Is Arthur Andersen's Number Up?
Most Experts Say Yes, but CEO Says Firm Will Survive
By Steven Pearlstein
Washington Post Staff Writer
Thursday, March 14, 2002; Page E01
It's beginning to look real bleak for Arthur Andersen.
With each passing day, the collapse of what was once the prestige firm of the accounting profession appears increasingly inevitable.
It's not just that several dozen clients have already announced they are taking their business elsewhere -- it's also that hundreds of others are reported by competitors to be quietly shopping around as well.
Key partners, meanwhile, have reportedly begun serious discussions about jumping to rival firms -- a recognition of the fact that their equity in the firm is almost sure to be wiped out and that, going forward, they are likely to make more money working somewhere else.
And hopes for selling the firm dim as other firms conclude there is no way to wind up with the valuable parts of the Andersen franchise -- the clients and the experienced practice teams -- without also running the risk of inheriting the liabilities that might be owed to the shareholders, creditors and employees of bankrupt clients. Just yesterday, Ernst & Young and Deloitte & Touche announced they had ended discussion about possible combinations with the global Andersen organization.
Andersen chief executive Joseph F. Berardino also rejected a sale or merger late yesterday. "We have absolutely no interest in going there," he said at a Chicago news conference, according to Bloomberg News. "We feel very confident we can get through this."
If all that weren't enough, Andersen also faces the possibility of criminal indictment in connection with document shredding in the Enron case. A conviction would put Andersen out of the auditing business unless it receives a waiver from the Securities and Exchange Commission.
"I hate to say it, but this is a sinking ship," said Itzhak Sharav, an accounting professor at Columbia University. "If you are a big public company, you don't want to be associated with an auditor with such a terrible name, whether it is deserved or not."
"I'd say the odds are 3 to 1 against survival," said Andrew Bailey, an accounting expert at the University of Illinois.
Even Paul A. Volcker, the former Federal Reserve chairman brought in to reform and rescue Andersen, now speaks in the tentative voice. "I'm sorry to see it unraveling as fast as it has," he said this week. "At this point, it sure looks like an uphill climb."
Adam Pritchard, an expert in corporate and securities law at the University of Michigan, spells out the conundrum this way:
The only way for Andersen to survive, either as an independent entity or merged with another firm, is to put the company through bankruptcy -- a process set up precisely to make it possible for an orderly separation of Andersen's assets from what could be $1 billion or more in claims from Enron creditors, shareholders and employees. While bankruptcy may be orderly, however, it is rarely swift, leaving Andersen vulnerable to months if not years more of client and staff defections.
"I don't see an easy way out of this," said Pritchard. "There's a very good chance now that Andersen will simply disappear."
Indeed, reports of Andersen's demise are so widespread that a debate is now in full swing on the question of whether that's the best outcome for the economy at large.
"I don't want to see a Big Five go to a Big Four because I don't think the country would be well served," Rep. John J. LaFalce (D-N.Y.) said at a House hearing yesterday. "You'd have some real problems in the marketplace because you wouldn't have the competition."
J. Michael Cook, who retired after 15 years as chairman of Deloitte & Touche, said that even with Andersen the industry is too highly concentrated. For most Fortune 500 companies, he noted, the reality is that there are only three with enough experience in a particular industry to bid on the business. And the competition might be reduced even further if one of the three also did work for an arch rival, for instance Coca-Cola, and Pepsi were to insist their accountants not work for the other.
Taking the contrary view, Harvard Business School professor Krishna G. Palepu said the loss of competition is probably overstated. By creating a uniform system of auditing, with rigid rules and little difference between one firm and the next, the accounting industry has effectively turned auditing into a commodity business, he argued. "And in a commodity business, three firms can produce as much competition as eight."
In other industries, the collapse of a major firm would almost certainly provide an opportunity for one or more second-tier firms to take a run at the big time. But that's never happened in the modern accounting industry and, according to industry executives, is unlikely to happen now.
Bill Travis, managing partner at McGladry & Pullen, one of the leading second-tier firms, argues that the market for Fortune 1000 audits provides enough revenue to support three players with the experience, international presence and sheer number of bodies demanded by clients. That's why his firm will remain focused on companies in the "middle market," where clients require very different skills that firms such as his provide.
"We're not even trying to become one of the Big Five," agreed Ed Nusbaum, chief executive of Grant Thornton, a second-tier player with 17,000 employees worldwide. "Everything we do is geared toward the middle market."
One other second-tier player, Chicago-based BDO Seidman, has made a run at the big time but with only limited success. The problem, explained Lee Graul, head of its public company practice, is that Wall Street analysts and investment bankers tend to frown on companies that don't have a Big Five seal-of-approval on their financial statements.
Ironically, one reason Wall Street prefers the biggest accounting firms, said Graul, is that they are thought to have the "deepest pockets," with the biggest insurance policies, in case things go wrong and shareholders want someone to sue. With Andersen, that belief may now have been shattered.
In addition to competition issues, a number of leading critics of the accounting industry -- including Volcker and former SEC chairman Arthur Levitt Jr. -- warn that the collapse of Andersen may scotch the best opportunity in decades to clean up problems that are widespread in the accounting profession.
Their argument is that if Andersen can be "reformed" along the lines outlined by Volcker -- without the temptation to cut corners on audits to win lucrative consulting contracts -- it will create a tough, quality auditing firm sought after by corporations now eager to allay shareholder anxieties.
In the resulting competition, other firms would eventually be forced to emulate the "new Andersen," in the process enhancing auditor independence and audit quality across an industry where questionable practices and audit failures have not been limited to Andersen.
"My purpose is not to save Andersen but to finally bring some reform to an industry that has resisted it for decades," said Volcker. "Maybe its a romantic notion, but I thought it was worth a try."
But skeptics wonder whether, even with Volcker's help, a firm as tarnished as Andersen can suddenly brand itself as the guarantor of financial reliability -- and whether such a tough-minded firm would suddenly become a market leader.
"The fundamental problem has never been with the auditing firms -- its with corporate America," said Arthur Bowman, publisher of a widely read accounting industry newsletter. "Up till now they've gotten the kind of audits they wanted. And there is no reason to believe their preferences have changed."
A number of top corporate executives have stepped forward in recent days to defend themselves and their accountants. Lawrence J. Ellison, chief executive of Oracle Corp., said yesterday that his company would stick with Andersen despite what he termed the "mob rule" that demands punishment for thousands of Andersen employees for the still-unproven mistakes of a few "rogue" colleagues in the Houston office.
But harsh as it may seem, industry's critics say such punishments are the only way to change accounting industry behavior.
"I think it will be good for the system if Andersen fails," said one executive who serves on several Fortune 500 boards. "It will reestablish the simple but important truth that auditors should work for the shareholders, not the management."
Sarah Teslik, executive director of the Council of Institutional Investors, agreed. "It is important that [Andersen] suffers major consequences in order to change the way the average auditor reacts when asked to check off on something he knows is wrong."
Staff writer Jackie Spinner contributed to this report.
© 2002 The Washington Post Company |
