When Stefan Kirsten took over as chair of the stricken German real estate company Adler Group in February 2022 in the midst of an accounting scandal, he did not mince words. “The elephant in the room is named Wirecard,” the former chief financial officer of German blue chip Vonovia quipped.
It is not just shareholders that have become ever more cautious in the wake of one of Europe’s largest accounting scandals. Auditors have done so too. This has become a problem for Adler as it battles waning investor sentiment in the wake of a short seller attack in October 2021. Adler, ditched by its auditor KPMG last year after the Big Four firm issued a disclaimer opinion for the 2021 results, has so far been unsuccessful in its search for a replacement. The uncertainty has contributed to a 92 per cent drop in the company’s share price over the past year.
The experience of Wirecard’s longstanding auditor EY has turned into a cautionary tale for the whole industry. For close to a decade, EY issued unqualified audit opinions to Wirecard, failing to spot that half of the revenue and hundred of millions of corporate cash were fake.
In the wake of Wirecard’s insolvency, the Big Four firm is facing an avalanche of lawsuits and Germany’s audit regulator Apas will soon mete out sanctions. After the scandal, Germany stepped up auditor’s liability on flawed audits and revamped its accounting oversight. A private-sector body which was in charge of checking individual companies’ accounts was abolished and BaFin’s power was enhanced. A second authority which oversees audit firms was strengthened.
BaFin’s head of accounting regulation Thorsten Pötzsch last year accused auditors of being “too close” to clients and called for more “professional scepticism”. His unit has issued two public rebukes for Adler’s 2019 financial report.
All this has left its marks. Auditors have become much more selective, scrutinising potential clients much more than in the past and rejecting some which are considered “high risk”. If a company has weak governance, a poor record and a feisty management, it risks being left out in the cold — in particular, if it falls out with their auditor in public.
In Adler’s case, the relationship with their auditor KPMG started to sour during a special audit which was mandated by the company after a short seller accused the group of fraud and related-party transactions. Adler refused to hand over 800,000 emails to KPMG’s forensic team, citing “legal reasons”. The real estate group argued that the documents involved discussions with its general counsel and external lawyers and hence were legally privileged — a status that would be waived should the documents be handed over to a Big Four firm.
KPMG, which found in its forensic audit that Adler suffered from widespread governance and compliance shortcomings, subsequently refused to sign off the company’s 2021 results. In May last year, it walked away from the client.
After an unsuccessful tender to replace KPMG, Adler turned to a Berlin court which reinstated KPMG. But the Big Four firm still declined to accept the mandate. Three months after the end of 2022, the company is still looking for a solution as it is a requirement for issuers of both shares and bonds in Germany to have audited results.
Marc Liebscher, a Berlin-based lawyer and board member of German retail shareholder lobby group SdK, says that auditors have become much more powerful, assertive and unforgiving. “The balance of power between auditors and their clients is changing fundamentally,” he says,
The Adler case also highlights a regulatory gap and one not just found in Germany. Auditors perform a quasi-official task that is an essential check and balance in a capitalist economy. But what happens if a firm does not find one?
Companies without an auditor could simply be allowed to fail but many of them fulfil important roles. One solution is to make the court appointment of an auditor legally binding. However, the court could not decree the mutual trust which is required for an auditor to do its job properly. And lawyers say that under German law, it is difficult, if not impossible, for an accounting firm to walk away from a client midway through an audit. More thinking needs to be done on the issue.
One thing is clear though — the Adler travails are a warning of the steep cost a company faces if it gets into a dispute with its auditors. That should strengthen the hand of auditors in asking tough questions and seeking all the material they need to form a judgment. Let’s hope those auditors rise to the challenge. Wirecard shows why.
olaf.storbeck@ft.com