Firms in trouble

Most big name firms found themselves under investigation during 2002. Liz Fisher rounds up a year of fines and investigations

No-one could have predicted at the beginning of 2002 what an effect the collapse of Enron would have on the profession. What began as a relatively innocuous inquiry by the House of Representatives led within months to the demise of one of the best recognised auditors in the world.

And it soon became clear that the entire profession was under investigation and not, it seemed, without cause. WorldCom and Equitable Life followed quickly, adding to the seemingly terminal decline in the profession's reputation.

But is it as bad as it seems? Lawsuits against auditors and accountants have hit the headlines since the beginning of the year, but it is difficult to separate the genuine cases of negligence and fraud from the swathes of panic-induced investigations and speculative suits.

Many of the cases we have covered in Accountancy's pages during the year will never reach court.

Some may prove to be completely unfounded - it has to be said that never have accountants' complaints about 'deep-pocket' claims seemed more pertinent. A rush of claims followed quickly in the weeks and months after Enron, prompting an Andersen spokesman to dismiss one claim as 'really outrageous, even in this season of blaming the auditors'.

Even so, the year began relatively quietly, apart from the small matter of a US House of Representatives' review of the collapse of Enron and the role that may have been played by its auditor, Andersen.

In the UK the accountants' Joint Disciplinary Scheme (JDS) revived memories of past incidents when it fined Stoy Hayward, former auditors of Polly Peck International, £75,000 and ordered it to contribute £250,000 towards costs.

In January we reported that PricewaterhouseCoopers had resigned as auditor to the online entertainment business The company's share priced crashed by 90% after it emerged that its £1.82m revenue for the 23 months to 30 June 2000 was overstated by £1.69m. An investor group argued that PwC should have picked up on falsifications in company-records when it acted as reporting accountant in the company's IPO.

Barings trouble for Coopers

In April the JDS popped up again to reduce the fine imposed on Coopers & Lybrand over its work for Barings Bank from £1m (the fine imposed by the original investigation in June 2000) to £250,000 on appeal. The firm was asked to pay £635,000 in total towards the cost of the original investigation and the appeal. At the same time, the fine imposed on Gareth Davies, Coopers' engagement partner for Barings, was reduced from £65,000 to £25,000, but he was ordered to pay £40,000 towards costs. Complaints against another engagement partner, Andrew Turner, were dismissed.

The report does not make it entirely clear why the tribunal decided to cut the fines so drastically, although it agreed with C&L's Counsel that the JDS tribunal had given 'insufficient reasons for the penalties'. PwC says that the appeal tribunal 'has confirmed that C&L could not have prevented the collapse of Barings'.

Things really got going in May, though. PwC was accused of making 'false and misleading' audit conclusions at Russian gas monopoly Gazprom. Gazprom shareholder the Hermitage Fund - Russia's largest investment fund - launched a series of lawsuits against PwC for allegedly approving dubious deals which it claims resulted in the loss of billions of dollars of assets. Hermitage also filed an appeal with the Russian Ministry of Finance to suspend PwC's audit licence. Hermitage's CEO William Browder said that the purpose of the lawsuits was 'not only to create consequences for PwC but to send a message to the entire audit industry in Russia that they are required to present accurate and reliable information and conclusions to all interested parties regardless of the wishes of company management'. PwC said the claims were 'completely unfounded'.

Andersen discomfort grows

Life was getting more and more uncomfortable for Andersen, too. Andersen UK was added to a class action lawsuit filed by the University of California, which is acting as the lead plaintiff for Enron investors. UK managing partner John Ormerod says the claim 'has no legal basis'. There were also reports that the US Securities and Exchange Commission (SEC) was investigating Andersen's role as auditor of the insolvent telecommunications company Global Crossing in the US, and particularly the company's network capacity swaps made with competitors. Global Crossing's former chief executive says that the swaps were fully disclosed to investors and had the approval of the company's auditors, but it also emerges that the SEC is also reviewing the accounting methods of two other AA telecommunications companies - WorldCom and Qwest Communications.

In the same month we reported that Xerox had agreed to pay a $10m civil penalty and to restate its 1997 to 2000 accounts following an investigation by the SEC. An SEC report says the company used 'accounting tricks to achieve earnings targets it otherwise could not have met'. KPMG, which refused to sign the company's 2000 accounts and was terminated as auditor in 2001, is told by the SEC that it could face an investigation. The firm says that 'the fact that the SEC would even contemplate a proceeding [against the firm] is incomprehensible to us'.

Equitable Life

All eyes turned to Ernst & Young for a moment when Equitable Life filed a suit against its former auditor for up to £2.6bn in damages for alleged negligence. The insurer had come close to collapse after losing a legal battle over guaranteed annuity rates.

The respite for Andersen was short, though, for the following month we reported that the firm had settled with the bankrupt Baptist Foundation of Arizona without admitting or denying any fault. The firm had previously agreed to pay $217m to the BFA but its insurer would not approve the payment. Andersen argues that it should not have been held responsible for the BFA's collapse and that investors were the victims of a massive fraud.

In July irony abounded as KPMG, which replaced Andersen as auditor of Peregrine Systems, was fired from the audit on independence grounds after just two months when Peregrine alleged that $35m of 'questionable transactions' within the company related to sales to KPMG Consulting. At the same time it emerged that another Andersen client, the energy group Halliburton, was being investigated by the SEC.

The lawyers went on holiday over the summer, which left just PwC in the spotlight when it was fined $5m by the SEC for violating auditor independence rules with 16 of its audit clients. But by October the lawyers were back and Peregrine Systems announced that it intended to sue Andersen for $1bn after discovering inflated revenues that required a $1.5bn restatement to its accounts. Peregrine accuses Andersen of fraud, negligence and a failure in its auditing and accounting duties. An Andersen spokesman says the suit 'looks, smells and tastes like a hysterical board of directors looking for a scapegoat'.

And so we end the year a Big Four rather than Five and one of the remaining firms under the shadow of a potentially crippling lawsuit. Whether many of these lawsuits are genuinely deserved or simply a case of opportunism, though, remains to be seen.

ICAEW disciplinary reports

If digested in one sitting, the monthly reports from the ICAEW's Disciplinary and Investigations Committees make alarming reading, with members fined, reprimanded and on occasion excluded from the institute's membership for a variety of offences. The list of transgressions ranges from practising without a licence or failing to file accounts within regulatory deadlines to more serious cases. The majority of members who were excluded during the year were first disqualified as company directors.

Financial Reporting Review Cases

The panel completed two cases during the year: ! In February, it announced that the property group Liberty International (a PwC audit client) had agreed to restate its accounts to 31 December 2000 and make some additional disclosures following discussions over the accounting treatment of its acquisition of the minority interest of shares in a 75% owned subsidiary, Capital Shopping Centres.

FRS 2 says that the assets and liabilities of the subsidiary should be revalued at fair value and the resulting goodwill accounted for under FRS 10. Liberty had treated the purchase as an acquisition of a portfolio of property assets rather than a trading business, with the result that no goodwill had arisen. The Panel accepted the company's view that the accounting treatment it adopted was the result of special circumstances, which justified the use of the true and fair override.

In July, the media group Equator (a BDO Stoy Hayward audit client) agreed to alter its accounting policies following discussions with the panel. The issue in question was the company's accounting for a film library acquired during its purchase of Equator Films Ltd.

The library's value, revalued at £13.2m at the time of the acquisition and under the company's policies, was not amortised under the company's policy but was subject to an impairment review at least annually. The panel felt that the films should be amortised without regard to any estimate of residual values. The company adjusted its valuations by £181,000 but said later that neither it nor its auditors 'agreed with [the panel's] views and believe that the manner in which the accounts were formerly prepared presented the financial position fairly and accurately'.

Firms under fire

It's not an exact science (rather like auditing) but we thought it might be interesting to tally up the number of times the larger firms have appeared in our pages in the context of litigation or disciplinary investigations during 2002 giving one point for each particular case, however many times it is mentioned. Surprisingly, Andersen does not win the trophy outright, in spite of its cataclysmic year. PwC ties the honours with Andersen with six cases each, followed closely by Deloitte & Touche with four.

Joint Disciplinary Scheme - on-going cases
Firm under investigation Subject of inquiry
Price Waterhouse BCCI
Erdal & Co Polly Peck
Arthur Andersen Wickes & Co
Bird Luckin Queens Moat Houses
Touche Ross/Deloitte & Touche Capital Corporation
Nunn Hayward Versailles Group
PricewaterhouseCoopers Transtec
Deloitte & Touche Semple Cochrane
Ernst & Young Equitable Life
HLB Kidsons Wiggins Group
Arthur Andersen London International Group and SSL International plc
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