“If only it were all so simple! If only there were evil people somewhere insidiously committing evil deeds, and it were necessary only to separate them from the rest of us and destroy them. But the line dividing good and evil cuts through the heart of every human being. And who is willing to destroy a piece of his own heart?”
— Aleksandr I. Solzhenitsyn (The Gulag Archipelago: 1918-1956)
There’s quite a bit of bad news coming out of Russia about PricewaterhouseCoopers and their client Yukos. Former Yukos chief Mikhail Khodorkovsky and his business partner Platon Lebedev stand co-accused in a new trial brought by prosecutors intent on preventing their scheduled release from prison in 2011. Khodorkovsky and Lebedev have decided to target PwC in their defense.
From the official Khodorkovsky And Lebedev Communication Center:
(Yes! Still wealthy by any measure jailed Russian oligarchs can afford dedicated global PR efforts!)
“…as reported in major features published in today’s Wall Street Journal and The Financial Times following separate investigations conducted by both newspapers, PwC appears to have succumbed to a woefully illegal war of intimidation waged against them by Russian authorities who sought to cast doubt on the reliability of the Yukos audits. PwC was subject to police raids, partners were threatened with imprisonment for their work on Yukos, and legal proceedings unrelated to Yukos were lodged by prosecutors against the firm. These problems all disappeared after PwC withdrew its Yukos reporting. A persistent threat echoed by authorities as PwC adamantly defended its Yukos reporting – that the firm’s Russian license could be revoked – has not been raised again since PwC backed down, and Yukos-related investigations into PwC appear to have ceased. The allegedly “new” information received by PwC was not only supplied by the prosecution, but also never independently verified before PwC withdrew their audits.”
The Wall Street Journal makes a double vodka, straight-up, no chaser assessment of PwC’s problem:
PWC’s entanglement in the legal travails of Mr. Khodorkovsky highlights the ethical and legal dilemmas that can face auditors in emerging markets where corporate governance and judicial systems are weak, industry observers say.
The Financial Times wants to talk about truth, as if that’s still the currency global audit firms like PwC actually trade in.
Regardless of where the truth lies, what is emerging is a situation where global audit firms operating in Russia may all be vulnerable to the double jeopardy of auditing the books of notoriously opaque companies, while being regulated by a government able to launch arbitrary attacks. This lose-lose situation could call into question the value of audits that have been hotly sought as a western seal of approval ever since Russian companies began to access international financial markets.
Correspondence between PwC and Yukos, as well as PwC’s own internal memorandums and audit drafts, raises questions over what the audit firm knew and did not know about certain transactions stemming from the late 1990s…
This story has been out there for a while. I started writing about it in March of 2007. That’s more than three years ago! Reports have been open and consistent in saying PwC was pressured.
Moscow raids PwC over Yukos back tax
“Russian investigators raided the Moscow office of PwC on Friday, stepping up pressure on the “big four” audit firm ahead of a crucial court case over allegations that it signed off on false accounts by Yukos, the bankrupt oil company.
About 20 law enforcement officials from the prosecutors’ office and interior ministry combed PwC’s offices for documents relating to Yukos, and questioned senior managers including Mike Kubena, head of PwC in Moscow, the company said. Interior ministry officials also announced they were launching a criminal probe into alleged tax avoidance by PwC in Russia.
The search came as PwC prepared for a court hearing on Monday in a lawsuit filed by Russia’s Federal Tax Service alleging PwC concealed tax evasion by Yukos in 2002-04. PwC denies all the accusations. The pressure against the audit group is seen as a key element in the state campaign against Yukos …Much is at stake for PwC. If found in violation of accounting procedures, it could lose its Russian licence and valuable clients including big state-controlled companies such as Gazprom, the natural gas giant, Sberbank, the savings bank, Russia’s central bank, and Unified Energy System, the electricity monopoly.”
Political contributions, the audit firms’ stock in trade, kept the dogs at bay for a little while.
MOSCOW, April 4, 2007 (RIA Novosti) – “The United States expects Russia to treat U.S. companies doing business in the country fairly, including embattled auditor PricewaterhouseCoopers (PwC), the U.S. Commerce Secretary said Wednesday.
PwC, a respected international auditing firm, has been accused by Moscow city tax officials of helping the bankrupt Yukos oil company evade taxes, and it may as a result lose its operating license in Russia. Carlos Gutierrez, who arrived in Moscow Monday to discuss Russia’s bid to join the World Trade Organization (WTO) and bilateral investment, said after a meeting with Russia’s economics minister, German Gref, that Washington expects any investigation into alleged violations of Russian tax legislation by PwC to be even-handed.
By June of 2007, PwC had caved to the pressure from the Kremlin.
Looks like PwC is claiming the “we were duped” defense. (Do any of my attorney readers know which firm that defends the Big 4 came up with this brilliant strategy – make your client, who makes their money by selling knowledge and expertise, look dumb?)
“PwC has withdrawn its entire set of audit reports over 10 years for the bankrupt Yukos oil group, in a move that marks a significant climbdown by the global audit firm following months of Russian government pressure.
PwC said on Sunday it was withdrawing all its audit reports of Yukos from the years ending 1995 to 2004 becauseRussian prosecutors had unearthed new information that led it to believe statements provided by Yukos management in the past “may not have been accurate”. The sudden about-turn comes after a government pressure campaign that included police raids in March on PwC’s Moscow office and an ongoing criminal investigation into alleged underpayment of taxes by PwC…
“I don’t think anyone is going to believe this is anything other than bowing to pressure from the Kremlin,” said Tim Osborne, managing director of GML, the main shareholder of Yukos. “I’m astonished to see such a complete lack of backbone in an organisation like that.”…
PwC said in its decision to pull the audits was “influenced by the fact that some former shareholders and management of Yukos are continuing to encourage others to rely on PwC’s audit reports”.
It could not say what specific piece of new information had forced it to withdraw the audits for the entire 10-year period. Only Yukos’s liquidator could disclose that information, it said.”
I guess the threat of further legal action changed their mind. PwC is now defending its withdrawal of ten years of audits by willingly discussing all their reasons. Unfortunately, it sounds to me, even given the dubious nature of those making the accusations, that PwC’s reasoning is full of hot air.
Tim Wall commenting 9/9/10 in The Moscow News: Whatever good things international accountancy firms are doing in Russia – and I’m sure there are a few – blowing the whistle on massive corruption isn’t really one of them.
Whether accountancy firms are looking at the books of multinational firms or Russian companies, it would seem inevitable that their tasks would involve defending the interests of those companies and their shareholders. Their less public aims would probably involve dealing with often-corrupt tax officials.
It would also seem logical that these accountancy firms would stop short of asking any awkward questions that might lead to them losing lucrative contracts with the firms they’re auditing.
In other words, they would appear to be operating a “Don’t ask, don’t tell” policy…..So perhaps we should not be that shocked when PwC says its audits probably didn’t accurately reflect Yukos’ finances. It’s just a shame it took them so long to admit it.
I wrote several more pieces about PwC’s Russian angst during 2007 and 2008.
Sitting Ducks June 28, 2007
It saddens me but I must report…I was not surprised to see PwC run away whimpering like a girl in Moscow. My Google Alerts have been beeping all week with commentary regarding their latest about-face. But that coverage has been almost all from media outside the US. It’s as if the US media believe that no one knows or cares about what the firms do outside the US. Do they think that their readers can’t spell Yukos or Russia (or Chuo Aoyama).
Maybe so… This week’s issue of the Economist has a quote by Mark Cheffers of Audit Analytics, who I met in Washington DC at the Compliance Week Conference.
“…PWC’s volte-face seems unlikely to hurt it elsewhere in the world because of its federated structure: Mr Kubena says that the decision to withdraw the audits was the Russian firm’s and entirely appropriate given the new information. Any controversy is likely to be discounted by outside observers as an unfortunate fact of Russian life, particularly where Yukos is concerned. “I doubt events in Russia would have any effect on perceptions of PWC in America,” says Mark Cheffers, boss of Audit Analytics, a research firm. Instead, the likeliest victim of the saga is that normal, functioning economy of which Mr Kubena used to speak.”
Reversal of Fortune for PwC in Russia, July 21, 2007 (Things were looking up for PwC)
Never Say Nyet: PwC and Moscow Update October 4, 2007 (Don’t get comfortable just yet.)
Moscow Tax Guys Swing Their Hammer At PwC October 14, 2007 (What do they want from us? We’ve already withdrawn the audits. Uncle!)
PwC Moscow Still Breathing Barely June 24, 2008 (Finally a bit of a reprieve…)
And then things went quiet, at least on the Russian front. We know now that PwC’s problems were not yet solved. It was not yet “business as usual” in Moscow – if business there was ever anything one could ever call “usual”. However, we’d never know “Da” or “Nyet” in the US. The average US businessperson, regulator, and legislator has no world view of the accounting industry because the US media has very little interest or aptitude for the accounting industry, in general. Until there’s a major lawsuit, there’s very little coverage of the business of the firms and, even then, the interest is short-lived and that coverage typically limited in depth and breadth.
In December 2008, the theater of war for PwC shifted to India as a result of the Satyam scandal.
For the global audit firms, and PwC in this case, it’s the potential for and the reality of sudden conflagrations in developing countries that keeps them up at night. The legal quagmires in developed countries are painful, too. The audit firms’ global networks are loose confederations of independent legal entities tied together only by their greed and the dependence of the less powerful member firms on the more powerful ones through the legal construct called the international coordinating firm. When the lawyers finally get it straight that the member firms are not agents of the international firm but instead the international firm is a sham vehicle used to impose the will of the powerful firms on the less powerful firms, they will have found the key to breaking the industry’s back.
Just look at the hands of “PwC International” (read, PwC US and UK) all over the decision by the partner in Russia to withdraw the audits. From The Wall Street Journal:
At a sixth interrogation on June 4, 2007, prosecutors asked Mr. Miller about PWC’s plans to withdraw its audit opinions for Yukos’s financial statements. Mr. Miller answered that there were active discussions of the issue going on at higher levels of PWC.
In response to a query for this article, a PWC official said the decision to withdraw the audit opinions was made by Mr. Miller and others in PWC’s Russia office.
Prosecutors then walked Mr. Miller through the issues that would later be cited in PWC’s letter withdrawing the audits.
Ten days after the June 4 meeting, the top prosecutor on the case wrote to PWC asking if the audits of Yukos’s financial statements could be relied on. Mr. Miller promptly replied with a letter withdrawing the audit opinions for ten years.
The loss of a major network member firm from regulatory or legal actions – Japan, Russia, Germany, the UK, India, Ireland – would mean the end of these networks as we know it. But will local regulatory and political forces allow it? That’s why these proceedings take so damn long and that’s why we see history repeating itself, over and over, audit failure after audit failure. It’s moral hazard at its highest level.
The opposite occurred with Arthur Andersen. The loss of the US Andersen firm meant all the other AA firms around the world were on their own. They were free to make new alliances in order to to serve their local clients and to participate in the work needed to service multinationals doing business in their country. No more paying tithes to the US. Today, it’s not the US firms that are most seriously threatened with extinction – although there are significant threats such as to EY with regard to Lehman. The larger threat is to one or several of the large member firms outside of the US as a result of scandals such as Satyam and Yukos.
Main page image from a review of the movie Reds starring Warren Beatty and Diane Keaton. The review was published as Remembering a Red From Reds By Jeff Kisseloff on March 5, 2009 in The nation. The image and review come to us via The Rag Blog.