FRC fines KPMG £3m over ethical failures at Ted Baker

The Financial Reporting Council (FRC) has fined KPMG £3m and issued a severe reprimand for ethical failures in its auditing of fashion retailer Ted Baker, while Michael Barradell, senior statutory auditor and audit engagement partner, has been given a reprimand and a fine of £80,000

Both the firm and Barradell, who is a member of ICAEW, have admitted misconduct in relation to the audits of the financial statements of Ted Baker and No Ordinary Designer Label Ltd for the financial years ended 26 January 2013 and 25 January 2014.

This arose from KPMG providing expert witness services to Ted Baker in a commercial court claim, which a two-year investigation by the FRC concluded was in breach of the ethical standards and led to the loss of KPMG’s independence in respect of the audits.

The Ted Baker Group was a longstanding audit client of KPMG, which had audited the group since 2000, and continues to do so. In June 2012, solicitors acting for Ted Baker in a civil claim that had been brought against its insurers contacted KPMG’s forensic department, with a view to KPMG providing expert evidence as to the quantum of Ted Baker’s claim. The size of the claim was material to the Ted Baker Group’s financial results.

The FRC said there was a risk, which occurred, that the audit team would review the work of the expert when auditing Ted Baker’s treatment of the claim in its accounts and this posed an unacceptable self-review threat. 

In addition, there was a self-interest threat arising from the fact that the fees for the expert engagement significantly exceeded the audit fees in the relevant years, which KPMG and Barradell also failed properly to consider. The executive counsel did not allege that KPMG or Mr Barradell in fact lacked objectivity or integrity.

In its particulars of fact report, the FRC stated: ‘Having reached the wrong conclusion at the outset of the engagement, the respondents’ failings were compounded by their failure subsequently to appreciate that, during the audits of the Ted Baker Group’s FY13 and FY14 financial statements, the self-review threat had in fact transpired such that KPMG was re-evaluating its own work.

‘The self-review threat that eventuated related both: (i) to the disclosure of the loss of profit claim; and (ii) as to how Ted Baker’s management elected to account for its legal costs.

‘In those circumstances, the respondents failed to conclude, as they should have done, that KPMG had lost its independence, since it was probable that a reasonable and informed third party would conclude that KPMG’s objectivity either was impaired or was likely to be impaired.’

In addition, KPMG originally estimated the fees for providing the expert services would be within a range of £10,000 to £100,000. In the event, the unusual demands of the litigation meant the work expanded significantly, with the result that the fees eventually totalled £952,000.

In total, KPMG received £1.3m in fees for non-audit services from Ted Baker over three financial years from FY13 to FY15 (including £952,000 in fees for KPMG Forensic), significantly exceeding its audit fees in the same period of £434,000.

KPMG and Barradell admitted that their conduct fell significantly short of the standards reasonably to be expected of a member and a member firm and that they failed to act in accordance with the ICAEW’s fundamental principle of professional competence and due care.

Their admissions of misconduct were reflected in the settlement terms, with KPMG’s fine discounted to £2.1m. The firm will also pay £112,000 in respect of the entirety of the executive counsel’s costs. Barradell’s fine was reduced to £46,800 after adjustment for mitigating factors and a discount for settlement.

Claudia Mortimore, interim executive counsel at the FRC, said: ‘Ethical standards are critical in supporting the confidence that third party users can reasonably have in financial statements in circumstances where, of necessity, they only have incomplete information to judge whether the auditor is in fact objective.

‘Where those standards are breached such that the auditor’s independence is lost, user confidence is likely to be undermined; the FRC makes clear by these sanctions the seriousness with which such breaches and their consequences are viewed.’

In a statement, KPMG said: ‘We are committed to upholding the highest standards of independence and regret that in this instance our processes fell short of the standards that we expect of our firm.

‘We welcome the FRC making clear that they do not allege a lack of integrity or objectivity on KPMG’s part and we note that our audit opinions on Ted Baker’s financial statements have not been called into question.’

KPMG and Michael Barradell – particulars of fact and acts of misconduct is here

KPMG and Michael Barradell – settlement agreement is here

Report by Pat Sweet

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