downward price pressure. One response by the Big Four has been to outsource routine, labour-intensive processes to low-cost nations such as India.
Still, IBISWorld predicts a quick recovery for the Big Four in Australia, mainly because of strong growth in advisory services. In addition, the Big Four are well positioned to profit from their expansion into management consulting services. Together, these will make them less dependent on the more volatile market for accounting and auditing services.
Management consulting has been a source of revenue and profit growth for the accounting firms since the 1960s, when they started to invest in this area. Consulting hit a road bump in 2002, after Enron’s bankruptcy and the dissolution of Arthur Andersen prompted the US to target potential conflicts of interest by restricting the provision of non-audit services to audit clients.
KPMG and PricewaterhouseCoopers sold their consulting arms as a result and Deloitte put its up for sale (Ernst & Young had sold its consulting business two years earlier).
However, the move away from consulting was short-lived. According to IBISWorld, today Deloitte’s share of the Australian consulting market is 6%, with PwC at 5.8% and KPMG at 4.6%. This makes them, after Accenture, the largest providers of consulting services here, followed by the pure strategy houses and a very long tail of smaller firms.
This year Deloitte acquired Monitor, one of the top “strategy consulting” firms, allowing it to move into a very lucrative, high-margin market that until now has been almost entirely the domain of McKinsey, BCG and Bain. Strategy consulting focuses on specific strategic issues that businesses face, and has always commanded higher margins than other types of consulting, such as operations, human resources or IT consulting.
Meanwhile, the other firms in the Big Four continue to expand their management consulting divisions. Consulting has been growing much faster than audit for all four firms in recent years.
Asia also presents opportunities for growth. Traditionally, accounting firms have internationalised by following their clients overseas and opening local offices. In China, for example, the Big Four’s clients are mainly large companies with overseas exposure that want to use an internationally recognised auditor as an assurance to global investors. (Just this week, Deloitte Touche Tohmatsu Ltd has announced its global revenues have risen by 8.6% to US$31.3 billion, helped by 16.3% revenue growth in Asia Pacific.)
The recent adoption of International Financial Reporting Standards (IFRS) in China provides further opportunities for the Big Four to grow their operations there.
However, competition from local accounting practices is increasing. The big names have been losing market share because their focus has been, so far, on international clients rather than fast-growing Chinese companies on their home soil.
According to the Financial Times, the Big Four’s share of business among the top 100 Chinese firms peaked at 55% in 2007 and had slipped to 36% by 2011.
What’s more, some of these local accounting practices are now following their Chinese clients overseas, which could mean increased competition for the Big Four in their established markets. Leading Chinese accounting firm ShineWing, for example, has established an office in Australia in alliance with local accounting network Hall Chadwick.
Still, a new requirement that the Big Four increase the number of mainland Chinese partners at the top of their businesses might mean they become more attractive to Chinese companies in the medium term. As a result, they could continue to profit from the growth of the Chinese market.