The United States regulator of accounting firms said on Thursday that a Big Four firm, Ernst & Young, had been too willing to trust figures supplied by corporate executives instead of evaluating them independently and had failed to improve its procedures even after being instructed to do so.
The audits in question took place in 2009, covering the first year of the credit crisis. The regulator, the Public Company Accounting Oversight Board, did not identify the clients involved.
In nine of the 58 audits reviewed that year, the board said, Ernst “identified a fraud risk†and found a deficiency in the company’s statements. But in each of those cases, “the firm’s procedures did not sufficiently address the identified risk.â€
The report did not say whether any fraud had in fact taken place.
Under the Sarbanes Oxley Act of 2002, which established the board, the board reviews audits by large firms every year and issues a limited public report that does not include board criticisms of the firm’s quality controls.
The accounting industry lobbied hard to prevent those criticisms from being disclosed, fearing they would damage public confidence in audits. Congress provided they would remain secret unless the board determined that the firm had failed to remedy problems within the 12 months after the report was issued.
Ernst became the third member of the Big Four to face such a release after failing to satisfy the board it had made sufficient changes in procedures, joining Deloitte & Touch and PricewaterhouseCoopers. Of the Big Four, only KPMG has not been cited for failing to make needed improvements.
In a statement, Ernst said it had taken “significant remedial actions†in response to the board report, but added, “We recognize we can and will continue to improve.â€
In the report, given to the firm in 2010 but not released to the public until Thursday, the board said its review raised “questions regarding the sufficiency, rigor and efficacy†of the firm’s review of work done by its auditors. “The inspection observations suggest the possibility that more attention needs to be devoted to supervision and review activities in connection with the audits of areas involving a high degree of judgment,†as well as areas subject to management estimates.
That observation could be significant in the current climate as the board considers whether it should require that audit firms disclose the name of the lead auditor on each audit. Accounting firms have generally opposed that suggestion, saying that each firm stands by all of its audits and that all are of similar quality. A decision on the issue of requiring such disclosures is on the board’s agenda for this year, a board official said.
In the report, the board cited seven audits in which Ernst did not do enough work to verify assumptions used by management. “In numerous instances, the inspection team observed that the firm’s support for significant areas of an audit consisted of uncorroborated management’s views.†In some cases, the board said, companies used assumptions that were contrary to past experience, but the auditor accepted them without challenge.
