Sunday, March 13, 2011

Global Audit Firm Settles SEC Action Charging Violation of Independence Rules and PCAOB Standards

A Big Four audit firm settled SEC proceedings charging it with violating Commission independence rules in the provision of non-audit services to two client companies and , with respect to one financial reporting period relating to one company, PCAOB standards. Without admitting or denying the charges, the audit firm agreed to the entry of a cease and desist order and to hire an independent consultant to evaluate whether the firm’s quality controls are implemented in a manner reasonably sufficient under PCAOB standards and SEC rules both to educate and to monitor its personnel with respect to the independence requirements concerning non-audit services. (KPMG Australia, AAER No. 3248, Feb. 28, 2011).

The independent consultant must issue a report within six months recommending procedures reasonably designed to ensure compliance with the education and monitoring of firm personnel with respect to the independence requirements under PCAOB standards and applicable SEC rules concerning non-audit services to audit clients. The audit firm must either adopt the consultant’s recommendations or, if its finds a recommendation overly burdensome, propose an alternative procedure that meets the same objective.

According to the SEC, the audit firm seconded non-tax professional staff to work at each client’s premises under the direction of the client doing the same types of work that the company’s own employees would ordinarily perform in violation of the prohibition in Rule 2¬01(c)(4)(vi) of Regulation S-X against acting as a director, officer, or employee of an audit client, or performing any decision-making, supervisory, or ongoing monitoring function for the audit client. In addition, the audit firm received trailing commissions from an acquired subsidiary of one client company in exchange for the firm’s earlier promotion of the subsidiary’s products prior to the acquisition. These services, said the SEC, violated the prohibition under Rule 2-01(c)(3) of Regulation S-X against direct business relationships with an audit client. Also, overseas subsidiaries of one client company retained a legal practice associated with another member firm of the audit network to provide litigation services in violation of the prohibition under Regulation S-X against acting as an advocate for an audit client.

The SEC said that the provision of these prohibited services came about as a result of failures by the audit firm to take adequate steps both to educate its professional personnel and also to monitor compliance by them with respect to the SEC’s auditor independence requirements or with PCAOB standards. As a result of these failures, noted the Commission, on multiple occasions the audit firm failed to respond appropriately to problematic information concerning non-audit services to the client companies that should have affected the independence determination.

Further, the SEC charged that each time non-independent audit reports were filed with the client companies’ annual reports on Form 20-F, the issuer violated federal securities statutes and rules requiring that those Commission filings include financial statements that were audited by independent accountants. By issuing consents for inclusion of these audit reports in Commission filings, the audit firm bears responsibility for causing all of these reporting violations since it should have known that the non-audit services would cause the companies’ to lack independent audits and thus to violate the reporting provisions.