GFG's "Tiny" Auditor = Rather "Large" Credit Red Flags

Even He Probably Couldn't Perform
Audits on 60 Companies

An introductory note to what follows.

Credit “red flags” in themselves do not conclusively prove there is a problem with an entity. Rather they identify areas for enhanced due diligence to determine if there is a problem.

According to research by the FT, one apparently very small English Chartered Accountancy firm, King & King, audited over 60 companies in Mr. Gupta’s Group. Companies with a combined Sterling 2.5 billion in revenues!

It is one of the long standing—but often ignored—rules of due diligence to scrutinize not only audited financial reports but also the auditor.

1. Is it a known firm? What is its reputation and track record?

2. Does it have the skills and resources to conduct an audit of the particular company? Horses for courses.

3. Is there an imbalance in the relationship between the company and the auditor that might make the auditor subject to undue influence on its work?

For example, if the auditor is dependent on the company for the bulk of its revenues, it might well find it hard to say “no” to the company.

I’d hasten to add that this is not a conclusive test.

There are more than a few cases where the “biggest” auditing firms appear to have failed in conducting sufficiently probing audits.

After reading the FT’s excellent article, I decided to do a bit of digging myself.

What better place to start than an electronic visit to the UK’s Companies House?

There I searched for the name King & King and the address 273-287 Regent St, London W1B 2HA, United Kingdom. This search returned three entities that appear directly related:

1. KING & KING LTD Company number 04871854. Listed as dormant. Last Financial Statements 20 August 2019. Net assets GBP 1.

2. KING & KING (ACCOUNTING & ADVISORY) LTD Company number 07597296. Listed as dormant. Last Financial Statements 30 April 2019. Net assets GBP 1.

3. KING & KING WILLS LTD Company number 07533423 Last Financial Statements 28 February 2020. Net assets GBP 685.

There is no doubt a reasonable explanation for what would appear at face value to be a discrepancy here. How could a dormant firm with so modest financials audit 60 companies.

However, what that explanation is eludes me.

I suppose it may be that the firm that does the audits is registered under another name. 

I did take the obvious step of using Companies House to search on the names of officers and directors at the above companies on the assumption that one or more of these might be at the firm with "with another name".  

However, I came up with a blank.

To make sure I covered as many bases as possible,  I then searched Companies House for the address alone.

To my surprise there were 20 pages of entities.

Companies House told me to refine my search as there were many many more.

So it may be that I missed that new name.

No results for K&K’s Middlesex Office at Companies House using both its name and the address.

But using Google, I quickly turned up at least 51 companies at the Middlesex address.

I did however find a related company at that address which shares a director with King & King.

RELANS LIMITED Company number 07317670. Latest Financial Statements 30 April 2020. GBP 127,284 in total equity.

While the income statement was not included, comparative figures would suggest it was a good year indeed for Relans as its retained earnings increased approximately GBP 120,000 year on year. Quite a remarkable change from previous years!

As to the numerous parties at both of K&K’s listed addresses, at first glance it would appear that both buildings are “rather large”.

Or perhaps more likely the address is that of virtual office or a corporate registration service.

Perhaps, K&K are “working from home” as part of a Covid inspired remote work initiative.

Turning back to the FT article, the FT asked chartered accountants at other firms what K&K’s reputation was. The answer they received seems to be “who?”.

According to the FT, K&K is registered at the ICAEW as having one CA and one professional staff.

On its face, that might make some question the “depth of its bench” in terms of ability to perform audits of large firms.

It would also suggest that GFG was the “father of the feast” at K&K. Loss of this relationship would be likely to dramatically reduce revenues.

Typically, scrutiny is focused on the auditor of the obligor or the counterparty to a transaction.

And that absent guarantees or other support from related parties, focus on those parties’ auditors would be minimal at best.

However, even with a limited one company focus, there are enough red flags to suggest weakness. That would include the questions posed by my Companies House search.

And those threads when pulled might well have revealed other issues. Or resulted in a clean bill of health for K&K.

For those with exposure to GFGroup, a wider focus would be appropriate.

Discovering that one very small CA firm was auditing a large number of GFG companies should have been a gigantic red flag, prompting further investigation..

It’s not just the three questions above, but the fact that K&K was auditing 60 companies but it had a staff of one CA and one other professional. Companies with Sterling 2.5 billion in revenues.

If we assume that one-quarter of these firms had their fiscal year at each quarter’s end as opposed to all at 31 December, it boggles the mind to think that K&K would be able to do the intensive work required for an audit even on “just” 15 firms.

The ability to repeat this intensive process quarter on quarter would have required probably more than a singe Stakhanovite.

More importantly one might reasonably struggle to understand how a firm this size could perform a proper audit on even one company each quarter.

If, as is more likely, 31 December was the FYE for all or the majority of the 60 companies,, then the improbable becomes the impossible.

One caveat K&K notes on their website they are affiliated with IRGlobal a network of accountancy, advisory, and tax firms and so would appear to have access to additional knowledge resources.

Somehow the extent of K&K’s audit work (and prowess) was missed.

The FT was able to discover this interesting issue apparently without undue or time-consuming exertion.

Admittedly, they benefited from hindsight: GFG’s woes were public knowledge

Also admittedly, the FT has a cadre of very savvy financial reporters who have been responsible for uncovering financial frauds. By their own skill, not just via whistleblower tips.

Bondhack and Cynthia O’Murchu made a significant pre-crash discovery regarding the weak state of NMC’s finances by the clever use of credit bureau information.

One-at least this one-would expect that financial institutions with money at stake would have at least as competent staff.

And perhaps because they were doing this for a living, or were supposed to be doing this, would have additional resources and experience.

Sadly, hope is not necessarily accompanied by change. 

Or so I have been told.