An earthquake struck Corporate Pakistan on November 15, 2020, and no one wanted to talk about it.
Deloitte, the world’s largest accounting and professional services firm and the largest of the Big Four businesses, left Pakistan on that day. There will be no announcement, no coverage, and no commentary in the media the next day, or, really, for several weeks after that.
The facts, however, remain unaffected by the quiet. Yes, Deloitte was the smallest of the Big Four accounting firms in Pakistan in terms of revenue share, but this is still a significant achievement. It’s a huge deal. And it has far-reaching repercussions that will extend far beyond Pakistan’s accounting community.
With Deloitte’s departure in November 2020, Pakistan is now the world’s largest country by population – and the only one in the top ten by population – that does not have all four Big Four accounting firms present.
Pakistan has the world’s second-largest economy, behind Iran, despite the absence of all four Big Four accounting organisations. Ethiopia is the next largest economy that does not include all four Big Four, with a GDP around one-third that of Pakistan. Other economies a hundredth the size of Pakistan’s have all four Big Four businesses supporting their business sector.
This storey will explain why Deloitte left Pakistan, what it means for the accounting industry in Pakistan, and what it means for the economy as a whole.
What made Deloitte leave
Let’s start by describing what happened. Each of the Big Four accounting companies — or, for that matter, any of the big accounting companies – is part of a global network of partnership firms. That implies Deloitte in Pakistan is a Pakistan-based partnership with no shares held by the global parent, Deloitte Touche Tomahatsu Ltd, a UK-based company. Instead, it has a legal agreement with the Pakistan entity that permits it to use the Deloitte name in exchange for monetary compensation and agreeing to a set of standards.
That partnership agreement has been taken away from the Pakistani partner business, notably the right to use the Deloitte brand and sign off with the Deloitte emblem on letters evaluating Pakistani financial statements.
When Profit asked the global parent business for comment on why they departed Pakistan, the corporation issued a statement that confirmed the move but did not go into great depth about the reasons.
“We can confirm that Deloitte Yousuf Adil, Chartered Accountants (the Deloitte member firm in Pakistan) withdrew from the Deloitte network on November 15, 2020, and is no longer a member firm of Deloitte. The firm’s formal name has been changed to Yousuf Adil & Co., and it is now an Independent Correspondent Firm (“ICF”) inside the Deloitte network. In an e-mail to Profit, Lauren Mistretta, a representative for Deloitte, stated, “The decision to make this modification was made in the backdrop of current geopolitical, macroeconomic, and market issues.”
We did not have any better luck in getting an explanation from the local former Deloitte partners either. “We have nothing further to add,” said Nadeem Yousuf Adil, chairman and partner at Yousuf Adil & Company, in a WhatsApp response to a question from Profit.
Asad Ali Shah, former managing partner of Deloitte Yousuf Adil, was the only individual from Deloitte prepared to speak with us on the record. He held that post from February 2009 until May 2017. Shah is also the son of Qaim Ali Shah, the former Chief Minister of Sindh. And Asad Ali Shah remarked that he believes the main cause was an economic issue: Deloitte’s presence in Pakistan posed a risk to the worldwide relationship, but did not generate enough income to justify such a risk.
In an interview with Profit, Asad Ali Shah observed, “The Big Four accounting companies don’t actually gain much out of Pakistan.” “AF Ferguson (PricewaterhouseCoopers Pakistan) is the largest firm in Pakistan, with sales of around Rs3 billion, the majority of which goes to the partners and local workers. And what little does flow to the global corporation has problems remitting profits due to permits from the State Bank of Pakistan, among other things.”
“The global firm generates money in Pakistan in two ways: first, they assist the local firm in purchasing professional insurance to cover the risk of delivering services. Second, they are paid a management fee, which can range from 3% to 5%.
Even at 4% income, PricewaterhouseCoopers (PwC), for example, would only earn about Rs120 million from Pakistan, or around $800,000 at current currency rates. To put that in perspective, the average total remuneration for a partner at PwC in the United States, which is the largest market for all of the Big Four firms, is $600,000.
A partnership’s share of a firm’s revenue is about one-third of its total revenue, with the rest going to salaries for junior accountants and other expenses. For a firm like PwC in Pakistan, with 30 or more partners, that translates to a good Rs30-35 million in revenue per partner per year.
In short, the firms are structured to benefit the local partnership far more than the global parent business, despite the fact that the global parent business takes the same risk as the local partners. “Pakistan is a 100 percent danger for the global firm. They would suffer a reputational impact if something goes wrong with an audit,” Asad Ali Shah warned.
You can see the issue here: with so much danger and so little profit, the Big Four accounting firms have a hard time justifying their presence in areas where they see high hazards. And Deloitte’s dilemma was that it had very little revenue in comparison to the other firms.
“PwC is Pakistan’s largest accounting firm, with a revenue of Rs3 billion. Ernst & Young (EY) comes close behind, with a similar number. KPMG has a revenue of over Rs2 billion, whereas Deloitte has a revenue of about Rs900 million,” Shah explained.
By the way, this is the polar opposite of its global position. Deloitte had a record-breaking year in 2020, pulling in $47.6 billion in sales worldwide. It is easily the world’s largest accounting and professional services firm. PwC is the world’s second-largest accounting firm, with $43 billion in revenue. In terms of global revenues, EY and KPMG are ranked third and fourth, respectively.
That is the crux of the problem. Deloitte’s global partnership is accustomed to generating a lot of money in other markets, and they have a sizable presence in the high-margin management consulting business in the United States in particular. In Pakistan, on the other hand, not only do they have fewer revenues than their Big Four counterparts, but the majority of those sales come from the low-margin audit and assurance industry.
Then came the increased pressure on Pakistan in the form of the multilateral Financial Action Task Force (FATF) greylisting the country in 2018 for insufficient efforts by the country’s regulators and financial system to combat money laundering and terrorism financing, and the risk perception of Pakistan – which was already high – skyrocketed.
What makes this development particularly unfortunate is that Deloitte Pakistan was one of the most cautious and conservatively managed of the Big Four accounting firms in the country, with no major scandals involving its audit and assurance work with Pakistani companies that could tarnish its reputation, either locally or internationally.
Deloitte left Pakistan due to the possibility of what might happen rather than what did happen.
In addition, the lack of financial incentives for Deloitte and other major global accounting firms to lend their names to a local partner has caused a shift in Deloitte’s thinking, which now wants to move away from being a global network of partnerships and closer to becoming a single global partnership with a unified ownership, partnership, and management structure.
What this means for Pakistan’s accounting industry
To comprehend what this means for Pakistan’s accounting sector, it’s necessary to first examine the structure of the accounting profession in Pakistan and around the world.
Despite the fact that there are hundreds of accounting companies around the world, the Big Four truly dominate. Consider the following fact to get a sense of how much. KPMG is the smallest of the Big Four firms, although it has three times the income of BDO, the number five business.
What is the reason for this? Historically, the Big Four are the successors of some of the world’s oldest accounting businesses. Three of the four companies are located in London, demonstrating how much Britain dominated the world in the nineteenth century. (The fourth, KPMG, is based in the Netherlands, which is where the stock exchange and the joint stock company were created.)
The Strong Four have a certain cache with investors in companies that other accounting firms – for the most part – do not. This is due to their histories and big brand names. Why are investor impressions important in this case? Because the act of reviewing a company’s financial statements is known as auditing.
The Big Four are more trusted than other firms and are backed by more investors, allowing them to charge a greater price. In Pakistan, the price disparity has widened dramatically in recent years. Tirmizi, one of the story’s authors, is the founder of a fintech startup that received two audits quotes from two accounting companies. The audit will cost a minimum of Rs1 million, according to KPMG. Grant Thornton, the world’s seventh largest accounting company and Pakistan’s fifth largest, quoted fees of Rs250,000.
That’s right: the Big Four firm charged a four-fold greater price than the number five firm.
That price tag, of course, does not exist in a vacuum. People are willing to pay more for the ability to declare that they are putting themselves to the rigours of an audit conducted by one of the Big Four firms, which is seen to be better and more thorough than that undertaken by its smaller competitors. Is it really more stringent? The answer to that issue is less important than the fact that the audit is thought to be more thorough, to the point that people are ready to pay significantly more for it.
This indicates that the majority of Deloitte Yousif Adil’s business came from corporations looking to work with a Big Four accounting firm. What did he say?
It is too early to say definitively, and the company declined to answer any of Profit’s questions. But the answer is likely to be that the firm will take a huge hit.
Yousuf Adil & Company will continue to be a Deloitte independent correspondent firm, which means it will be able to provide services to Deloitte clients who have signed a global agreement with the firm and require services in a territory where Deloitte does not have a presence. As a result, Yousuf Adil & Company will retain at least part of its clientele.
Many others, on the other hand, will almost certainly choose to work with one of the other Big Four businesses rather than a ‘correspondent’ firm.
But here’s the kicker: it’ll probably have a hard time attracting new clients.
Why? Consider it from the standpoint of a business. Why would you choose Yousuf Adil & Company over one of the other three firms that still do business in Pakistan if you have the money and can pay a Big Four audit fee? And, if you were one of the companies that did business with Deloitte Pakistan because you had an old arrangement for a low audit fee that was still in effect, would you rather stick with a local firm that used to be a Big Four or lower your costs and go to the number five firm?
Because, let’s face it, while the Big Four have the most well-known brand names, any investor worth his or her salt is familiar with Grant Thornton and BDO. If your financial statements are signed with the logos of any of those companies, you can be confident that any investor you show them to will have some faith in them. However, if you submit an audit report on the letterhead of “Yousuf Adil & Company,” you may be asked a few questions about why you hired this particular auditor, which some international investors may have never heard of.
All of this means that Deloitte’s loss will almost certainly be Grant Thornton’s and BDO’s benefit. Both companies have a strong presence in Pakistan (as does the government).
Indeed, rather than trying to stay independent without the Deloitte brand to back them up, some of the Yousuf Adil & Company partners may elect to take their relationships to any of these two firms – or any of the other Big Four firms that will have them.
And, lest you believe this is just conjecture on our part, there is precedent for what we’re discussing. The Big Five accounting firms used to exist in 2002, with Arthur Anderson, based in Chicago, as the fifth worldwide accounting firm. Arthur Anderson crumbled in the wake of the Enron crisis, after it was revealed that they had signed off on Enron’s phoney financial statements.
That affiliate began losing business almost immediately after joining Sidat Hyder. Singer Pakistan had fired Sidat Hyder and replaced him with KPMG Taseer Hadi as auditors, according to Dawn in June 2002. By the following month, the situation had deteriorated to the point where Sidat Hyder chose to merge with Ford Rhodes Robson Morrow, an EY member firm in Pakistan. That is why EY’s Pakistani member firm is still known as Ford Rhodes Sidat Hyder.
What this means is that an accounting firm’s brand and reputation are extremely important, and that its fortunes can shift dramatically if the public’s view of that brand shifts.
What the Deloitte exit means for Pakistan
If you are not an accountant or a CFO trying to engage an audit company, why should you be concerned about Deloitte leaving Pakistan? Because it reflects a deterioration of Pakistan’s international standing to the point where it may be difficult to regain unless the government and private sector take dramatic measures.
In no uncertain terms, the fact that Pakistan is now the world’s largest country – and the world’s largest non-sanctioned economy – without the presence of all four Big Four accounting firms is a national embarrassment.
But, beyond the humiliation, there are real repercussions for the Pakistani economy, particularly for foreign direct investment into the nation. Investors rely on accurate, dependable information sources regarding the country and company they are considering investing in first and foremost. And with Deloitte’s departure, they will have one less trustworthy voice to rely on when it comes to deciding whether or not to invest in Pakistan.
If you are a Pakistani corporation trying to raise funding from a global pool of investors, or a startup trying to raise money from a global venture capital fund, this is the place to be.
In the corporate world, credibility counts more than anything else, and Pakistan has just lost a key source of it.
Of course, we must not overestimate the consequences. The other three enterprises are still here, and this is one of them. However, Deloitte’s exit serves as a warning and sets a dangerous precedent, especially in light of news that Ernst & Young is considering whether or not to continue in Pakistan.
Deloitte’s and EY’s situations are absolutely separate. However, the fact that both are happening at the same time – and that Deloitte has decided to pull the plug – means that Corporate Pakistan’s international credibility is about to be questioned at a time when startups are expanding the definition of what it means to be a Pakistani company and finally beginning to attract significant amounts of money into the country.
At least in the case of Deloitte, there is the reasonable argument that they had a small market share and that no scandals or difficulties were hidden.
If EY decides to go, what will we tell ourselves and international investors? They hold the second-largest market share in Pakistan’s audit market, after behind PwC. That is to say, Pakistani enterprises and entrepreneurs cannot be trusted to tell the truth, their auditors cannot be trusted to check their statements on behalf of investors, and the regulator is unlikely to intervene anytime soon.
If that were to happen, we’d have a hard time attracting even the small levels of foreign investment that already pour into the country. And in our capital-starved economy, that is a luxury we just cannot afford.
