Ernst & Young halts breakup plan after revolt by US leaders

Ernst & Young has axed its plan for a split of its auditing and consulting arms, marking a dramatic and costly retreat from a proposal that was meant to reshape the accounting profession but ended amid bitter infighting at the firm. 

Global leaders of the Big Four firm said Tuesday they were "stopping work on the project" because the heads of EY’s U.S. arm, the biggest member of the global network, had decided not to move forward, according to a note sent to EY’s 13,000 partners.

Rather than creating two dynamic firms, EY is now left with a potential leadership vacuum, thousands of angry partners, a split between its U.S. and overseas partnerships and confused clients. EY spent more than a year and over $100 million on the effort only to see it upended by a small group of senior U.S. executives.

"This is the beginning of a real period of nastiness," said an EY U.S. partner who favored the deal.

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EY’s global leaders said in the note to partners that they remained committed to the principle of splitting the auditing and consulting businesses. But it isn’t clear how a split could be redesigned in a way that achieves consensus, given the failure of intense negotiations over recent weeks to rescue the deal.

"We thought we had something everyone would sign up to," one person close to the deal said. "This means going back to the drawing board."

The failure of the project marks a humiliating rebuff for Carmine Di Sibio, EY’s global chairman and chief executive, who championed the planned split. Mr. Di Sibio had originally been scheduled to retire in June but was granted a two-year extension to see the proposal through and was nominated to lead the newly created consulting firm.

His plans were undone by a revolt among U.S. audit leaders who complained that the consulting business was getting the bulk of the firm’s lucrative tax business. The auditors, joined by an influential group of retired partners, were concerned that the split would leave the audit business too weak to compete.

EY now faces a potential leadership crisis at the top of the 390,000-person firm. Mr. Di Sibio and EY’s overseas leaders who supported the breakup have lost credibility for failing to deliver on it. Staff members are angry about the uncertainty the plan created and cost cuts imposed on them to boost profitability.

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Julie Boland, the chief of EY’s U.S. arm and a potential leader of the firm, may struggle to command global support. She was due to head the new audit-focused partnership, but was unable to unite her executives behind the breakup plan.

 The split entailed getting approval from partners in dozens of countries and hinged on a complicated plan to raise cash to pay millions of dollars to the audit partners for giving up the consulting business. 

That plan faced headwinds from rising interest rates and volatile markets. EY had planned for the consulting business to borrow billions of dollars and raise billions more from an IPO to pay auditing partners, as well as fund pensions for retired partners. 

Ms. Boland and other U.S. leaders said Tuesday that they would support a breakup at the right time, but also laid out their demands for change, according to a copy of an internal note viewed by The Wall Street Journal. The firm needs to simplify its structure, invest in its most strategic businesses and modernize its governance, the note said. "These actions will also better prepare us to execute on transaction options in the future," it said.

EY’s effort was closely watched in the accounting industry, which has moved aggressively into consulting operations despite potential conflicts of interest. EY hoped to create a template that other leading firms would be forced to follow. Mr. Di Sibio said in December that the firm’s "competitors are jealous in terms of what we’re doing," according to a copy of a webcast viewed by the Journal.

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Instead of creating a model for the future of the profession, EY appears instead to have proved its doubters right. Joe Ucuzoglu, the global chief executive of rival Big Four firm Deloitte, last month said history was littered with examples of proposed transactions that "sounded great [with] pretty slide decks [and] lots of big promises" that never played out as intended.

Rival firms will likely try to poach disaffected EY partners, now that multimillion-dollar bonuses promised under the split appear to have evaporated, according to people familiar with the matter. Cost-cutting to boost profit margins in the U.S. firm, including a suspension of the midyear bonus employees hoped to receive earlier this year, has added to staff frustration, the people said.

Differences over the planned split have riven EY’s U.S. firm, which contributes some 40% of the firm’s $45 billion in annual global revenue, according to people familiar with the matter. Most of the executive committee backed the proposed deal, the people said, but U.S. managing partner Ms. Boland refused to override the objections of a handful of senior audit leaders.

The apparent ability of a few U.S. executives to wreck a deal affecting thousands of partners, in scores of countries, frustrated the global leadership. Mr. Di Sibio told partners this month that the "overwhelming majority" backed the deal and that they had the right to vote on whether to go ahead.

The U.S. leaders in their note also focused on the growing financial challenges to the deal. Tougher economic and market conditions mean the "transaction economics have become challenged," the leaders added, according to their note.

Mr. Di Sibio launched the plan, known as Project Everest, to address a longstanding limitation on the growth of the firm’s consulting business. Many countries prevent firms from doing consulting work for companies they audit. That limited the pool of prospective consulting clients and companies the consulting firm could work with. This was a big issue for EY, which audits most of the large tech companies, meaning they couldn’t join with them on tech consulting contracts.

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"The fact that this deal, as constructed, now seems unlikely to go ahead, doesn’t mean that the thinking that underpinned it was wrong," said Fiona Czerniawska, chief executive of research firm Source. "Clients are still looking for different delivery models, and EY’s specific constraint—the extent to which the firm can partner with big technology firms—remains just as urgent an issue to resolve."

The breakup plan created uncertainty among the thousands of new graduates that EY needs to recruit every year. Jeffrey Johanns, accounting professor at the University of Texas at Austin, said some of his students graduating with master’s degrees in accounting and job offers from EY have been concerned about the implications of the split and its related turmoil. The students hadn’t received start dates at EY, unlike their peers at the other Big Four firms, he said.

Mark Maurer contributed to this article.