Auditors Under Fire. In The UK. That Is All.

It seems as if the British are paying closer attention to the audit industry and their complicity in the financial crisis and other failures than the media, legislators and regulators in the US.

Well… there was that blip of interest when the Lehman Bankruptcy Examiner called out Ernst & Young for their malpractice in that colossal failure.

But the stories mentioning Ernst & Young have mostly stopped for now. There were a few floating into my inbox the last few days mentioning EY’s request for a motion to dismiss in some Lehman litigation. Let’s hope there’s no judge in New York who wants to be known as the one who let EY or anyone else involved in that mess off the hook too early and too easily.

It’s not surprising to me that the dialogue about auditor failure during the crisis is loudest in the UK. It was the British – Prem Sikka, Richard Murphy and Dennis Howlett – who first took notice of what I was writing here, three years ago, before anyone else.  They were so surprised to find someone in the US who was free to write so critically.

“In a separate statement, the [Accountant’s Joint Disciplinary Scheme] said the case also gave rise to concerns about the dominance of the Big Four accountancy firms.

The JDS said it had found it difficult to get any expert evidence for its investigation because specialists were confined “almost exclusively” to the Big Four, and because of conflicts of interest, these were unable to comment.”

It is a dialogue. The audit firm leadership in the UK actually talk back and speak their mind. In their own voice, it seems. Sometimes to comic effect.

There are so many corks popping the UK, hitting them in the eyes, audit firm leadership is actually trying to preempt. They’re shaking in their £1000 bespoke leather slip-ons.

Well, not really.

Maybe their bottom lips are quivering a bit in quiet indignation.

Mr Powell, 54, also has plans to continue to grow the business, in particular to double the revenues of the [PwC] consultancy practice against a backdrop of scything cuts in UK and European government spending.

The response of the affable and youthful-looking Mr Powell to this mounting in-tray is softly spoken and mostly diplomatic, although there are flashes of steel, as perhaps expected from the boss of a firm which counts 90 per cent of the FTSE 100 as its clients in one capacity or another across audit, tax and consulting.

He tells the Financial Times in an interview in his offices overlooking the River Thames that it is “time to turn up the heat in the organisation”.

However, on regulatory inquiries he wants a debate. First with Vince Cable, the business secretary, about changing “ground rules” for auditors and then with investors and regulators about the desire for more subjectivity in the audit report.

In what context were the “affable and youthful-looking” Mr. Powell’s comments made, whilst sipping tea in his “offices overlooking the River Thames” ?  PwC is being skewered in the UK press over its complete and utter lack of competence in the JP Morgan “billions in client funds in the wrong accounts” debacle.

Didn’t hear about it?  It’s a British thing.

Mr Powell’s comments come as PwC’s audit practice may face a separate inquiry by the Financial Reporting Council, which oversees auditors, after the Financial Services Authority last week revealed the firm had failed over a seven-year period to spot that JPMorgan had accidentally placed as much as $23bn (£16bn) of client funds into the wrong bank accounts. PwC has declined to comment.

His comments also follow government plans to cut public sector spending on consulting services, an area that contributes up to 40 per cent of PwC’s £450m consulting and advisory business. PwC aims to at least double revenues and staff in its consulting business in the next five years, and has seen “well into double-digit” growth in its UK consulting practice in the past 11 months, Mr Powell said.

Big Four efforts to aggressively expand their consulting practices have attracted some controversy, as they had scaled them back after the Enron crisis amid concerns it could affect the independence of their audit reports.

Indeed. I must say old chap… Getting a little squidgy for you?

Remember, PwC is not only long time auditor for JP Morgan Chase but also Bank of America, AIG, Freddie Mac, Northern Rock, Goldman Sachs and several Madoff feeder funds.  And don’t ever forget Glitnir and Satyam.

How’s that for an all-star lineup of litigation?

Ernst and Young, for its part, had a long, protracted and quite embarrassing run with the Equitable Life litigation.  But as that immortal Brit once said, “All’s well that ends well.”

Ernst & Young’s statement about the official disciplinary investigation into its role in the Equitable Life affair may well lead the casual reader to think it had come away triumphant…It was still fined £500,000 with costs of £2.4m. But it now crows that the most serious allegations – that it lacked objectivity and independence – have been thrown out. The firm also comments that the appeal tribunal took the view that Equitable and E&Y were right to think it “very unlikely” the insurer would lose the court case, and that there was no requirement to disclose a “remote contingency”…It is true that the disaster at Equitable was primarily the doing of its former executives, and that auditors cannot be expected to discover all management folly and incompetence. But shouldn’t any audit firm worth its salt be embarrassed by failing to spot a scandal of this magnitude?

Ernst & Young apologized to the policy holders.  Apologized.   It’s all behind us now. The audit partner in question has since retired.  Just like Bally’s.

Ease of abdication of responsibility by the firms is the lamentable downside of proceedings that take forever and a day to conclude.

In a statement, Ernst & Young said: “Any lessons from our audit of Equitable have long been learned and embedded in our audit systems and procedures. We extend our sympathies to the policyholders of Equitable Life, who have been impacted by the near-collapse of the society, following events which lay well outside of our control and the remit of our role as auditor.”

This fine was handy pocket change for EY and nothing compared to what they face potentially in the Lehman litigation.  It’s only unfortunate for EY it lasted so long and cost them so much in solicitor fees.

So why hasn’t the same contained outrage over the auditors’ role in the crisis and other failures crossed lips like spittle in the US?  Why hasn’t Congress demanded EY or one of the others testify over their role in the crisis? Why hasn’t mainstream media stayed on the story and written about the pile of steaming lawsuits suffocating each and every one of the Big 4 audit firms in the US?

Will the media, regulators and legislators wait until the New Century v. KPMG case finally comes to trial?  I’d better brace myself for the calls from newbie journalists all over again.

Or maybe we’ll putter along with updates as Satyam, Glitnir, Lehman, Anglo Irish and others play out in the courts.

The Deloitte SAP case in Marin County is pretty sexy.  Michael Krigsman rightly calls it a game changer for systems integrators.  Who dares to call a spade a spade and accuse a Big 4 of fraud for the bait and switch which is putting junior folks on a big SAP engagement when you promised experienced ones?

Municipalities hungry for cash, that’s who.

Interesting also given the fact Deloitte is the only real systems integrator of the Big 4.

Maybe the plaintiff’s lawyers for Marin County should take a closer look at the billing.  What you said you’d do and what you did always shows up in the timesheets and the billing.  And when it doesn’t or when it’s fudged, especially in a public sector client case, it’s a really ugly problem.

From Gavin Hinks in Accountancy Age on the EY/Equitable case:

The lesson is this. Incompetence does not mean your objectivity is lost, but the appeal tribunal points out that objectivity could still be lost “unconsciously” if you are not completely on top of your role.

It also concluded that a close relationship with a client doesn’t mean independence is sacrificed either. In fact members of the appeal tribunal conclude that a positive ongoing relationship between auditor and client is desirable.

But remember that it is the appeal that dismissed the independence and objectivity complaint. Well respected and learned men had, in the first tribunal, concluded that these principles were compromised. This means auditors must take care to ensure that their independence and objectivity is always safeguarded and what’s more, demonstrable. This will have to be achieved through systems, structures, documentation and personal conduct. Unless auditors can do that they will always be at risk of being viewed as having compromised the key principles that makes them so valuable.

I can see it now.  The new auditor defense to take the place of, “We were duped.”

“We were unconscious, your honor.”

10 replies
  1. Umair
    Umair says:

    Hi Francine,

    Best article ever,hats off,but court cases are on Big 4 CA/CPA firms along with other multinationals in every other country.It’s the norm of the business,some are due to negligence of auditor for instance JP Morgan & some are due to honest/innocent mistake.I love you article coming in my mail on 8 Jun,the next day to US in this part of the world.

    With Mr.Powell,you are referring to Mr.Ian Powell the PWC UK leader looking after Lehman Brother’s Administration.

  2. Umair
    Umair says:

    Francine your new topic of article,give it a thought.Thank you Umair

    KPMG’s US’ branch is facing a creditor investigation over whether it knew the extent of its client’s, PFF Bancorp Inc’s under-capitalisation, prior to the banking crisis, Reuters reports.

    Creditors of PFF Bancorp filed documents in the US Bankruptcy Court on Monday seeking information from KPMG about the extent of the auditor’s knowledge about the precarious financial position of the bank.

    “Information in KPMG’s possession may support potential claims against third parties and against KPMG itself, if, for example, it becomes apparent that KPMG knew or should have known at an early date of any overly-aggressive or inadequately-controlled loan practices of the (company),” the creditors wrote in the request.

    Creditors will attend a hearing on the matter on June 23.

    Further reading:

    PFF Bancorp creditors seek probe of auditor KPMG

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