Rating of audit and consulting groups, 2007

Table 1. List of the largest Russian audit-consulting companies, 2007
Table 2. Audit service leaders, 2007
Table 3. General audit
Table 4. Investment audit
Table 5. Audit of insurance companies
Table 6. Bank audit
Table 7. Strategic consulting
Table 8. Financial consulting
Table 9. Tax consulting
Table 10. IT-consulting - management consulting
Table 11. IT-consulting - development and system integration
Table 12. Legal consulting
Table 13. Estimation activity
Table 14. ACG revenues from servicing from IAS
Table 15. ACGs with experience of providing IAS services to different categories of clients

Effect of mass

Unrestrained regional expansion of audit-consulting groups is substituted by their planned business activity.

Vartan Khanferian

Quick glance at our twelfth rating of Russian ACGs suggests a straightforward and optimistic conclusion. The market shows sustainable growth in line with tendencies reported a couple of years ago.

True, for the last couple of years leading ACGs increased their revenues by 40% a year, effectively overshadowing inflation background and general economic growth (see diagram 1). Structure of consolidated proceeds has remained unchanged. Audit and consulting services' ratio is very consistent: 40 to 60 (see diagram 2). Within the last three years it changed 1.5 percentage points at most. The leaders mostly stay in the lead. It looks like relaxing time.

But a more detailed analysis of 150 ACGs results in 2007 compels to make some other conclusions. Presently the market has entered a new stage of development. After having amassed new capacities due to speedy development of regional networks, the market leaders had to face the question: how to make your new assets efficient? Deceleration of movement to regions and thorough attention to quality of services seem to answer the question.

Net slows dow

Consolidated revenues of 150 largest ACGs (without the "big four") in 2007 reached 37 bln rubles and increased by 37.4% comparing with the previous rating. The main reason for good achievements of auditors and consultants is obvious - favorable economic set-up makes their services highly demanded. Under such conditions companies may easily attract new clients and increase rates, too (actually, by our assessments, the annual growth of rates averaged one fourth).

"Economic consistency, active strife of Russian companies to go public, inflow of foreign capital to Russia and foreign-purchased Russian assets - these are the main market drivers", - says Andrey Doubinsky, head of Unicon group of companies. He is supported by Sergey Shapiguzov, PKF president: "Last year special circumstances paved the way for the audit-consulting market economic growth. First, general economic progress - the GDP increase by 8.1% can not remain unnoticed. Second, many SMEs also showed dynamic growth - another reason for the increased audit-consulting demand".

Still, external factors of the audit-consulting market development play a second fiddle to drastic changes of the character of growth. An extensive model - mechanically increased scope of activity through establishment of regional branches and acquisition of smaller structures - was substituted by building up efficient business. 150 ACGs in the current rating contain 1 254 companies. Comparing with last year a number of affiliated structures went up by mere 10%, but in 2005-2006 the increase was 36%-40%. Still, proceeds per employee in 2007 hiked by 14% to reach 1.861 mln rubles against previous 11%.

Top-ten rating companies tend to be even more efficient. After two stagnant years their profits increased by 15% to reach 2.109 mln rubles per employee with a number of branches growing by 5%. The gap between the "big four" and our national leaders is still too obviously large. A specialist from the Russian office of PricewaterhouseCoopers earns for his company 3.972 mln rubles, which is twice as big comparing with our top-ten leaders. But the most efficient Russian ACGs do their best to catch up with foreign competitors. Thus, revenues per specialist in CV-Audit in 2007 reached 3.947 mln rubles, and Business-System Development earnings per specialist was 4.123 mln rubles. True, in this particular case the fantastic yield is caused - in the first place - by domination of highly profitable consulting projects.

Corporate strategies make timely shift to greater efficiency. After all, the chief long-term factor of competitive advantage for companies is improved quality and expanded range of services. Clients' demands to auditors and consultants have kept on growing. According to Sergey Shapiguzov, "we witness business acquiring maturity, business-processes growing more sophisticated. Heads of enterprises achieve new levels of professionalism with the arrival of a new generation: they know how to operate in the market economy, how to make your business successful, how to implement one's plans. There is an increased demand for quality service".

In this respect, another more important competitive advantage of ACGs is efficient corporate training and reliable quality control, which are easier to ensure in compact regional networks than in gigantic conglomerates with hundreds of diverse structures all over the country. Current multi-bullion turnover in the latter case is small consolation. You have to pay for it with poor efficiency of your business model. Examples are numerous. BKR-Intercom-Audit is an absolute leader in the last two ratings (number of affiliated companies) and the third in our rating (consolidated revenues of 2.3 bln rubles in 2007 were mutually generated by 412 structures), but by level of earnings per specialist it is 1.6 below the average rating figure and 2 times behind its colleagues from the top-ten ACGs. Probably, it may be explained by faults in uncompleted process of the net forming, and the situation will be adjusted. "National networks have good prospects. We have to provide to our clients in the regions good service of quality, and national nets is the way to survive in a competitive struggle for small regional companies", - says Yury Fadeev, BKR-Intercom-Audit general director.

By the way, gradual "maturing" of the market makes us revise our rating methodology yet again. So far in determining volume of consolidated revenues for a group of companies we deliberately used a soft approach. Next to legally affiliated companies, consolidated ACG turnover might include companies with agreements on mutual activity or mutual cooperation etc. We strictly followed legal formulas, which were not always entirely precise. Such approach played its positive role to foster consolidation processes. But currently the market has gained maturity. Therefore we do our best to work out more clear and unambiguous conditions for determining consolidated revenues of audit-consulting groups. First possible innovations were already discussed with the market participants (we thank members of the Russian institute of professional auditors for their active involvement in our discussion). By autumn we plan to publish renewed methodological approaches to compiling rating 2009.

Bottlenecks

So far the leaders' strife to improve quality of service has not become trendy for the whole market. "Unfortunately, quality of service instead of improving rather worsened, most of all, due to a crisis at the personnel market of professional services. Audit and consulting services are highly demanded at the peak season - hence companies with surrogate services manage to penetrate the market. Next to audit the same is true about asset assessment services", - says Andrey Doubinsky.

Absence of well-trained specialists is not new at the market of audit-consulting services. Skyrocketing salaries of professionals at export-oriented sectors and retail and financial structures undermine competitive status of auditors and consultants at the labor market. As a result smart specialists tend to flight to the corporate sector. Personnel problems are characteristic both for national ACGs and the "big four" companies.

The leading market players have to increase their annual expenditures for professional training. HR services start their recruiting activity in universities at the pre-graduation level. But, after working for four or five years in international ACGs and acquiring good experience of dealing with large projects, newly-fledged auditors and consultants often go to work for their yesterday's clients. Heads of audit companies joke sadly: their organizations gradually turn into advanced training institutions for oilmen, bankers, metallurgists. To hold specialists from leaving or at least return the training money companies have to put compensation clauses into employment service contracts, if specialists decide to move to a different job.

Another hurdle to bettering quality services is dumping, manifesting itself in the area of the state sector mandatory audit, in particular, in case of state unitary enterprises. A current mechanism of selecting an auditor for such services boils down to pricing factors. Owners and investors of joint stock companies are usually interested to get real information, but unitary enterprises are not always motivated to be audited objectively. So the practice of giving nominal audit results without any real check-up for minimum remuneration is still wide-spread.

"Deadlock situation with mandatory auditing of state enterprises and joint stock companies with the state share should be rectified. A mechanism of purchasing audit-consulting services through competition process presently turned into purchasing alleged services for symbolic sums of money. Resultant imbalance at the service market makes room for other negative phenomena", - says Doubinsky.

Auditors' march

So far auditors' problems do not have a domineering influence over the market situation in general. By 2007 demand for audit services still showed acceleration trends of the previous year. Audit check-up revenues increased by 36.3% against 34.7% in the previous rating. The build-up should be attributed to increased demand in the area of general and banking audit (see chart 3).

General audit. General audit revenues have increased by 36.4% against previous 34.9%. The first fiddle is still played by big-business oriented companies. Aleksander Erofeev, Rosekspertiza deputy general director, says: "management of large diversified companies does its best to secure unified approach to quality and credibility of financial information. Holdings and their components have developed increased interest in centralized audit services. At the same time such clients select their auditors during competitions with new thoroughness and exactness".

Banking audit. Active progress in financial area, growing popularity of borrowings at the open market and, last not least, intensified control by supervision authorities create favorable conditions for expanding audit operations in banking environment. Altogether the segment revenues have advanced by 40% against the previous 23%. ACGs with banking audit specialty have demonstrated unprecedented growth. Thus, FBK revenues in the sector went up by 65%, Marka Audit - by 93%, Finexpertiza - by incredible 208%.

Banking audit. Active progress in financial area, growing popularity of borrowings at the open market and, last not least, intensified control by supervision authorities create favorable conditions for expanding audit operations in banking environment. Altogether the segment revenues have advanced by 40% against the previous 23%. ACGs with banking audit specialty have demonstrated unprecedented growth. Thus, FBK revenues in the sector went up by 65%, Marka Audit - by 93%, Finexpertiza - by incredible 208%.

Investment and insurance audit. ACG investment and insurance audit revenues are still small in relation to the general market structure and total about one percent each. But investment and insurance companies show sustainable demand for auditors' services. Investment audit revenues last year increased by 38%, insurance audit - 14%.

The stock market race in 2007 was another factor to foster interest in ACG services among investment companies. A number of mutual funds and asset management companies were on the steady rise. "Those involved in investment processes have learnt the importance of transparent reporting and reliable financial information - only such a policy helps to attract interests to different market instruments and to win new clients. Another factor of significance - last year many Russian companies were active enough in placing their shares at the West. It is not done directly, but through Russian investment companies, which requires from the latter IAS reporting. And to prepare such reports you require audit professionals", - says Svetlana Sazonova, Marka Audit deputy general director, describing tendencies at the investment audit market.

Demand for insurance audit services has been actively formed by local and foreign companies in need of foreign and Russian standards' reporting. Total earnings in the sector amounted to 191 mln rubles. According to experts, the insurance market consolidation impacts demand for insurance audit. Sergey Kharitonov, Marillion general director, says: the market concentration will foster competition among insurance auditors. Clients will select the most competent and experienced ones. The tendency is manifest at Marillion: on the one hand, our new audit clients in the past were serviced by the "big four", on the other, we have been receiving orders from companies who left small-size audit companies due to their insufficient competence".

IAS forever

The international element of the audit-consulting market has been showing outstanding growth for a number of years. According to our rating, the 150 ACG revenues increased by more than 1.5 times to amount to 3.2 bln rubles (see chart 4). The former rating characteristically featured similar dynamics. The number of companies providing services in the area expanded by a dozen and turned to be 66.

Demand for IAS services may be attributed to unappeased financial hunger of average-sized regional enterprises and banks in need of borrowings. Without IAS reporting it is ever harder to convince an investor that your acceptable creditworthiness is good enough for lower interest rates. Services of the "big four" audit companies are too expensive for the majority of regional enterprises. But the business is a real golden mine for IAS-related Russian audit-consulting groups.

Baker Tilly Rusaudit general director Evgueny Samoilov says: "Presently most investment banks require IAS reporting from potential issuers of bonds and shares. As a result the market faces enormous growth of reporting-preparation services and IAS-related audit".

Previous year saw more or less similar demand for audit and reporting transformation. In 2007 accents changed a bit. The main driver of the last year growth was mostly demand for transform reporting in line with IAS (see chart 5). ACG revenues were almost doubled and reached 1.1 bln rubles with the lion's share (93%) being transformation reporting in non-financial sector enterprises. 578 clients used such services in 2007 (ACG data). "Post-restructuring newly formed energy enterprises interested in attracting financial resources were in need of such services. IPO-oriented energy enterprises, looking for IAS reporting, were our most interesting clients", - says Nina Dantser from RSM Top-Audit.

The reason for reporting transformation active demand is not limited by new investment projects, buying and selling assets, growing interest in IPO. Economic progress is accompanied by lack of in-house specialists and requires ACG-offered transformation services. Besides, according to Evgueny Samoilov, "if the "big four" companies audit their clients, they gradually disengage themselves from providing reporting-preparation "consulting services" to the same clients. The obvious result is increased demand for transformation services. The market will undoubtedly be there in the mid-term perspective. But numeric growth of IAS knowledgeable specialists would slow down the market development and after a while would bring about its deceleration. The service would be substituted by new products, like instruments of parallel reporting or transformation by internal resources".

Still, main revenues of ACGs come from IAS audit. The segment revenues last year amounted to 1.65 bln rubles, of which 77% came from industrial enterprises - total number of ACG clients reached 777. IAS audited banks in 2007 equaled 400 (ACG data). But the segment auditors' earnings declined to 25% comparing with previous 62%.

As to investment and insurance companies, the number of their clients as well as IAS audit revenues has kept on decelerating. The deceleration main reason is the insurance market consolidation. Still, the share of IAS audit revenues for investment and insurance companies constitutes about 2% in the general IAS services structure.

New wave of consulting

After a turbulent upswing at the beginning of the current century, the consulting services market has been showing a smoother trend. In 2007 consulting activities of the Russian 150 ACGs totaled 22 bln rubles (59% of total revenues of companies in our rating). The sector dynamic development tends to be slower: the increment speed decreased by 3 percentage points comparing with 2006 down to 36%. But a new wave of growth may hit the market in the hear future.

"To my mind, 2007 is a certain "divide". Previously all branches of industry were engaged in powerful consolidation, - says Elena Trubnikova, ACG Finexpertiza managing partner. - Before 2007 the efficiency issues were not much on the agenda. You do not think about efficiency when it is time to conquer the market. Presently consolidation processes show decline trends, since everybody has been more or less consolidated. As of this year the efficiency issues come to the forefront - after all, prices and scale of living in our country quickly catches up with "the developed part of humankind", and it is more and more difficult to compete with foreign companies. My prediction is the market will require enormous amount of consulting services, related to improved efficiency and increased labor productivity".

So far the largest growth is featured by the IT-consulting market.

IT-consulting. ACG incremental revenues in the sector amounted to 67%, with 7% increase of the sector itself. In a way, the growth is attributable to more efficient ACG solutions due to automation of accounting and in-company financial activity - ACGs have accumulated sufficient experience of dealing with clients in the area of standard audit-consulting services. "Nowadays financial-economic activity is inseparable from IT use - well-adjusted technologies of designing and implementing information systems, complemented by experience in audit services and financial consulting, have positive synergetic influence for clients", - says Dmitry Kaplunov, ASBK (Rufaudit-Alliance) director. Besides, large inter-regional holdings secure good demand for IT services. Mikhail Ponomarev, chairman of the board of directors for Energy Consulting - the IT consulting leader in our rating - says: "current restructuring and asset consolidation processes in basic branches of industry open new vistas for business development, especially in the area of consolidated reporting, BI and roll-out projects".

Financial consulting. Financial consulting services secured 3.2 bln rubles for the rating participants. In 2007 the segment lost about 10 percentage points of increment, with annual growth of 40%. Comprehensive financial expert assessment (due diligence) has retained its popularity. Natalya Sapgir, ASK-Consulting partner, says: "verification of financial status of purchased enterprises is still highly demanded. In 2007 our company implemented about 100 projects, related to purchasing pharmacy nets all over Russia. Those complicated projects required profound understanding of retail specificities and operative analysis of possible risks. Often our data on real financial status of a purchased business seriously helped to reduce the cost of sale".

Strategic consulting. In 2007 the strategic consulting market went up by 30% to total 2.2 bln rubles. Business System Development has been consistently in the lead - it implements projects in the framework of the Russia state authorities' administrative reform and is highly demanded in the area of strategic consulting with its revenues doubled. Igor Pikan, Business System Development general director, says about the segment stable demand: "Russian companies merge into holdings, restructure their business and actively attract investments, in line with speedy investment process in the country. Besides, medium-size business, planning to expand its area of activities, is also interested in consulting services".

Tax and legal consulting. The market sectors were in the state of visible deceleration. In 2007 revenues of 150 ACGs in the sectors went up by 21%, comparing to almost 30% in the previous rating. Persistent tax scheming liquidation is followed by reduced demand for tax optimization services. Clients nowadays are mostly interested in unqualified business tax law compliance. A circle of tax clients has also been undergoing changes. "We are now approached by organizations never interested in tax issues in the past or unable to pay for tax-related services. They are mostly budget enterprises with some revenues from entrepreneurial activity, non-commercial organizations, small businesses", - says Natalya Malofeeva, MKPTsN deputy general director.

According to Mikhail Steshev, Mikhailov and Partners general director, the legal service market shows a growing demand for legal expert assessment of investment projects. A check is required for proper procedure of issued shares of an enterprise to be purchased, its real debts and property ownership. "Specialists capable of supporting production process would be steadily demanded. Protection of intellectual property may also be of growing interest to clients", - he concluded.