The toxic cloud
spreads, from the implosion of HP’s $ 11.1 billion Autonomy acquisition, and the
$ 8.8 billion write-off announced on November 20 by CEO Meg Whitman: 

• Whitman’s
  claims of pervasive accounting fraud have been vigorously denied by Autonomy’s ex-CEO Mike Lynch, and derided by critics as a mask for HP’s own faulty due diligence, gross
  over-payment and post-transaction mis-management.

• Prompt lawsuits followed, derivatively on behalf of HP and by shareholders as
  a class, against the usual targets including Deloitte as Autonomy’s statutory
  auditor in the UK and KPMG in its role for HP. 

• Referrals
  have been made to authorities in both the US and the UK, the scope of whose
  interest and enthusiasm has yet to be made public.

As to the various
Big Four firms, pointed questions arise — beyond those expected about
Autonomy’s revenue accounting and HP’s due diligence – going to the structural
heart of the traditional auditor-client relationship:

• Floyd
  Norris in the New
  York Times: “’Where
  were the auditors?’…They were everywhere.”

• Francine
  McKenna, “Re:
  The Auditors: “’To the
  victor’s auditor go the audit spoils’…is not how the Big Four audit industry is
  played now that consulting is again King.”

• Tom
  Selling, “The
  Accounting Onion”: “If
  Autonomy’s accounting practices were too aggressive, would Deloitte’s staff
  have had the gumption to push back given the stakes?”

Meaningful
discussion of these issues, which unfortunately have proved intractable for
decades, requires confronting two essential issues: 

First, because Autonomy’s
accounting and reporting and Deloitte’s issuance of the standard commoditized
auditor’s report are targeted as unsatisfactory, just when critically important,
the question is raised yet again: what good are models having the appearance of
utility, only up to the point of their unexpected exposure as insufficient,
when suddenly they don’t? 

Second, the
finger-pointing at Deloitte’s alliance relationship with HP and the scope of
its non-audit services for Autonomy raise again the unresolved obsolescence of
the notion of “appearance of independence.”

Regulators have the
large accounting firms’ expansion of non-audit services in their sights – most recently
at the recent AICPA’s SEC-PCAOB conference:

Acting
Chief Accountant Paul Beswick: “I question
whether accountants' expanding practices into areas unrelated to their primary
competencies weakens public trust.”

PCAOB
Chairman James Doty: “Audit practices have shrunk in
comparison to audit firms' other client service lines — not all of which are
schooled in, or depend upon, the fundamental exercise of skepticism. This
threatens to weaken the strength of the audit practice in the firm overall.”

If the accounting
profession is to survive what will otherwise be another generation under this
radioactive rhetorical cloud, fundamental adjustments are in order. 

The first would be a
robust defense of the “client-pays” model: however much criticized, it dates to
the invention of independent assurance in the 1850’s, and is the only approach ever to stand the test of
actual adoption and use.

“Client pays” being
irreconcilable with “independence in fact,” however, the HP-Autonomy fiasco is
a reminder of the profession’s long-standing inability to articulate intellectually
stable support for “independence in appearance.” 

So it is time to
renew the proposition I have advanced for years (see my March 24, 2006 column in the International
Herald Tribune) — that, “the sacred cow of auditor independence should be
led off and humanely put out of its misery.” What I said there remains vital:

“The concept of auditor
independence does not serve the interests of investors.

“Audit performance – and
more immediately, the survival of the large firms to serve their global clients
and the capital markets – would be better achieved if the current independence
requirements and constraints were scrapped altogether.

“Auditors should be free
to provide their clients with any services within their skills. The only thing
that should be required is comprehensive disclosure of all relationships, to be
evaluated and decided by the voting power of the marketplace.”

At the same time,
clearance of the radioactive debris of independence inhibitions would free the
marketplace once for all from the entire sterile debate over permissible
services by auditors.

The community of financial
information users is capable of defining, engaging and valuing the scope of
services available from its gate-keepers — whether bankers, lawyers, rating
agencies or auditors.

If the trade-off
for the large accounting firms, for release from a system of constraints that
has long lost its value, is a downward re-assessment in the value of their
traditional core product – which would only acknowledge a reality long
suppressed or denied in any event – that is an exchange worth making. 

For their future as
legitimate participants in the world’s capital markets may well hang in the
balance.  

Thanks for joining this dialog. Please share
with friend and colleagues. Comments are welcome, and subscription is easy and
free, both at the Main
page.